LLC

[mikec]

Two clients form a LLC (Illinois) with the intent to buy/see real estate. Both clients have full time careers in other fields. The accountant they chose for the LLC tells them that the income is treated as ordinary income subject to SE. In 2007 they had one flip, bought and sold in one month. They did none of the actual work and never picket up a hammer. Just and bought and sold. My position is that this should be treated as a investment and reported as short term capital gain, no SE. Every time I think I understand this latest and dormant flip business I keep seeing others treating it differently. Any help would be appreciated

[OldJack]

I agree that in my opinion it is investment property, code section 1221, reported on 1065 Sch-D.

[BulldogTom]

I agree that in my opinion it is investment property, code section 1221, reported on 1065 Sch-D.

And what if they do 8 in 2008? Would that change your opinion? There is not enough information to properly answer the question. The OP seems to say they contemplated a business of flipping houses. Because they had a limited amount of transactions in their first year, but have a gain, do we want to rush out and change the transaction to fit the current tax year? How do you justify starting a business entity and then saying no business existed?

I guess I am just being onry today. Since it is not my client, I would tell them to live with the choices they made. You wanted to monkey around with a business, pay the frikkin banana tax.

Tom

Lodi, CA

[jainen]

>>And what if they do 8 in 2008? Would that change your opinion?<<

Regs say once you get above five properties you may run into trader status. Otherwise I would still call it investment since the profit and loss come solely from market forces. If they bought houses to fix up before selling, that would constitute a business activity because the profit comes from their own work.

[OldJack]

And what if they do 8 in 2008? Would that change your opinion? There is not enough information to properly answer the question. The OP seems to say they contemplated a business of flipping houses. Because they had a limited amount of transactions in their first year, but have a gain, do we want to rush out and change the transaction to fit the current tax year? How do you justify starting a business entity and then saying no business existed?

With 8 sales they may very well have ordinary income. However, every single asset is classified according to how it relates to the tax code, rules, regs, etc, and the business regardless of the number of sales. There is no reason that 1, or more, of the 8 sales could not be an investment asset and the others inventory. This is true regardless of the type of tax entity or the fact that the owner/business may be a trader or professional real estate dealer. This is why every type of income tax return (1120,1120S,1040,etc) has a form Sch-D as well as form 4797 that can be attached. Its not right that taxpayers should pay more taxes than required just because the tax preparer does not want to perform due diligence and properly classify income.

[michaelmars]

easy solution is to form a new LLC each time so the entity avoids too many swaps and thus dealer status

[BulldogTom]

OK, one last thing and then I will let it go. Where are you going to put the "business expenses" then? How about the business meals, entertainment, and that fancy CPA that set up the LLC? If the transaction is an investment, then the costs are investment expenses on the Sch A. How much you want to bet they want it both ways? All the expenses as ordinary business losses against their professional W2's and the income as capital gains.

I may just be cynical today, but that was kinda how I was reading the post. It looked like a "I want my cake and eat it too!" scenario, and I may have just read that into it.

I feel much better now - I was in a cruddy mood this morning.

Tom

Lodi, CA

[michaelmars]

IF an investment the expenses will be added to cost basis

[OldJack]

IF an investment the expenses will be added to cost basis

In most cases I would agree with Michael Mars. However, we should not confuse business operation expenses (telephone, office supplies, etc) as not allowable just because of the type/classification of income. As an example a dairy farmer may show a large loss on form 1040 Sch-F but have an overall profit due to a gain from the sale of purchased dairy cattle on form 4797. It is possible that this original poster business could have deductible business expenses/loss for 1040 Sch-C (or 1065) with capital gains from 1040 Sch-D. You have to look past the forest (outside the business profit type form) and look at the trees (classification of the transactions).

[mikec]

In most cases I would agree with Michael Mars. However, we should not confuse business operation expenses (telephone, office supplies, etc) as not allowable just because of the type/classification of income. As an example a dairy farmer may show a large loss on form 1040 Sch-F but have an overall profit due to a gain from the sale of purchased dairy cattle on form 4797. It is possible that this original poster business could have deductible business expenses/loss for 1040 Sch-C (or 1065) with capital gains from 1040 Sch-D. You have to look past the forest (outside the business profit type form) and look at the trees (classification of the transactions).

Thanks for all the replies, basically the same thoughts, ideas and obstacles I considered. I firmly believe that in this specific incident the correct way to go is with capital gain on the partnership form.

To all thanks,

mec