Sweat Out a Profit
by Ellen Katz
A hot real-estate market has opened opportunities to invest equity in fixer-upper homes and make a nice profit.
And Uncle Sam has helped fuel this frenzy with tax laws that let you keep most, if not all, of the profit.
|The critical ciphers|
|Hire a professional inspector to examine the structural components.|
|When evaluating a deal, consider costs like application and credit-report fees, escrow charges and mortgage points.|
|Consider foreclosed properties.|
|Choose improvements carefully. Some do little to boost the resale price and will eat into profit. |
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The IRS a few years ago boosted the amount you can exclude from taxes after selling a home. You can walk away with as much as $250,000 tax-free if you're single and $500,000 if you're married and filing a joint return.
Even the restrictions are friendlier than they used to be. Empty nesters, for instance, can find less-expensive digs at any age and get as much as $250,000 or $500,000 of tax-free profit. There was a time when your replacement home had to be of equal or greater value or you had to be older than 55 to avoid tax, and then only on as much as $125,000 of capital gain.
To reap this tax benefit, you must live in your principal residence for two out of the past five years. Here's where the money-making opportunity comes in. There's no limit to the number of times you can renovate and resell a house for the tax-free profit, as long as you own and live in the house for the required two years.
How lucrative can this be? Let's say you find a structurally sound home that needs cosmetic work and buy it for $200,000 — a substantial discount from surrounding, better-maintained properties. You move in and spend $20,000 on paint, wallpaper and new carpeting, sprucing the place up in your spare time.
Two years later, you sell it for $330,000 and pay $10,000 in closing costs. Your profit is a cool $100,000. (This is calculated by taking the $330,000 sales price and subtracting the $200,000 original cost, $20,000 fix-up expenses and $10,000 closing costs.)
If building sweat equity is your thing, you can move on to another house and repeat the process. The best part: You don't owe a cent in federal taxes.
Now let's say you earn $100,000 a year in salary. In the 31 percent tax bracket, you owe $31,000 in federal taxes — and that's before Social Security, Medicare and any state taxes.
As you can see, sweat equity can be a great way to amass a fortune. The key is finding the right house in the right neighborhood and spending the time to renovate. You get the fulfillment of turning an eyesore into an asset, and tax-wise, it sure beats regular work.
Look for the defect, find the profit!
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