Flip Real Estate Ineligible for Section 1031 Exchange

Working with a new real estate investor client yesterday and heard again what I have heard so many times: the real estate agent handling his flip offered him the choice of doing a Section 1031 exchange when selling the property. This is not possible. In a flip the buyer’s intention is clearly to hold the property short term and resell it, usually after making substantial improvements. The intent is not to hold for long-term appreciation. Therefore, the property is dealer property, not investment property, and ineligible for Section 1031 deferral of the tax gain. As dealer property, the gain is ordinary income, not capital gain, self-employment tax is usually owed.

Military Spouses Residency Relief Act

Under the new Military Spouses Residency Relief Act, signed into law on November 11, 2009, spouses of military service members who relocate from one state to another on military orders do not become residents of the new state for income tax purposes. This means that the military spouse’s wage/salary and self-employment income is not taxable by the new state. This new law will result in big California tax savings for some military families. This makes the income tax treatment of the military spouse similar to that of the service member, who does not acquire residency in the new state because of the Servicemembers Civil Relief Act. This new law is effective January 1, 2009.

Previously, a military spouse would acquire California tax residency when moving to California under the service member’s Permanent Change of Station (PCS) orders. The military service member would not, so the spouses had different state tax residency and the spouse’s wage/salary and self-employment income was taxed by California.

S-Corporation Officer Reasonable Salary

IRS launches in February 2010 random employment tax audits. The goal of this Employment Tax National Research Project, the first in 25 years, is to figure out where the IRS can get the most money through audits. One key issue is S-Corporation owner / officer / shareholder reasonable compensation / salary / wages. The IRS loses huge amounts of money when S-Corporation owners take unreasonably low salaries, mainly due to loss of the 6.2% Social Security portion of the FICA tax. Social Security tax applies to the first $106,800 of salary but does not apply to S-corporation distributions / dividends.