Flipping Houses 101: Tax Consequences to Keep in Mind

Many investors fail to plan for the tax consequences of flipping real estate and end up sharing too much profit with an uninvited partner: the IRS. 

House flipping is more than buying a home and selling it for a profit. Complicated rules govern real estate transactions, and it’s essential to understand the basics to keep as much money in your pocket as possible and minimize house flipping taxes.

Flipping Houses 101: 6 Tax Consequences 

In this flipping houses 101 guide, we’ll explore common tax implications for real estate investors and opportunities to minimize your tax burden.

1. Investor vs. Dealer

The tax consequences of flipping real estate are partly determined by whether the IRS categorizes the seller as an investor (who pays capital gains taxes) or a dealer (who pays higher ordinary income tax). From the perspective of the IRS, the distinction is primarily concerned with the intent at the time of sale. If you plan to buy and hold a property, you are most likely considered an investor. On the other hand, if you plan to develop and sell the property, that income could be classified as dealer activity. 

Of course, many situations are nuanced, and the Internal Revenue Code language is not always clear when it comes to real estate investment. Some of the factors that may considered include:

• The intended purpose of the property when acquired or sold
• The extent of improvements made to the property
• How many property sales have occurred and their frequency
• The significance of the transactions
• The nature and scope of your business activities
• How much and what type of advertising you do
• Whether properties are listed with a broker 

If some or all of your income is classified as being generated through dealer activity, it’s important to understand the tax implications. For example, you may become ineligible for depreciation deductions, 1031 exchanges, installment sales, or the long-term capital gains rate. For real estate investors with a primary focus on fix and flips, consider a corporate structure that will help you avoid being taxed as a dealer. 

2. Capital Gains

A profit generated from the sale of a property is considered a capital gain, which is one of the most significant tax consequences for fix-and-flip investing. Broadly, it’s anything above the purchase price and improvements minus depreciation. 

Capital gains taxes vary based on the length of ownership:

• A short-term capital gain applies to properties held for one year or less, and the profits are considered an extension of your annual income. The tax rate for short-term capital gains is generally consistent with the standard income tax rate.  
• A long-term capital gain applies to properties held for more than a year. The tax rate for long-term capital gains is 15-20 percent, depending on how much profit you earn.

To reduce your tax burden, remember that you’re only taxed on your net capital gain for a given year. That means if you sell a long-term investment property at a capital loss, you can use it to offset capital gains from a profitable sale, reducing the total amount that can be taxed. 

Dealers aren’t allowed to take advantage of long-term capital gains rates when selling properties, regardless of how long they hold the property. Dealers also aren’t eligible to benefit from installment sales or 1031 exchanges.

3. Rollover Provisions

Although you can defer taxes on flipping houses by selling one property and immediately reinvesting the sale proceeds into another, that’s only possible under certain circumstances. This tax strategy is known as a like-kind or 1031 exchange and is available to real estate investors but not dealers. 

The parameters for a 1031 exchange are fairly broad. For example, you can exchange a residential rental property for a commercial property as long as the exchanged property is also an income-generating asset. If this is a strategy you plan to employ, work with a qualified intermediary to ensure compliance with the rules for like-kind exchanges.

Both investors and dealers can take advantage of a capital gains exclusion on the sale of a primary residence. To qualify, the IRS requires you to have lived on the property for at least two of the past five years to exclude up to $250,000 in profits from capital gains taxes or up to $500,000 when filing a joint return with a spouse. However, if you are selling a house where you never lived, it’s considered an investment property and isn’t eligible for the Section 121 exclusion. 

4. Active vs. Passive Income

The income dealers generate from fix-and-flip real estate is considered “active income” and subject to ordinary income tax rates in addition to self-employment taxes. The tax treatment of active income differs from passive income, which is income generated from rental properties.

A benefit available to dealers is the ability to deduct losses in full in the year of the sale. Investors may be limited in the amount of loss they can claim for a real estate transaction, depending on their other capital gains or losses in a given year.

5. Corporation vs. LLC

The main advantage of forming a business entity for a house-flipping business is to remove personal liability for its success or failure. It can also offer privacy and safeguard assets. From a tax perspective, benefits diverge depending on how the entity is classified. 

• Limited liability companies (LLCs) and S corporations are considered flow-through entities, meaning that income flows through to the owning members and is taxed as individual income. Although this can be beneficial to prevent being taxed twice on the same earnings, it won’t alter the tax status of the business owners.
• C corporations are recognized as separate tax-paying entities and subject to double taxation. They are responsible for corporate income taxes, and profits distributed to shareholders as dividends are then subject to personal income taxes.

When it comes to buying and selling real estate through your business entity, if your LLC is named on the property title, flow-through taxation means the LLC capital gains tax will be consistent with the individual capital gains tax. 

6. Deductible Expenses

The IRS allows professional house flippers to claim many business expenses as tax deductions. These are the main categories of eligible expenses: 

• Capital expenditures include the money spent purchasing a property and making upgrades. However, you can’t deduct capital expenditures from taxes before selling the property they’re associated with. 
• Office expenses, such as business cards and supplies, are fully deductible. Operational expenses for an off-site office—including rent, utilities, phone, and internet—are also deductible. For a home office, you may deduct a percentage of the house’s expenses based on the square footage of your office relative to the entire house. 
• Vehicle expenses can be claimed for business travel, even if you conduct the travel with a personal vehicle. The IRS has two methods to calculate vehicle expenses. The first is the standard mileage rate, which is the miles traveled for the business multiplied by the standard mileage rate (70 cents per mile in 2025). The second method is deducting actual vehicle expenses, including maintenance, repairs, oil, and fuel. If you claim a vehicle deduction, be prepared to maintain a written log tracking mileage and keep receipts for gas purchases and vehicle repairs.
• Interest payments for fix-and-flip loans are eligible expenses. This simplifies short-term financing to favor those who provide funding quickly rather than those who offer the best interest rates. 
• Miscellaneous expenses can also be claimed, such as property taxes on the investment property, building permit costs, real estate commissions, and legal and accounting fees.

The best way to keep track of deductible expenses is to set up a separate checking account for each property. This helps prevent commingling expenses from multiple properties, which could lead to confusion and tax issues.

Fund Your Next House Flip with Socotra

Given the complexities of tax laws governing real estate transactions, plan on recruiting an experienced accountant familiar with real estate investing for your fix-and-flip business. Seeking expert tax advice upfront will help ensure maximum tax benefits and minimum payouts for your business. When strategizing with your tax advisor, consider all your eligible write-offs, including property-related expenses, loan fees, and interest payments.

If you’re ready to go beyond flipping houses 101, learn how to fund your next property with financing tailored to short-term real estate investments. Read our free resource, The Borrower’s Guide: Fix-and-Flip Hard Money Loans, for more information. 

Disclaimer: This blog was originally published February 2024 and updated March 2025