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Tax Implications of Being a Real Estate Dealer vs. a Real Estate Investor


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There is a huge incentive to stay a real estate investor and not be classified as a  real estate dealer. The main issue is the multiple income tax consequences. Real Estate Investors are taxed much more favorably than Real Estate Dealers and receive several tax benefits, including:

·      Depreciation of a capital asset (the investment property).

·      Tax Deductions on real estate investment-related expenses.

·      Opportunity to participate in tax-deferred 1031 Exchanges (at least for now).

·      Ability to sell properties using an installment sale contract

·      Long term Capital Gains on the sale of properties held over a year which is around 15% to 20%. Verses the infamous Short Term Capital Gains.

·      Opportunity to offset passive and earned income with passive losses.

Real Estate owned by a dealer is not seen as a capital asset. Because of this real estate dealers are unable to depreciate the asset. Additionally, the gains made from real estate transactions are taxed as ordinary income, which is subject to higher income tax rates than long-term capital gains (up to 39%). 

This means the dealer may be subject to paying not only self-employment tax of 15.3% (FICA) but also ordinary taxes on their profits as long as the property is not held in a business entity like and LLC. Dealers d have one positive tax advantage: Their gains are considered ordinary, meaning they can use any losses to offset the gains.

 

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