Accounting and Record Keeping
[NOTE: I get a lot of requests for my Quickbooks Chart of Accounts these days. I have now included the Chart of Accounts as part of the special goodies when you buy my Flipping and Estimating books. Click here for more information!]
I receive a lot of questions about my company’s method for accounting and recording keeping for our rehab projects. For those who have been in this business for a while, you probably have your own system that you rely on and that works well for you; for others who are just starting out, hopefully this will give a framework for thinking about these types of things…
First, I use Quickbooks for all my accounting and financial record keeping. I used Quicken for a LONG time, but finally realized that I’d be much better off porting my Quicken data over to QuickBooks; my accountant is highly appreciative of this as well.
As for how I break down my financial view of a house flip, it looks something like the following:
Purchase Costs
This group accounts for all costs incurred up until the day I own the property. This includes any earnest money deposits, inspections, appraisals, financing fees/charges, closing costs, bank credits, etc.
I like to keep this as a separate category because this group of expenses represents costs that I’ve incurred not just on the properties I flip, but also on some properties that I investigate but don’t end up purchasing. For example, if I put a property under contract, hire an inspector to do a property inspection, and then later back out of the deal, I still need to account for those inspection costs.
That said, I keep a close eye on this group of expenses (I have several reports that I run once a month in Quickbooks); because there are a lot of “sunk costs” (costs that are never recouped) in this area, I try to ensure that I do everything possible to keep expenses in this area as low as possible.
Rehab Costs
Rehab costs are all costs associated with both materials and labor during the rehab. Material costs consist of everything that gets purchased for the property and will stay with the property (materials used for staging that will be retrieved upon sale are not counted). Contractor costs include everything from the GC to the landscaper to the termite inspection to all the other sub-contractors I might hire.
In short, rehab costs are essentially anything I spend to renovate the property.
Holding Costs
Holding costs are those costs that accrue the longer I hold the property, generally monthly. This includes any mortgage or loan payments against the property, property taxes, insurance premiums, utility payments (water, electricity, gas, garbage, etc), lawn care (once the rehab is complete), etc.
Selling Costs
Selling costs are all the costs accrued in order to sell the property. This includes commissions, any closing costs I might pay on behalf of the buyer, selling closing costs, any mortgage or loan payoffs, etc.
This category also includes items required by the buyer as part of the purchase contract. For example, if the buyer requires a termite letter, that would be included as part of the selling costs. In the case where the buyer requires that a repair be performed that should have been performed during rehab, I may attribute the cost to Rehab Costs.
Lastly, any refunds or over-payments that are returned to me — such as escrowed funds or insurance over-payments — are also attributed to selling costs.
I’ve found that this system of managing and organizing expenses is very effective for the way I think about this business, and I extend it past just my financial management software. We keep four folders for each property (Purchase, Rehab, Holding, Selling), along with a “Receipts” folder; these coincide to the financial groupings that I use so it’s generally pretty easy to find and cross-reference items when I need any property information.
Hi J,
Let’s say you bought a house for $100K, put down $20K and borrowed $80K. If you record the transaction as a Flip Costs:Purchase Costs:Property Purchase expense, is the value $100K or $20K? If it’s $100K, where do you record the $80K you borrowed so you can track your initial equity?
Hey David,
On the General Journal entry, the $100K would be a Debit against the “Flip Costs:Purchase Costs:Property Purchase” account and then there would be an $80K Credit against the “Mortgages” account (which is a Long Term Liability). The $20K difference would be a Credit from a cash account (the funds you brought to closing) to even out the entry. Obviously, there would also be closing costs and other stuff in there as well, but that’s the basics of how the loan is handled.
Well that makes a lot of sense. Thanks for helping out. I’m a big fan of your blog and books and look forward to your future reporting on rentals.
Good morning,
I am a full-time investor in N Idaho (we did 15 last year, already have done 5 the first 3 months this year). About 1 in 4 properties I flip are rentals. My accountant believes we should separate the rental income from flip profit because there are different rules regarding deductions. This causes a lot of extra work, which doesn’t feel warranted given that the rental income is such a small number compared to the flip profit. Do you separate?
Thanks
Hi Dan,
We absolutely do separate the income. We flip in one business entity (multiple actually) and hold our rentals in a separate entity. The flip income is going to be subject to ordinary income taxes plus self-employment taxes, while the rental income is only going to be subject to capital gains taxes. The difference there could be between paying 50% in taxes and paying 20% in taxes!
Even if you’re just making $20K per year in rental income, that’s a $6K savings by separating the income. Obviously, the more you’re making, the bigger the savings is. And, in my opinion, that’s not insignificant. In addition, you want to ensure that when you sell the rental properties, they are taxed at long-term capital gains rates, not ordinary income.
where do you account for cost outside of these categories but would be business expenses none the less? My initial thought would be any expense related to finding the property (I.e. gas expenses or MLS fees etc.).
Cole –
Those are business expenses (independent of any property), and are categorized separately at tax time. These things are often categorized as “overhead”…
Hi
I have question regarding Quickbook. Do you explain in your book step by step how to set up accounting sheets in quickbook. I am an experienced flipper but now need to get organized
Hi Tony,
The book doesn’t explain how to use Quickbooks or do accounting, but if you purchase direct from the publisher, it does include my Quickbooks Chart of Accounts:
http://www.biggerpockets.com/flippingbook
There are lots of different (and correct) ways to do your accounting, and every situation will have different accounting needs and requirements — it would be impossible to discuss this in a way that’s general enough for everyone in my books. But, the COA can probably get you started, and a chat with a good tax professional will help even more so!
Hi Tony,
I am trying to set up my quickbooks with not much luck can you give me any advise on how yours is set up properly?
Could you please send me your COA for QuickBooks? I’ve just started flipping homes and would love to make sure I am setting up my accounting system the best I can! THX!!!
Hi Diana,
The COA comes as part of the book package sold here:
http://www.biggerpockets.com/flippingbook
I am late in the game. But I just purchased a book from Gita Faust on how to use quickbooks for flipping properties. After I followed her easy step I was able to view property costing by each flip. She says no to journal entry and no to learning debit and credit. I was laughing when she said it on the call. Now I get it.
Aren’t the profits made in less than 12 months considered short term capital gains, like a stock purchase / sell? Thus both Federal and States taxes may be as much as 33% of the profit during a fiscal year.
Jim –
Profits on a flip (regardless of how long you hold it) are taxed as ordinary income at your marginal rate — NOT capital gains. This essentially equates to the same rates as short term capital gains, but you can’t offset them with capital losses and you’re generally subject to self-employment taxes as well. Ultimately, house flipping is a horrible choice for someone looking to minimize tax burden.
I have QB2016 for Mac. It won’t read a normal .qbw file. Anyway I can get your chart of accounts in a Mac version. Intuit says it can be created from the Windows side (that’s the only way). Thanks!
I guess I should retract that last comment and start over. My son purchased your book through BiggerPockets, but we can’t figure out how to access the COA (or other digital content). Can you direct us? Thanks.
Hey Kevin,
If your son bought from BP, he should have gotten all the digital files as part of the zip file (if he was able to open up the books, the rest of the files should have been right there in a separate folder). The COA is a Microsoft Excel file. The easiest way to import it to Quickbooks is:
Go to File menu> Utilities> Import> Excel Files
From there, follow the prompts…
What if you buy a house to flip and decide to hold. How do you transfer between the 2 companies?
Pam –
There are a couple ways to do this (quit claim deed, second closing, etc), but there are tax and legal nuances with everything, so I would recommend talking to a good tax professional and/or attorney to guide you through the process.
If available could you provide me with your Chart of accounts as well?
Hi, my question is: I flip houses and during the course of the renovation, I use Inventory: Labor & Materials and class the property address (i.e. 36 Main Rd.). I just sold a property and now need to enter that incoming wire transfer that went into my bank for $127,701.36 as I now sold it. I am clueless and don’t know what to do as I read a lot about COGS and Inventory and conversions once sold. I don’t think all of the rehab costs have been allocated for 36 Main so therefore it is an unorthodox situation. is there a way to fix this quickly and get the deposit of the $127,701.36 to appear in my bank so i can reconcile. Also moving forward, what is the correct way of handling this as I will have a lot more in the future. Remember, I am not at all an Accountant and have no idea so please explain like I am a baby:-) Thank you so so much…
Mark –
I prefer to make all the costs categories (purchase costs, rehab costs, selling costs, and all the sub-categories under those) as COGS accounts. When I spend money on anything, it goes as a COGS item. I associate the property name with each, using the Class field. Then when I sell, I record the income (minus the selling costs) as a journal entry, making sure to assign the Class field to the property name.
Then to see a P&L for a particular property, just do a P&L by class.
Does that make sense?
Hello, I use your books and website material all the time. Thank you for all the information! I have heard you say that you account for your Flip and Rental properties in separate businesses. Do you use two separate quickbooks accounts and two checking accounts? If so how do you transfer a flip house to a rental house in quickbooks? I am trying to forecast all contingencies for a flip gone bad 🙂 Thanks again
Hey JR –
That’s correct. Each LLC has its own Quickbooks file. I’ve never had to transfer from flip to rental, but something to keep in mind — the IRS will consider the tax basis of the property to be whatever was the original intent for the property. In other words, if you have a flip gone bad, technically you are still on the hook for active/flip taxes, not passive/rental taxes. Likewise, if you intended for the property to be a rental but had a great opportunity to flip (that you took), the IRS would consider that as capital gains taxes. You’d need to prove your original intent if you ever got audited.
I’m not a tax professional, so get professional advice about all this stuff, but that’s how it works. Unfortunately, I also don’t know the details of how best to move from one LLC to the other. There could be title issues, accounting issues, legal issues, etc. that you should investigate.
J,
My friend gifted me an e-book copy through Amazon Kindle of your book, The Book on Flipping Houses. After reading it, I also bought your book on estimating rehab costs (Amazon order # 113-4974488-5001863). Would you consider sharing your Quickbooks Chart of Accounts with me?
Hello,
I am setting up beginning balances in QuickBooks for my flipping business and I am a bit stumped on something. At the end of 2017 I had two houses that had been fully renovated and under contract but, not yet closed. So that is to say that I had incurred all of the remodel expense. For tax purposes my business is a cash basis S corp. I closed on both properties in February and thought this would be a good time to setup QB’s. I need to recognize the revenue in 2018 because that’s when it was received technically but, what is the other side of my entry? Owner’s Equity? Dr. Owner’s Equity Cr. Revenue? Please help!
Thanks, Linda
Hey Linda,
The way I do, the journal entry Credits the sale price from the HUD-1, Debits any expenses off the HUD (closing costs, etc), and then the rest of the Debit is the actual cash to your bank account.
Here is what a simple sale would look like ($232,500 is the sale price on the HUD):
https://www.dropbox.com/s/4okm2iiwvac0jlw/sale.jpg?dl=0
Hello Scott,
I owe a land in FL I bought few years ago. I am planning to hire a contractor to build a property on this land and sell it when construction is finished. Would you recommend registering a company to make this project more beneficial in terms of tax matters?
Thanks on advance,
Anjelika
Hello
I do real estate investment and in most cases I have to put money into the properties before renting them out or in the case of a turn over after an old tenet moves out. I’ve recently realized I would spend less if I were to install a more durable flooring like engineered hardwood flooring instead or carpet being replaced every time a tenet moves out. To cut to the chase, I got a better deal on buying the flooring in bulk per square foot then if I were to walk in Lowe’s and keep buying it. How do you record the inventory on hand as it’s being used for multiple different properties within different periods?
Hey Kim,
In Quickbooks, I keep a separate expense account for “Materials On Hand” (nearly all materials I’m holding are expensed, as opposed to CapEx). When I use them in a rental project, I do a general journal entry to move the cost from the “Materials On Hand” account to the maintenance or turnover account for the specific property. Doing it this way will sometimes expense materials before they are used, but I’m okay with that and as long as I’m not storing a whole warehouse of materials, my accountant doesn’t mind.
Hi Anjelika –
I would consult a tax professional to discuss your specific situation, but generally speaking, if you’re doing development, you might want to consider an LLC taxed as an S-Corp. It can save you some money on self-employment taxes, and is allow a good liability shield if used correctly.
You speak above of instances where there are purchase costs for properties you end up not buying. Would you then go in and create a journal entry to move them from COGS to an Expense account for unrealized deals? Or do they stay in COGS even though there will never be any revenue for them?
Hi Michelle,
If I end up not buying the property, the expenses move to an “Expense” account in QB as a general business expense.
Hi J Scott. Thanks for sharing all your resources and experience here! So grateful to find your site!
One question – I bought your book through Audible. Is there a way to access the Chart of Accounts for QB that you are sharing? I am in my first year, having a blast and ready to set up my systems. Was hoping to see the method to your madness. Thanks!
Hi J,
I have a question about earnest money deposits. Why is the EMD an expense and not an asset since it gets credited back to you at closing? You wouldn’t get to actually deduct EMD as an expense, would you?
Hey Kyler –
Yes, earnest money goes to the balance sheet, not the P&L. But, from a 10,000 foot perspective, it is part of the purchase costs. So, in QuickBooks, the account is “Current Asset,” but in my spreadsheets tracking my high-level budget, it’s an expense that’s credited against the purchase at closing.
Hey Brenda – Send me an email (j@123flip.com)
Hello J Scott,
I shared my Quick books file with my accountant and she is finding it difficult to understand. It seems that I didn’t allocated the expenses in the right accounts . I just purchased the 2nd edition of the book The Book on Estimating Rehab Costs hoping to find the chat of accounts but I couldn’t find it. Did you include this chart in this book?
Thank you for sharing so much knowledge with our community!
Hey Patricia – Shoot me an email to jscott @ lishgroup.com (remove the spaces).
What is your recommended site for purchasing your books…I want to be sure that I get your chart of accounts with the purchase!
Hi Matthew,
I would recommend purchasing from BiggerPockets: http://www.biggerpockets.com/flippingbooks