Free 1031 Exchange Hotline: 877-471-1031

Notes from Leonard, Your 1031 Guy

As we near the tax filing deadline, one thing to keep in mind is whether you qualify as a "full time real estate professional".  As we mentioned in our February newsletter, full time real estate professionals can use passive losses to offset ordinary income.  This is good news, as it can help minimize your tax liability.  

If you work in the real estate industry, it's worth a discussion with your CPA to see if you qualify.  If you have any questions,  I'm always available at 877-471-1031 or via email.   

Taxes on Short Sales and Foreclosures 

An unfortunate reality in today's market is that many homeowners and investors are selling their property in a short sale or are being foreclosed upon.  What many people don't realize is that a foreclosure or short sale can result in significant tax consequences.  According to the IRS, "if you owe a debt to someone else and they cancel or forgive that debt, the canceled amount may be taxable."

The good news is that the Federal government has provided some relief in the form of The Mortgage Forgiveness Debt Relief Act of 2007.  The highlights of this Act are as follow:

• The Act applies only to forgiven or canceled debt used to buy, build or substantially improve your principal residence, or to refinance debt incurred for those purposes.
• The debt must be secured by the home.
• Exclude up to $2 million of debt forgiven or canceled by a mortgage lender on a primary residence.
• Both mortgage restructuring and foreclosures qualify
• Available for the years 2007 through 2012.
• Claim the tax relief using IRS Form 982 (download here)
• The lender is usually required to report the amount of the canceled debt to you and the IRS on a Form 1099-C, Cancellation of Debt

Unfortunately, as of the date of this newsletter, the state of California is not in line with the Federal government regarding this issue.  According to the California Franchise Tax Board, "For tax year 2009, California does not conform to the federal Mortgage Forgiveness Debt Relief Act which applies to discharges occurring in 2007 through 2012.  Amounts excluded for federal income tax purposes must be added to income for California tax purposes." 

This means debt relief is taxable at the sate level.  There is a bill pending in California to mirror what the Federal government has done, but it has not yet been signed in to law. 

We will be offering workshops regarding these issues (see below for San Jose date) to help real estate professionals better understand the tax consequences of short sales and foreclosures.  If you would like to schedule a workshop for your office, place contact us at 877-471-1031 or via email. 

  The Quick Flip: How is it treated for tax purposes

Many of or clients are capitalizing on the short sale and foreclosure market by purchasing distressed real estate, fixing it up and flipping it.  It should be noted that profits made on these quick "flips" are taxed at ordinary income rates.  

The Federal government imposes tax on ordinary income using progressive rates.  That means that a person's tax rates gradually increase as income increases. There are currently six tax brackets, ranging from 10% to 35%. 

To qualify for long term capital gains tax rates, an asset must be held for 12 months or longer.   The Federal capital gains tax rate is fixed at 15%.

Real estate that has been held for less than 12 months generally will not qualify for a 1031 Exchange, so flippers, be prepared to pay their taxes. 

   

The subject matter in this newsletter is intended as general information only and not intended as tax or legal advice.  Please always consult your tax or legal advisor for any specific tax or legal matters.