Of the IRS's 4 classifications of Real Estate this term can be the most difficult to taxpayers to grasp. The correct term is "real estate held for sale to customers". Our 1031 Exchange Knowledge Base has a very insightful article about this subject. Here is an excerpt that will be very valuable to you.
"This classification is known as dealer property. To be classified dealer property, the property must be held at the time of sale or exchange
primarily for sale
in the ordinary course of business.
All three elements must exist at the time of sale or exchange or the property will not be classified dealer property. Primarily for sale means of the first importance. It does not have to constitute more than 50% of the purpose—it need only be the most important. The Supreme Court said, “If an owner acquires a property for rental or investment use, but also plans to sell the property and realize gain in any way he can if the original plan becomes unfeasible, he does not hold the property primarily for sale.”
All buyers of real estate are customers as the term is used here. The activity “in the ordinary course of business” must be directly related to the sale of that property. In addition, the activity must be “busy.” The two “busy” activities usually related to sales or exchanges are
1. sales activities related to the property, and,
2.physical improvements to the property.
Many people, including many IRS agents, misunderstand this activity. To be classified dealer property, there must exist a busy business activity directly related to that property. If you buy a parcel of land, subdivide it, and build houses for sale, there's no question you have dealer property. But if you buy a parcel of land, make no physical improvements, subdivide it by getting it rezoned and meeting other legal requirements, and sell it in the form of an unsolicited offer—you get capital gain treatment. The reason? No business activity related to the property. [iii]
If the property is listed with a licensed real estate broker, the sales activities of the real estate broker are not considered to be the sales activities of the owner.
The Tax Court has held the real estate activities of corporations owned or controlled by an individual cannot be attributed to him even though he may be engaged full-time as an officer of the corporation.
Licensed real estate brokers and salespersons ordinarily are not dealers. In Scheuber v. Com. 371 F2nd 996, it was held properties purchased by a licensed real estate broker (who intended ultimately to sell) and held for realization of appreciation in value over a substantial period of time were capital assets.
If dealer property is sold at a gain, the gain is taxed as ordinary income. If dealer property is sold at a loss, the loss is deductible as an ordinary loss."
Related Info: sale, estate, real, classification, dealer, related, activity