Re: Rehab, Refinancing, What would you do? - Posted by Ronald * Starr(in No CA)
Posted by Ronald * Starr(in No CA) on August 26, 2003 at 04:35:36:
David-------------
Partly I don’t understand what you are saying. And partly you don’t understand the tax laws related to rehabs.
I don’t understand what you are trying to say when you say: “After starting my investement will be 150% - 200% of the total cost which I will have all payed off.” Also, “…how long does it take for the vendee’s to money to count as my earned income that offsets this mortgage.”
Now you have to distinguish between real estate investing and making money with real estate. There are no tax breaks for quick resell profit-making with real estate–which I call “real estate merchandising” to distinguish it from “investing,” which is defined by the tax code.
“I can sell and eat capital gains…?” No. You would pay ordinary income tax on the profit. You only will pay capital gains tax if you hold the property long term as an investment. How long? There is nothing in the tax code to tell. Some tax adviser suggest over one year, some suggest over two years, some suggest that the purchase and sale be in two different tax years. It is a matter of the conservativeness/aggressiveness of the adviser. I’m pretty sure that if you hold for at least five years you will not be challenged by the IRS as being short-term.
“I can 1031 … .” No again. Same thing as capital gains. The 1031 exchange is reserved for real estate investing, not for quick turnover profit making.
Similarly, you cannot elect to do “installment sale” tax treatment of income for the sale of a rehab property. That is also only for real estate investing. That means that you would have to pay ordinary income taxes on the full gain in the tax year of the sale of the property, even if you get only a portion of the sale price each year because you carried back a loan to help the sale.
I do not do very many rehabs and then resell quickly. Mostly I hold for the long term. So it is hard for me to tell you what to do.
I’d suggest you have two choices: hold for long term rental or else resell as soon as you can, take the ordinary income hit and then invest in other properties. This is why so many rehabbers want at least $15k or $20K profit on shortterm hold properties. They have to pay the taxes and really only get what is left over after that.
Another possibility is to have the sellers provide longer-term financing for you. Maybe for 5-7 years. Then, when the property is in good condition, you hold it as a rental and get a second loan secured the property. Or even a first loan, paying off the seller-carry. In which case it is always well to ask for a discount off the face amount.
I think that there are lenders who will provide a loan without “seasoning” provided you document the increased value due to the rehab. With “before” and “after” pictures, receipts for major material purchases, the payroll for the workers, etc.
Good investingRon Starr**********