Seller Financing and Taxes

[Lizina Green]

I have been getting prepared to present a seller financing package but I am unsure concerning taxes and the balloon payment. Will the seller have to pay taxes on the balloon payment? If they sell the property in form of a note with terms, do they just pay taxes on the note payments?

HELP

[Brian Gibbons]

@Lizina Green

@Steven Hamilton IIis an awesome tax resource.

Get a CPA in real estate investment.

If you are going to be involved with seller financing and installment sales...

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What Is an Installment Sale?
An installment sale is a sale of property where you receive at least one payment after the tax year of the sale.

The rules for installment sales do not apply if you elect not to use the installment method (see Electing Out of the Installment Method under Other Rules, later) or the transaction is one for which the installment method may not apply.

The installment sales method cannot be used for the following.Sale of inventory. The regular sale of inventory of personal property does not qualify as an installment sale even if you receive a payment after the year of sale. See Sale of a Business under Other Rules, later.Dealer sales. Sales of personal property by a person who regularly sells or otherwise disposes of the same type of personal property on the installment plan are not installment sales. 

This rule also applies to real property held for sale to customers in the ordinary course of a trade or business. 

However, the rule does not apply to an installment sale of property used or produced in farming.

Special rule. Dealers of time-shares and residential lots can treat certain sales as installment sales and report them under the installment method if they elect to pay a special interest charge. 

For more information, see section 453(l).  

Stock or securities. You cannot use the installment method to report gain from the sale of stock or securities traded on an established securities market. 

You must report the entire gain on the sale in the year in which the trade date falls.

Installment obligation. The buyer's obligation to make future payments to you can be in the form of a deed of trust, note, land contract, mortgage, or other evidence of the buyer's debt to you.

General Rules
If a sale qualifies as an installment sale, the gain must be reported under the installment method unless you elect out of using the installment method.

See Electing Out of the Installment Method under Other Rules, later, for information on recognizing the entire gain in the year of sale.

Sale at a loss. If your sale results in a loss, you cannot use the installment method. If the 4797 6252loss is on an installment sale of business or investment property, you can deduct it only in the tax year of sale.

Unstated interest. If your sale calls for payments in a later year and the sales contract pro-for little or no interest, you may have to figure unstated interest, even if you have a loss. See Unstated Interest and Original Issue Discount (OID) under Other Rules, later.

Figuring Installment Sale Income
You can use the following discussions or Form 6252 to help you determine gross profit, contract price, gross profit percentage, and installment sale income.

Each payment on an installment sale usually consists of the following three parts.
Interest income.
Return of your adjusted basis in the property.

Gain on the sale.

In each year you receive a payment, you must include in income both the interest part and the part that is your gain on the sale. You do not include in income the part that is the return of your basis in the property. Basis is the amount of your investment in the property for installment sale purposes.

Interest Income
You must report interest as ordinary income. Interest is generally not included in a down payment. However, you may have to treat part of each later payment as interest, even if it is not called interest in your agreement with the buyer. Interest provided in the agreement is called stated interest. If the agreement does not provide for enough stated interest, there may be unsta-ted interest or original issue discount. 

See Unstated Interest and Original Issue Discount (OID) under Other Rules, later.

Adjusted Basis and Installment Sale Income (Gain on Sale)

After you have determined how much of each payment to treat as interest, you treat the rest of each payment as if it were made up of two parts.

1. A tax-free return of your adjusted basis in the property, and
2. Your gain (referred to as installment sale income on Form 6252).

Download

http://www.irs.gov/pub/irs-pdf/p537.pdf