Make Big Real Estate Profits Tax Free? You Bet!Posted on August 10, 2011 by
Recently, I spoke to a group of real estate investors and was asked this question: “What is the best way to make money in real estate?” Easy answer: Internal Revenue Code (IRC) 121.
Since most of us aren’t CPAs, let’s look at this incredible way to structure a deal and get tax-free money. Here are the basics of Section 121: If you are married, have lived in your house for two of the past five years, and then sell your house, you get to keep up to $500,000 ($250,000 if you are single) of the profit from the sale – TAX FREE! Better still, the IRS says you can do this every two years!
To give you an example of how IRC 121 works, let me tell you about Bob, a friend of mine, who is the smartest real estate investor I know.
Bob will find a $400,000 house that needs some remodeling work. By either negotiating with the seller, doing a short sale, or buying it from the bank, he gets the house for $150,000.
After Bob and his family move into their new home, they spend the next nineteen months or so rehabbing the property. The rehab work is fantastic. Their house goes from the worst house in the neighborhood to the best.
After the rehab is done, they put their house on the market. Most of the time, their home sells around two years from the day they bought it. Because of all the improvements, the sale price will be somewhere around $450,000.
Here are the numbers: Bob sold the house for $450,000, bought it for $150,000, and his rehab costs were around $75,000. ($450,000 – $150,000 – $75,000 = $225,000). This means Bob made a $225,000 profit!
And here is the best part: Bob pays Z-E-R-O taxes on the $225,000 he earned!
Why is Bob the smartest investor I know? Bob doesn’t have a j-o-b. Rehabbing his house is his job! Each morning, he and his wife – and their kids on the weekends – get up, put on their tool belts, and do some rehabbing.
In addition to rehabbing his home, Bob also buys one or two single-family rental homes each year.
While working on his personal residence, Bob will hear about a motivated seller who needs to get rid of a three-bedroom, two-bathroom house. If Bob can get the price he wants, he buys the property, does a simple rehab, and adds the property to his growing list of rental houses.
And don’t think it is all work and no play for Bob and his family. Every year they take three or four long vacations.
You see, my friend IS the best real estate investor I know. Now that I think about it, is anyone interested in buying a small horse ranch in Adairsville, Georgia that we’ve owned for more than two years? If only I could get the redhead to sell!