Posted by JPiper on January 15, 2000 at 11:00:51:
I don?t know the exact IRS cite to give you. Some of the other people here undoubtedly do, and perhaps if they see the post here will give it to you.
But according to my CPA, the definition of a dealer is one who buys and sells real estate as a business. HOWEVER, the IRS does not define the number of transactions necessary to become classified as a dealer. Rather, it is a status that is determined by the IRS, based on your INTENT.
INTENT would be established by looking at the factors surrounding what you do. One of those factors would be how long you owned the property. According to my CPA, two years is the preferred holding period for convincing the IRS your property is an investment property?.particularly when you are also involved in dealer activities. He had even given me a private letter ruling number which I?ve posted here in the past?and which I cannot find now?.but the holding period in that ruling was 2 years. I?ve seen others who claim that 1 year is sufficient. The fact though is that they base the decision on intent, so that in general the longer you hold property the better.
Another factor would be how many transactions you have per year. They don?t say how many would put you over the line?.again, it?s a question of intent and this is just one of the factors. Probably if you do one or two a year you?re not going to have a problem?BUT, again, it does depend on intent and what the IRS determines.
A third factor would be what other business or occupation you?re involved in. Clearly, if this is not a business you would presumably have some other occupation.
In connection with the above they would undoubtedly look at the size of the profits versus your earnings at that other occupation. A huge disparity in favor of real estate would clearly work against you in terms of your intent.
Let?s say you have a corporation that you do flips/rehabs in?and the name of the corporations is Rehabs Unlimited, Inc. Do you suppose the IRS would draw any conclusions from the name alone? In my case my corporations have relatively obvious names?so that I think they work against my tax status.
But again, as with many other issues, this issue is not clearly defined by the IRS?.it?s going to be decided based on what they perceive your intent to be. And, as mentioned above, they don?t one day ?peg? you as a dealer, and then thereafter you pay tax as a dealer. It isn?t a game where they have to catch you. If they happen to audit you for some reason, determine you are a dealer, they will calculate the tax you should have paid, levy interest and penalties?and may even take a look at prior years. If you were doing these deals personally, and therefore you were liable for self-employment tax, that?s a large tax each year that would be due, and would have interest and penalties associated with it. There?s a big risk to gamble with this one.
In your case hopefully your tax person has carefully considered some of these issues before using Schedule D. Again, one of the advantages of Schedule D is that no self-employment tax was paid. If you were a dealer this tax should have been paid?.and if I recollect you mentioned in a prior post that you had been rehabbing full time for the last 3 years. I would have a detailed conversation with your tax person regarding this issue?.it?s an important one.
Most people claim that a corporation is preferable for rehabbing. I would think that you could use an LLC. HOWEVER, if you use the LLC you need to select the option of paying tax corporately?.otherwise you just shot yourself in the foot regarding the self-employment tax issue. Make sure you require your tax expert to THINK about some of these issues as they apply to you personally as a rehabber. Better yet, take a look at some of Bronchick?s articles on the subject published on this site.