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Taxes on Flipping Houses Explained

Jerry Norton

Aug 8, 2024

What’s so unique about real estate investing is that there are multiple strategies that you can utilize for income, whether active or passive.

What’s so unique about real estate investing is that there are multiple strategies that you can utilize for income, whether active or passive. If you don’t want to be a landlord, or owning and maintaining rental properties, flipping houses can be just as profitable.

Flipping houses does come with its share of renovation expenses, and many beginner and even experienced house flippers often overlook one added expense: taxes. 

If you flip a house, do you have to pay taxes? If so, how much tax do you have to pay?

Is there anything you can do to reduce your tax bill flipping houses?

In this article, we’ll break down everything you need to know about the taxes associated with flipping houses so that you can ensure no expense is overlooked in your house flipping business. 

How Do Taxes on Flipping Houses Work?

Before flipping a home, it is critical to understand that yes, taxes exist on flipped houses. 

By doing so, you can have a more clear picture of the return on investment you will earn on the deal. 

So, how exactly do taxes on flipped houses work? 

Real estate is a capital asset.

Once you understand that real estate — no matter what form — is a capital asset, you are well on your way to understanding house flipping taxes. 

The sale of a home can qualify you for preferential capital gain tax rates. 

What are capital gains?

Capital gains are the difference between what you paid for the home and what you sold it for. 

If the sale is more than what you purchased, a capital gain exists. 

However, when you flip homes, this situation may not always be the case.

Typically, if you purchase a property to “flip” to sell at a later date for a profit, that profit is liable to be taxed under the capital gains rules. 

If you happen to live in this property for more than 2 years before the 5-year period before you sell the home, you may be eligible to remove the gain from any form of taxation — this is considered a “special rule”. 

Note that the IRS is aware that real estate investors purchase homes to flip and sell for profit. 

This means that they classify them as “dealers” versus “investors” and the property is treated as “inventory” versus a “capital asset”. 

As a result, any profit acquired in the sale of the flipped home is considered income, and therefore, subject to self-employment tax of 15.3%. 

Short-term capital gains

If you acquire and hold the property for less than one year — for example, if you flip a home in a few months and are looking to sell it immediately — your profit after the sale of the home does not receive any special treatment. 

Short-term capital gains will be subject to being taxed as ordinary — or regular — income and its affiliated income tax rates. 

Depending upon your overall income for the year, this can range from 10% to as high as 37%.

It will not matter if you are defined as a dealer or an investor.

Long-term capital gains

If you acquire and hold the property for more than a year and are not considered a dealer by the IRS, the money you make after the flip and the sale is subject to being taxed at the long-term capital gain rates. 

The rates of long-term fall between 0% and 20%.

Depending upon your particular tax situation, this can reap more benefits than short-term capital gains. 

While you will not be selling the house and earning a profit immediately, keep in mind this option does save you money tax-wise. 

Again, choosing between short or long term capital gains will all depend upon the goals you have for your flip and our overall real estate business.

Do Tax Deductions Exist When Flipping Homes? 

Yes, there are several tax deductions that you take advantage of when flipping homes. 

Since this is considered a business and viewed by the IRS as inventory and not capital assets, you will likely spend a large amount on expenses before the sale of the home. 

If you operate your flipping homes operation as a business, you may legally be able to lower your tax obligation and grab onto tax deductions that reduce what you owe.

Note that not all expenses paid for the active house flip may be deductible. 

Two categories exist where your expenses will fall: capitalized — any addition, and the basis — or the original value of the property.

The following can be considered capitalized costs:

  • The cost of the property
  • Labor
  • Utilities
  • Materials
  • Indirect labor
  • Insurance equipment depreciation
  • real estate taxes for each project
  • Production period interest
  • And more

After all is complete with the project and documentation is gathered, you may receive a tax benefit from the aforementioned expenses after the sale of the property. 

This taxable gain — or your tax liability — is reduced from the cost of the basis of the real estate.

Bottom Line: Taxes on Flipping Houses

When you’re flipping a home, you don’t want to overlook any aspect with the renovation — especially taxes. 

While you do have to pay taxes, there are circumstances — like tax deductions — that you can utilize to reduce that tax bill. 

Remember that there are benefits to both flipping the home in under a year as well as waiting for a year to pass — and choosing one will come down to your overall real estate investing strategy.  

If flipping homes is your business, the IRS will see you as either a dealer or an investor. 

Knowing the difference between the two can help save you money and reduce tax liabilities, leaving you with more money in your pocket that can go towards your next real estate deal.