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Tax consequences of flipping real estate

If you're looking to turn a quick buck on a real-estate transaction, accountant Bill Rucci has some words of warning: "It may be quick, but it also may not be as lucrative as you first thought."

As housing prices in many parts of the United States skyrocketed, "flipping" -- buying a property and then quickly reselling it at a higher price -- has become the hottest investment trend.

Many people view it as more lucrative than the stock market. Plus, flippers enjoy the tangible aspect of the deal. Since real estate is "real," you can look at a property and neighborhood and get a personal take on whether or not it's a good investment.

But if you're not careful with your real estate flips, your investment strategy could produce a sizable payoff for an unintended partner: the Internal Revenue Service.

Real estate tax confusion
Rucci, a CPA and partner in the Boston-based accounting firm Rucci, Bardaro and Barrett, says that many of today's real estate investors go into the transactions completely uninformed.

"There is a huge misconception on the part of some people who think they can buy a residential home, not necessarily their personal residence, fix it up and then sell it; and then get what we used to call 'the old rollover provisions,' where you used the money you made to buy another piece of property for more than what you sold," says Rucci.

But, says Rucci, there are two problems with that approach. "One, that rule existed for personal residences only; and two, it doesn't exist anymore."

The rollover rule was replaced in 1997 by the current law that allows, in many cases, for the tax-free sale of a personal property. This is a great tax break if you're selling your primary residence after having lived in it for several years, but it does nothing for you, taxwise, if you're selling a house in which you have never lived. In this case, the residence is an investment property, and the tax considerations are completely different and definitely more costly.

High expectations, higher taxes
Just as costly is the mind-set of many real-estate speculators.

"We have tens of thousands of people getting into real estate. There's a gold-rush mentality that, 'If I invest in condos, I'll make money,'" says Mark Zilbert, a Realtor and real estate broker whose Zilbert Realty Group has created an offshoot, CondoFlip, to tap the soaring, Miami marketplace where his company is based.

"The majority of buyers understand that they can flip for a profit, understand what it means dollarwise, but they don't understand that taxes could reduce just how much of a profit they make," says Zilbert.

Lonnie Davis, a CPA with the Philadelphia office of CBIZ Accounting, Tax and Advisory Services, agrees.

"The biggest issue with the real estate market, with the boom and prices rising very quickly, is that people want to capitalize on their gains, to take the money and run, so to speak," says Davis.

Invest in patience as well as properties
Instead of running, a tax-smart flipper could benefit from a slightly slower investment pace.

 
 
Next: "There's going to be a wake-up call."
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