First flip goes great!

[Will Lenz]

Investment Info:

Single-family residence fix & flip investment.

Purchase price: $215,000
Cash invested: $50,000
Sale price: $349,999

My wife and I purchased the home from a friend whose dementia escalated quickly and she had to move out of the state suddenly to be near family. The house was a mess. I ran numbers using the BP calculator and saw potential in the home, hoping to profit 10% of the sale price.

I completed much of the rehab myself, but did sub out flooring, minisplit install, roof repair, and painting. Rehab was completed in just over three months and we had an offer at asking price we gratefully accepted.

What made you interested in investing in this type of deal?

There was a lot of potential hidden underneath 30 years of built up stuff in the home in a decent neighborhood. I also have been working for a GC to remodel other peoples kitchens and bathrooms and would ideally be my own boss/ run the project how I want. Through work I also have a good team of subs to call on.

How did you find this deal and how did you negotiate it?

The past owner was in our church choir with my wife. She had dementia and we negotiated with her sister. We first helped with light clean up, sent belongings to her and had an estate sale. When she mentioned needed to sell, we got our act together and wrote what we thought was our best offer. When she didn't accept the first offer I turned to reflection and prayer and decided we could cut out/ simplify some parts of the rehab and wrote a second offer at about 20k higher which she accepted.

How did you finance this deal?

Private loan from a family friend. They loaned 250k at 5.5% interest. Our rehab needed an additional 15k that we funded.

How did you add value to the deal?

Removing junk! So much garbage in the home and back yard. We had 6 dump trucks take away stuff the first day. Kitchen remodel also added a ton of value. Painting, new flooring, new minisplit, new base and just updating the 1950's home also were huge boosts.

What was the outcome?

Property sold for more roughly 15k more than originally planned! We had a full price offer after one day that we accepted. Even though the difference in sale price to purchase price + rehab was about 90k, after all closing costs, real estate fees and taxes profit was right around 40k.

Lessons learned? Challenges?

As it was my first flip I was unaware of how we would be taxed. We had a CA tax for ordinary income that was I was aware of but not exactly sure how it would work out. We chose to be taxed 12.3% of the gain instead of 3% of the the sale price that was pulled out in the closing. There is also a federal tax for short term gains that we have set aside that we believe will be at our standard tax rate (will find out in April of 2023).

Looking forward to our next one!

Did you work with any real estate professionals (agents, lenders, etc.) that you'd recommend to others?

Claire Guillen of Leaders Realty was great!

[Linda Weygant]

Quote from @Sean Kelly-Rand:

@Will Lenz and @Kyle Spearin - I learned the hard way about tax implications of flips: To be clear this is just my experience I'm not a tax pro.

1. It's short-term capital gains - so in high tax states like MA and CA it could be 40%+ depending on your income bracket (or its ordinary income, depending on your classification).

2. To make it worse, if it's a condo conversion you could hold it for a decade and then decide to do a condo conversion... it's short-term capital gains as you only owned the condos for under a year...that hit me hard...

3. Current strategy is if we have a condo conversion, we convert, rent for a year, and then sell later... doesn't always work with market timing (i.e. may be better to take the hit) however in a high tax state its very worthwhile to run the numbers.

For larger projects there are more sophisticated strategies and its worthwhile to get a specialist accountant involved (basically possible to sell the land into the new development and higher basis).

Your understanding of the tax implications are not quite correct.

Flips are a business, not an investment.  Therefore, they are ordinary income, subject to self employment tax as well as income tax.  They are not capital gains (short or long term)