Tax treatment of loss on spec home construction and sale?

[paulap70]

Hi!  With a partner, we built a spec home in 2018/2019 and ended up selling earlier this year for about a $20,000 loss.  How do we account for the loss on our taxes and K-1s?  All three partners were actively involved in the project, either building or handling the banking/accounting/bookkeeping.  I'd like to do our own taxes and hoping it's fairly straightforward.  Thank you!

[Hal_Al]

If the partnership is a disregarded entity, you, most likely,  report the business profit or loss on Schedule C.  Alternatively, you report the capital  loss on form 8949 and Schedule D.  However, since it's a partnership, that will be filing form 1065, Schedule E may be more appropriate. 

For more info, see a similar question at: 

https://ttlc.intuit.com/questions/3399983-tax-issues-regarding-flipping-of-a-house 

And references at:

https://www.hrblock.com/tax-center/income/real-estate/flipping-houses-taxes/

https://fitsmallbusiness.com/taxes-on-flipping-houses/  https://www.lendinghome.com/blog/how-to-maximize-house-flipping-tax-benefits/

After determining how to treat the loss, the partnership will have to file a partnership return (form 1065) and issue form K-1 to each partner. 

[paulap70]

Thank you for your help.  We actually built this - purchased lot, built home, and sold it.  Unfortunately, we ended up holding about 9 months longer than anticipated, and those holding costs essentially negated the anticipated profits.  I am specifically wondering if we are allowed to recognize the entire loss in one year or if we are somehow limited.  I believe we are all active members, not passive.  The partnership files a 1065 and sends the individuals K-1s.  One partner files Schedule C, and the other two are salaried employees outside of this business venture.  Trying to get a jump on planning for year end, especially for the Schedule C filer.  Thank you for any additional insight!  

[Critter-3]

If all 3 partners were involved then you will file one partnership return and each partner will get a K-1 for their personal returns.  

TT Business is for 1120 Corporation, 1120S Corp, 1065 Partnership or 1041 Estate/Trust returns and will not do your personal 1040 return.   It  is a separate program from Home & Business (or Personal & Small Business).  Home & Business is for personal returns that include a schedule C for self employment or sole proprietor. A single owner LLC would be reported on Schedule C unless the LLC elected to be treated as an S corp or C corp.

You will get a schedule K-1 (or a W2) from the business return to manually enter into your personal 1040 return.

Turbo Tax Business  is not available to do online or on a Mac.  You can buy the Window's version here.  And you can have both TT Business and TT Home & Business (or any personal version) installed on  your computer at the same time.

https://turbotax.intuit.com/small-business-taxes 

[Hal_Al]

" I'd like to do our own taxes and hoping it's fairly straightforward". 

No, it's complicated, particularly with the additional details. More particularly. one partner is going to file Schedule C and the others Schedule D or Schedule E.

Yes, you can recognize the loss, in the year of sale.  The purchase and construction costs are "cost of goods sold" (COGS) for the business and the cost basis for the investor.  

Carrying costs, in the year sold,  are generally added to the cost basis/COGS.  But carrying cost in a prior year may need to be treated differently by the business or investor. 

You probably need professional tax help, especially for the 1065.

[paulap70]

Yes, my husband and I are both salaried employees in banking and government.  We file a 1040.  Our partner is a self-employed carpenter who has an LLC that is a disregarded entity and files only Sch C.  We formed an LLC for the purpose of building this spec home and possibly others.  Our partner owns 50% and my husband and I own the other 50%.  All of the expenses regarding the home were capitalized into the home and once sold, we had a $20,000 or so loss.  Any LLC expense outside of the home (secretary of state filing fees, for example) were minimal and included on the form 1065.  I am wondering how to show the loss on sale on the LLCs tax return and associated K-1s.  Are we allowed to each recognize $10,000 of loss on our 2020 tax returns (as it would flow thru the K-1s)?

[paulap70]

No, sorry if I haven't been clear.  Partnership will file 1065.  Individuals will each receive K-1s.  One of the three partners has his own business in addition to this and files a Sch C for his own business which is a disregarded entity.  Other two partners (married couple) each have salaried jobs outside of the partnership.  We all had an active participation in this venture.  I did the bookkeeping, paid the bills, etc. and our partner pounded the nails and supervised the subcontractors.

I had read somewhere that losses were limited to $3,000 per year on investments, so wanting more clarification on whether or not this applied to us.  I believe we are active and therefore, if it were income, it would be ordinary income, but since we have a loss, are we limited or is the entire loss to be taken in 2020?

[Anonymous_]

---

@paulap70 wrote:

.....since we have a loss, are we limited or is the entire loss to be taken in 2020?

---

The question involves whether the loss will be suspended (as a result of the passive activity loss rules).

If you materially participated in the partnership's business, then the loss passed through on your K-1(s) will not be suspended (i.e., it can be deducted against your other income). 

[paulap70]

Thank you very much!  I appreciate the guidance!

[Hal_Al]

Yes, the entire $10,000 loss can be taken in 2020, since you are active in the partnership.  The net loss will be reported on line 1 of the K-1 (form 1065).   TurboTax will put it in part II of Schedule E.

I you have a profit, on your next spec house, in this partnership, it too will be treated as ordinary income and not capital gains.  It may be subject to self employment (social security and Medicare) tax, as well as income tax. Being salaried at your regular job does not exempt you from having to treat side gig income as self employment.

"I had read somewhere that losses were limited to $3,000 per year on investments".  That limit applies to capital losses. Not applicable in your case. Even then, the excess loss is carried forward to the next tax year. See the  discussion at the previous link provided., as to whether you treat  the income  as business profit/loss or  a capital gain/loss. 

[Anonymous_]

It appears as if @paulap70 is a partner who materially participates in the partnership's business and will receive a K-1 (1065) from the partnership.

As a result, although considered to be self-employed, @paulap70 should not report the loss on Schedule C since that form is for sole proprietors. Rather, @paulap70 should simply enter the information from the K-1 into @paulap70's individual income tax return (via the software, I presume).

[Anonymous]

do not skip the partnership return. with 3 partners, failure to file the return would cost about $7,000 in penalties.  about $200/per partner/per month late (maximum 12 months.) 

[Hal_Al]

  @paulap70 I revised my last reply, above, based on @Anonymous_'s  reply. 

[paulap70]

Thanks.  My husband and I both meet the FICA maximums, so we only end up paying the 1.45% medicare (and the 0.9% extra tax) portion.  I assume if we do have income subject to SE tax as a result of a profit on a future home, the same limits would apply?  Really just a hypothetical at this point.  But just curious.

If I do the books for the house, I'm definitely materially participating.  I accept no pay for this, though.  It's night/weekend type thing.  My husband really doesn't do much day to day with the spec house.  Our business partner is the one who pounds the nails.  I assumed all three of us would be active, but perhaps my husband is passive?

And yes, we filed a partnership return in 2018 and 2019, but we had nothing to show and it only included partnership expenses, like the secretary of state biennial report and contractor registration fees, so we each showed a slight loss on the partnership 1065 return.

[Critter-3]

Partners don't get "paid" as they cannot be employees.  Partners can take distributions or draws but they are not required.    Also basis calculations needs to be kept ... seek local professional assistance to be educated on this situation.