If you buy and sell real estate, it’s crucial to know whether you are classified as a real estate dealer or a real estate investor for tax purposes. This distinction significantly impacts how you are taxed and how much you can save. McFadden Accounting is here to help you navigate these complex tax rules.

Real Estate Dealer vs. Investor: What’s the Difference?

Real estate dealers operate as a business, buying and selling properties as inventory. Real estate investors own properties primarily for rental income or long-term appreciation.

Understanding your classification ensures compliance with tax regulations and helps optimize your tax strategy.

How Are Real Estate Dealers Taxed?

Real estate dealers:

• Pay ordinary income tax rates (up to 37%) on their profits.
• Are subject to self-employment tax (15.3%).
• Cannot claim capital gains tax benefits.
• Cannot defer taxes through 1031 exchanges.
• Cannot use the installment sale method.

How Are Real Estate Investors Taxed?

Real estate investors:

• Pay capital gains tax rates (0%, 15%, or 20%) when selling properties held for over one year.
• May owe a 3.8% net investment income tax (NIIT).
• Are not subject to self-employment tax.
• Can defer capital gains tax with a 1031 exchange.
• • Can deduct depreciation on rental properties.

Tax Savings Example

Imagine you sell a property for a $100,000 profit:

• As a dealer, your tax liability could be $51,130.
• As an investor, your tax liability could be $23,800.

That’s a $27,330 difference—a compelling reason to classify your real estate business correctly.

Who Qualifies as a Real Estate Dealer?

The IRS and courts consider multiple factors, such as:

• How frequently you sell properties
• Your intent when purchasing properties
• The extent of your sales efforts
• How long you hold properties before selling

Typical real estate dealers include:

• Flippers who renovate and sell quickly
• Speculators who buy and sell multiple properties per year
• Subdividers who divide and sell land
• Developers and home builders

Can You Be Both a Dealer and an Investor?

Yes! You can own some properties as a dealer and others as an investor. To avoid IRS scrutiny, maintain separate records, bank accounts, and books for each classification.

Get Expert Tax Guidance from McFadden Accounting

Misclassification can cost you thousands in taxes. Ensure you’re following the right strategy with expert guidance from McFadden Accounting.