Tax question for flip house with sweat equity partner

[Shaun Wilson]

Hoping someone might be able to suggest ways to solve the following tax question:

My business partner and I have an LLC that we have bought a rental duplex, with the aim to buy several more. In order to build cash reserves for next rental down payment we are doing the flip strategy.

We closed on a single family property last November in the name of our LLC and we were intending to use a contractor for the carpentry. But my partner knew a guy who was interested in doing all the carpentry for "free" in return for a percentage of the profits after all rehab, carrying and closing costs were paid. It has worked out well as this builder does very high quality work and the property in is in a good neighborhood in a great market. We should come out with about $70-80k profit. However, our challenge now lies in how to to make sure we close on this properly so that we have the lowest tax burden possible - both my partner and I (in the LLC, as we build a reserve for more flip properties or rental properties) and our sweat equity partner (who really doesn't want to be paying income and self-employment tax, etc.)

1. Could we potentially roll this into a 1031 exchange (including our sweat equity partner rolling his share so that he isn't facing a large income tax on the work on this property)?

2. Could the profit be considered capital gains since the intent was for this to be an investment from the get-go?

3. Does anyone have any other ideas that might work well in this scenario?

Thanks!