What is the IRS definition of a flip

[Pat Reilly]

I'm unclear on this and have not found a definitive answer through google searches. The IRS allows you to buy real estate with your IRA, with some very specific rules for doing this. However there is one rule which says that you cannot flip property, and I can't find a definition for this. So if I buy a property how long do I have to rent it out before I can sell it and it is not considered a flip? For example, if I buy, rehab, and rent for 3 months then sell, is that considered a flip (or not) by the IRS?

[Brian Eastman]

@Pat Reilly

You are mistaken in your understanding of the rules.

The IRS does not prohibit an IRA from investing in a transaction that would be considered a flip. The issue is that flip transactions are considered a trade or business activity, and if a tax exempt entity like an IRA engages in a business on a regular or repeated basis, then there is a tax known as UBIT that applies to the gains from such business income. The tax is meant to level the playing field so we do not have tax exempt entities driving taxpaying businesses right out of business.

A flip is a transaction where the real property is purchased with the intent of being resold.  The real property is not held for passive income or long term appreciation, but rather is treated as inventory in the course of a sales business.  There is no specific guidance as to timing, and one does not need to fix up a house for it to be considered a flip.

By contrast, property that is held to produce passive income such as rents is considered a passive investment asset. When you sell a rental property at some point in the future (at least a year out), this is not viewed as a flip transaction, but rather just a reallocation of the IRA from holding passive real estate to holding cash.

Your example of buy, fix, rent for 3 months, then sell would likely be viewed as a flip, especially if you repeated this pattern with multiple properties.

The IRS does not define a "flip" in clear terms, but has a full set of measures they would apply to real estate transactions to determine whether something is a passive investment or a trade or business activity similar to competing commercial enterprises.  This might include things like intent at the time of purchase, time held, whether a property was marketed for sale, frequency of such transactions, whether you are personally flipping houses separate from the plan, etc.

If your IRA is flipping properties on a regular basis, then you will surely want to speak with your licensed tax advisor to be sure you understand the ramifications of UBIT taxation, and whether this tax on the gains from flipping will still leave your IRA with better returns than other options, or if you might need to look at different strategies for the IRA such as long term rentals or hard money lending.