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Taxes hrblock Part Two -   Excise Taxes Other Than Fuel Taxes Table of Contents 3. Taxes hrblock   Environmental TaxesOil Spill Liability Tax ODCs Imported Taxable Products Floor Stocks Tax 4. Taxes hrblock   Communications and Air Transportation TaxesUncollected Tax Report Communications TaxLocal-only service. Taxes hrblock Private communication service. Taxes hrblock Exemptions Credits or Refunds Air Transportation TaxesTransportation of Persons by Air International Air Travel Facilities Transportation of Property by Air Special Rules on Transportation Taxes 5. Taxes hrblock   Manufacturers TaxesImporter. Taxes hrblock Use considered sale. Taxes hrblock Lease considered sale. Taxes hrblock Bonus goods. Taxes hrblock Taxable Event ExemptionsRequirements for Exempt Sales Credits or Refunds Sport Fishing EquipmentRelated person. Taxes hrblock Bows, Quivers, Broadheads, and Points Arrow ShaftsExemption for certain wooden arrows. Taxes hrblock CoalExported. Taxes hrblock Taxable TiresQualifying intercity or local bus. Taxes hrblock Qualifying school bus. Taxes hrblock Gas Guzzler TaxVehicles not subject to tax. Taxes hrblock Imported automobiles. Taxes hrblock VaccinesConditions to allowance. Taxes hrblock Taxable Medical Devices 6. Taxes hrblock   Retail Tax on Heavy Trucks, Trailers, and TractorsHighway vehicle. Taxes hrblock Vehicles not considered highway vehicles. Taxes hrblock Idling reduction device. Taxes hrblock Separate purchase. Taxes hrblock Leases. Taxes hrblock Exported vehicle. Taxes hrblock Tax on resale of tax-paid trailers and semitrailers. Taxes hrblock Use treated as sale. Taxes hrblock Sale. Taxes hrblock Long-term lease. Taxes hrblock Short-term lease. Taxes hrblock Related person. Taxes hrblock Exclusions from tax base. Taxes hrblock Sales not at arm's length. Taxes hrblock Installment sales. Taxes hrblock Repairs and modifications. Taxes hrblock Further manufacture. Taxes hrblock Rail trailers and rail vans. Taxes hrblock Parts and accessories. Taxes hrblock Trash containers. Taxes hrblock House trailers. Taxes hrblock Camper coaches or bodies for self-propelled mobile homes. Taxes hrblock Farm feed, seed, and fertilizer equipment. Taxes hrblock Ambulances and hearses. Taxes hrblock Truck-tractors. Taxes hrblock Concrete mixers. Taxes hrblock Registration requirement. Taxes hrblock Further manufacture. Taxes hrblock 7. Taxes hrblock   Ship Passenger Tax 8. Taxes hrblock   Foreign Insurance TaxesPremium. Taxes hrblock 9. Taxes hrblock   Obligations Not in Registered Form 10. Taxes hrblock   Indoor Tanning Services Tax 11. Taxes hrblock   Patient-Centered Outcomes Research Fee Prev  Up  Next   Home   More Online Publications
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The Taxes Hrblock

Taxes hrblock 10. Taxes hrblock   Installment Sales Table of Contents Introduction Topics - This chapter discusses: Useful Items - You may want to see: Installment Sale of a Farm Installment MethodWhen to elect out. Taxes hrblock Revoking the election. Taxes hrblock More information. Taxes hrblock Figuring Installment Sale Income Payments Received or Considered Received ExampleSection 1231 gains. Taxes hrblock Summary. Taxes hrblock Introduction An installment sale is a sale of property where you receive at least one payment after the tax year of the sale. Taxes hrblock If you realize a gain on an installment sale, you may be able to report part of your gain when you receive each payment. Taxes hrblock This method of reporting gain is called the installment method. Taxes hrblock You cannot use the installment method to report a loss. Taxes hrblock You can choose to report all of your gain in the year of sale. Taxes hrblock Installment obligation. Taxes hrblock   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. Taxes hrblock Topics - This chapter discusses: The general rules that apply to using the installment method Installment sale of a farm Useful Items - You may want to see: Publication 523 Selling Your Home 535 Business Expenses 537 Installment Sales 538 Accounting Periods and Methods 544 Sales and Other Dispositions of Assets Form (and Instructions) 4797 Sales of Business Property 6252 Installment Sale Income See chapter 16 for information about getting publications and forms. Taxes hrblock Installment Sale of a Farm The installment sale of a farm for one overall price under a single contract is not the sale of a single asset. Taxes hrblock It generally includes the sale of real property and personal property reportable on the installment method. Taxes hrblock It may also include the sale of property for which you must maintain an inventory, which cannot be reported on the installment method. Taxes hrblock See Inventory , later. Taxes hrblock The selling price must be allocated to determine the amount received for each class of asset. Taxes hrblock The tax treatment of the gain or loss on the sale of each class of assets is determined by its classification as a capital asset, as property used in the business, or as property held for sale and by the length of time the asset was held. Taxes hrblock (See chapter 8 for a discussion of capital assets and chapter 9 for a discussion of property used in the business. Taxes hrblock ) Separate computations must be made to figure the gain or loss for each class of asset sold. Taxes hrblock See Sale of a Farm in chapter 8. Taxes hrblock If you report the sale of property on the installment method, any depreciation recapture under section 1245 or 1250 of the Internal Revenue Code is generally taxable as ordinary income in the year of sale. Taxes hrblock See Depreciation recapture , later. Taxes hrblock This applies even if no payments are received in that year. Taxes hrblock Installment Method An installment sale is a sale of property where you receive at least one payment after the tax year of the sale. Taxes hrblock A farmer who is not required to maintain an inventory can use the installment method to report gain from the sale of property used or produced in farming. Taxes hrblock See Inventory , later, for information on the sale of farm property where inventory items are included in the assets sold. Taxes hrblock 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. Taxes hrblock Electing out of the installment method. Taxes hrblock   If you elect not to use the installment method, you generally report the entire gain in the year of sale, even though you do not receive all the sale proceeds in that year. Taxes hrblock   To make this election, do not report your sale on Form 6252. Taxes hrblock Instead, report it on Schedule D (Form 1040), Form 4797, or both. Taxes hrblock When to elect out. Taxes hrblock   Make this election by the due date, including extensions, for filing your tax return for the year the sale takes place. Taxes hrblock   However, if you timely file your tax return for the year the sale takes place without making the election, you still can make the election by filing an amended return within 6 months of the due date of the return (excluding extensions). Taxes hrblock Write “Filed pursuant to section 301. Taxes hrblock 9100-2” at the top of the amended return and file it where the original return was filed. Taxes hrblock Revoking the election. Taxes hrblock   Once made, the election can be revoked only with IRS approval. Taxes hrblock A revocation is retroactive. Taxes hrblock More information. Taxes hrblock   See Electing Out of the Installment Method in Publication 537 for more information. Taxes hrblock Inventory. Taxes hrblock   The sale of farm inventory items cannot be reported on the installment method. Taxes hrblock All gain or loss on their sale must be reported in the year of sale, even if you receive payment in later years. Taxes hrblock   If inventory items are included in an installment sale, you may have an agreement stating which payments are for inventory and which are for the other assets being sold. Taxes hrblock If you do not, each payment must be allocated between the inventory and the other assets sold. Taxes hrblock Sale at a loss. Taxes hrblock   If your sale results in a loss, you cannot use the installment method. Taxes hrblock If the loss is on an installment sale of business assets, you can deduct it only in the tax year of sale. Taxes hrblock Figuring Installment Sale Income Each payment on an installment sale usually consists of the following three parts. Taxes hrblock Interest income. Taxes hrblock Return of your adjusted basis in the property. Taxes hrblock Gain on the sale. Taxes hrblock 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. Taxes hrblock You do not include in income the part that is the return of your basis in the property. Taxes hrblock Basis is the amount of your investment in the property for installment sale purposes. Taxes hrblock Interest income. Taxes hrblock   You must report interest as ordinary income. Taxes hrblock Interest is generally not included in a down payment. Taxes hrblock 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. Taxes hrblock Interest provided in the agreement is called stated interest. Taxes hrblock If the agreement does not provide for enough stated interest, there may be unstated interest or original issue discount. Taxes hrblock See Unstated interest , later. Taxes hrblock    You must continue to report the interest income on payments you receive in subsequent years as interest income. Taxes hrblock Adjusted basis and installment sale income (gain on sale). Taxes hrblock   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. Taxes hrblock A tax-free return of your adjusted basis in the property, and Your gain (referred to as “installment sale income” on Form 6252). Taxes hrblock Figuring adjusted basis for installment sale purposes. Taxes hrblock   You can use Worksheet 10-1 to figure your adjusted basis in the property for installment sale purposes. Taxes hrblock When you have completed the worksheet, you will also have determined the gross profit percentage necessary to figure your installment sale income (gain) for this year. Taxes hrblock    Worksheet 10-1. Taxes hrblock Figuring Adjusted Basis and Gross Profit Percentage 1. Taxes hrblock Enter the selling price for the property   2. Taxes hrblock Enter your adjusted basis for the property     3. Taxes hrblock Enter your selling expenses     4. Taxes hrblock Enter any depreciation recapture     5. Taxes hrblock Add lines 2, 3, and 4. Taxes hrblock  This is your adjusted basis  for installment sale purposes   6. Taxes hrblock Subtract line 5 from line 1. Taxes hrblock If zero or less, enter -0-. Taxes hrblock  This is your gross profit     If the amount entered on line 6 is zero, Stop here. Taxes hrblock You cannot use the installment method. Taxes hrblock   7. Taxes hrblock Enter the contract price for the property   8. Taxes hrblock Divide line 6 by line 7. Taxes hrblock This is your gross profit percentage   Selling price. Taxes hrblock   The selling price is the total cost of the property to the buyer and includes the following. Taxes hrblock Any money you are to receive. Taxes hrblock The fair market value (FMV) of any property you are to receive (FMV is discussed at Property used as a payment under Payments Received or Considered Received ). Taxes hrblock Any existing mortgage or other debt the buyer pays, assumes, or takes (a note, mortgage, or any other liability, such as a lien, accrued interest, or taxes you owe on the property). Taxes hrblock Any of your selling expenses the buyer pays. Taxes hrblock Do not include stated interest, unstated interest, any amount recomputed or recharacterized as interest, or original issue discount. Taxes hrblock Adjusted basis for installment sale purposes. Taxes hrblock   Your adjusted basis is the total of the following three items. Taxes hrblock Adjusted basis. Taxes hrblock Selling expenses. Taxes hrblock Depreciation recapture. Taxes hrblock Adjusted basis. Taxes hrblock   Basis is your investment in the property for installment sale purposes. Taxes hrblock The way you figure basis depends on how you acquire the property. Taxes hrblock The basis of property you buy is generally its cost. Taxes hrblock The basis of property you inherit, receive as a gift, build yourself, or receive in a tax-free exchange is figured differently. Taxes hrblock   While you own property, various events may change your original basis. Taxes hrblock Some events, such as adding rooms or making permanent improvements, increase basis. Taxes hrblock Others, such as deductible casualty losses or depreciation previously allowed or allowable, decrease basis. Taxes hrblock The result is adjusted basis. Taxes hrblock See chapter 6 and Publication 551, Basis of Assets, for more information. Taxes hrblock Selling expenses. Taxes hrblock   Selling expenses relate to the sale of the property. Taxes hrblock They include commissions, attorney fees, and any other expenses paid on the sale. Taxes hrblock Selling expenses are added to the basis of the sold property. Taxes hrblock Depreciation recapture. Taxes hrblock   If the property you sold was depreciable property, you may need to recapture part of the gain on the sale as ordinary income. Taxes hrblock See Depreciation Recapture in chapter 9 and Depreciation Recapture Income in Publication 537. Taxes hrblock Gross profit. Taxes hrblock   Gross profit is the total gain you report on the installment method. Taxes hrblock   To figure your gross profit, subtract your adjusted basis for installment sale purposes from the selling price. Taxes hrblock If the property you sold was your home, subtract from the gross profit any gain you can exclude. Taxes hrblock Contract price. Taxes hrblock   Contract price equals: The selling price, minus The mortgages, debts, and other liabilities assumed or taken by the buyer, plus The amount by which the mortgages, debts, and other liabilities assumed or taken by the buyer exceed your adjusted basis for installment sale purposes. Taxes hrblock Gross profit percentage. Taxes hrblock   A certain percentage of each payment (after subtracting interest) is reported as installment sale income. Taxes hrblock This percentage is called the gross profit percentage and is figured by dividing your gross profit from the sale by the contract price. Taxes hrblock   The gross profit percentage generally remains the same for each payment you receive. Taxes hrblock However, see the example under Selling price reduced , later, for a situation where the gross profit percentage changes. Taxes hrblock Amount to report as installment sale income. Taxes hrblock   Multiply the payments you receive each year (less interest) by the gross profit percentage. Taxes hrblock The result is your installment sales income for the tax year. Taxes hrblock In certain circumstances, you may be treated as having received a payment, even though you received nothing directly. Taxes hrblock A receipt of property or the assumption of a mortgage on the property sold may be treated as a payment. Taxes hrblock For a detailed discussion, see Payments Received or Considered Received , later. Taxes hrblock Selling price reduced. Taxes hrblock   If the selling price is reduced at a later date, the gross profit on the sale also will change. Taxes hrblock You then must refigure the gross profit percentage for the remaining payments. Taxes hrblock Refigure your gross profit using Worksheet 10-2. Taxes hrblock New Gross Profit Percentage — Selling Price Reduced. Taxes hrblock You will spread any remaining gain over future installments. Taxes hrblock    Worksheet 10-2. Taxes hrblock New Gross Profit Percentage — Selling Price Reduced 1. Taxes hrblock Enter the reduced selling  price for the property   2. Taxes hrblock Enter your adjusted  basis for the  property     3. Taxes hrblock Enter your selling  expenses     4. Taxes hrblock Enter any depreciation  recapture     5. Taxes hrblock Add lines 2, 3, and 4. Taxes hrblock   6. Taxes hrblock Subtract line 5 from line 1. Taxes hrblock  This is your adjusted  gross profit   7. Taxes hrblock Enter any installment sale  income reported in  prior year(s)   8. Taxes hrblock Subtract line 7 from line 6   9. Taxes hrblock Future installments     10. Taxes hrblock Divide line 8 by line 9. Taxes hrblock  This is your new  gross profit percentage*. Taxes hrblock   * Apply this percentage to all future payments to determine how much of each of those payments is installment sale income. Taxes hrblock Example. Taxes hrblock In 2011, you sold land with a basis of $40,000 for $100,000. Taxes hrblock Your gross profit was $60,000. Taxes hrblock You received a $20,000 down payment and the buyer's note for $80,000. Taxes hrblock The note provides for monthly payments of $1,953 each, figured at 8% interest, amortized over four years, beginning in January 2012. Taxes hrblock Your gross profit percentage was 60%. Taxes hrblock You received the down payment of $20,000 in 2011 and total payments of $23,436 in 2012, of which $17,675 was principal and $5,761 was interest according to the amortization schedule. Taxes hrblock You reported a gain of $12,000 on the down payment received in 2011 and $10,605 ($17,675 X 60% (. Taxes hrblock 60)) in 2012. Taxes hrblock In January 2013, you and the buyer agreed to reduce the purchase price to $85,000 and payments during 2013, 2014, and 2015 are reduced to $1,483 a month amortized over the remaining three years. Taxes hrblock The new gross profit percentage, 47. Taxes hrblock 32%, is figured in Example — Worksheet 10-2. Taxes hrblock Example — Worksheet 10-2. Taxes hrblock New Gross Profit Percentage — Selling Price Reduced 1. Taxes hrblock Enter the reduced selling  price for the property 85,000 2. Taxes hrblock Enter your adjusted  basis for the  property 40,000   3. Taxes hrblock Enter your selling  expenses -0-   4. Taxes hrblock Enter any depreciation  recapture -0-   5. Taxes hrblock Add lines 2, 3, and 4. Taxes hrblock 40,000 6. Taxes hrblock Subtract line 5 from line 1. Taxes hrblock  This is your adjusted  gross profit 45,000 7. Taxes hrblock Enter any installment sale  income reported in  prior year(s) 22,605 8. Taxes hrblock Subtract line 7 from line 6 22,395 9. Taxes hrblock Future installments   47,325 10. Taxes hrblock Divide line 8 by line 9. Taxes hrblock  This is your new  gross profit percentage*. Taxes hrblock 47. Taxes hrblock 32% * Apply this percentage to all future payments to determine how much of each of those payments is installment sale income. Taxes hrblock You will report installment sale income of $6,878 (47. Taxes hrblock 32% of $14,535) in 2013, $7,449 (47. Taxes hrblock 32% of $15,742) in 2014, and $8,067 (47. Taxes hrblock 32% of $17,048) in 2015. Taxes hrblock Form 6252. Taxes hrblock   Use Form 6252 to report an installment sale in the year it takes place and to report payments received, or considered received because of related party resales, in later years. Taxes hrblock Attach it to your tax return for each year. Taxes hrblock Disposition of Installment Obligation If you are using the installment method and you dispose of the installment obligation, generally you will have a gain or loss to report. Taxes hrblock It is considered gain or loss on the sale of the property for which you received the installment obligation. Taxes hrblock Cancellation. Taxes hrblock   If an installment obligation is canceled or otherwise becomes unenforceable, it is treated as a disposition other than a sale or exchange. Taxes hrblock Your gain or loss is the difference between your basis in the obligation and its fair market value (FMV) at the time you cancel it. Taxes hrblock If the parties are related, the FMV of the obligation is considered to be no less than its full face value. Taxes hrblock Transfer due to death. Taxes hrblock   The transfer of an installment obligation (other than to a buyer) as a result of the death of the seller is not a disposition. Taxes hrblock Any unreported gain from the installment obligation is not treated as gross income to the decedent. Taxes hrblock No income is reported on the decedent's return due to the transfer. Taxes hrblock Whoever receives the installment obligation as a result of the seller's death is taxed on the installment payments the same as the seller would have been had the seller lived to receive the payments. Taxes hrblock   However, if the installment obligation is canceled, becomes unenforceable, or is transferred to the buyer because of the death of the holder of the obligation, it is a disposition. Taxes hrblock The estate must figure its gain or loss on the disposition. Taxes hrblock If the holder and the buyer were related, the FMV of the installment obligation is considered to be no less than its full face value. Taxes hrblock More information. Taxes hrblock   For more information on the disposition of an installment obligation, see Publication 537. Taxes hrblock Sale of depreciable property. Taxes hrblock   You generally cannot report gain from the sale of depreciable property to a related person on the installment method. Taxes hrblock See Sale to a Related Person in Publication 537. Taxes hrblock   You cannot use the installment method to report any depreciation recapture income up to the gain on the sale. Taxes hrblock However, report any gain greater than the recapture income on the installment method. Taxes hrblock   The recapture income reported in the year of sale is included in your installment sale basis to determine your gross profit on the installment sale. Taxes hrblock   Figure your depreciation recapture income (including the section 179 deduction and the section 179A deduction recapture) in Part III of Form 4797. Taxes hrblock Report the depreciation recapture income in Part II of Form 4797 as ordinary income in the year of sale. Taxes hrblock    If you sell depreciable business property, prepare Form 4797 first in order to figure the amount to enter on line 12 of Part I, Form 6252. Taxes hrblock See the Form 6252 instructions for details. Taxes hrblock   For more information on the section 179 deduction, see Section 179 Expense Deduction in chapter 7. Taxes hrblock For more information on depreciation recapture, see Depreciation Recapture in  chapter 9. Taxes hrblock Payments Received or Considered Received You must figure your gain each year on the payments you receive, or are treated as receiving, from an installment sale. Taxes hrblock In certain situations, you are considered to have received a payment, even though the buyer does not pay you directly. Taxes hrblock These situations occur when the buyer assumes or pays any of your debts, such as a loan, or pays any of your expenses, such as a sales commission. Taxes hrblock However, as discussed later, the buyer's assumption of your debt is treated as a recovery of basis, rather than as a payment, in many cases. Taxes hrblock Buyer pays seller's expenses. Taxes hrblock   If the buyer pays any of your expenses related to the sale of your property, it is considered a payment to you in the year of sale. Taxes hrblock Include these expenses in the selling and contract prices when figuring the gross profit percentage. Taxes hrblock Buyer assumes mortgage. Taxes hrblock   If the buyer assumes or pays off your mortgage, or otherwise takes the property subject to the mortgage, the following rules apply. Taxes hrblock Mortgage less than basis. Taxes hrblock   If the buyer assumes a mortgage that is not more than your installment sale basis in the property, it is not considered a payment to you. Taxes hrblock It is considered a recovery of your basis. Taxes hrblock The contract price is the selling price minus the mortgage. Taxes hrblock Example. Taxes hrblock You sell property with an adjusted basis of $19,000. Taxes hrblock You have selling expenses of $1,000. Taxes hrblock The buyer assumes your existing mortgage of $15,000 and agrees to pay you $10,000 (a cash down payment of $2,000 and $2,000 (plus 8% interest) in each of the next 4 years). Taxes hrblock The selling price is $25,000 ($15,000 + $10,000). Taxes hrblock Your gross profit is $5,000 ($25,000 − $20,000 installment sale basis). Taxes hrblock The contract price is $10,000 ($25,000 − $15,000 mortgage). Taxes hrblock Your gross profit percentage is 50% ($5,000 ÷ $10,000). Taxes hrblock You report half of each $2,000 payment received as gain from the sale. Taxes hrblock You also report all interest you receive as ordinary income. Taxes hrblock Mortgage more than basis. Taxes hrblock   If the buyer assumes a mortgage that is more than your installment sale basis in the property, you recover your entire basis. Taxes hrblock The part of the mortgage greater than your basis is treated as a payment received in the year of sale. Taxes hrblock   To figure the contract price, subtract the mortgage from the selling price. Taxes hrblock This is the total amount (other than interest) you will receive directly from the buyer. Taxes hrblock Add to this amount the payment you are considered to have received (the difference between the mortgage and your installment sale basis). Taxes hrblock The contract price is then the same as your gross profit from the sale. Taxes hrblock    If the mortgage the buyer assumes is equal to or more than your installment sale basis, the gross profit percentage always will be 100%. Taxes hrblock Example. Taxes hrblock The selling price for your property is $9,000. Taxes hrblock The buyer will pay you $1,000 annually (plus 8% interest) over the next 3 years and assume an existing mortgage of $6,000. Taxes hrblock Your adjusted basis in the property is $4,400. Taxes hrblock You have selling expenses of $600, for a total installment sale basis of $5,000. Taxes hrblock The part of the mortgage that is more than your installment sale basis is $1,000 ($6,000 − $5,000). Taxes hrblock This amount is included in the contract price and treated as a payment received in the year of sale. Taxes hrblock The contract price is $4,000: Selling price $9,000 Minus: Mortgage (6,000) Amount actually received $3,000 Add difference:   Mortgage $6,000   Minus: Installment sale basis 5,000 1,000 Contract price $4,000   Your gross profit on the sale is also $4,000: Selling price $9,000 Minus: Installment sale basis (5,000) Gross profit $4,000   Your gross profit percentage is 100%. Taxes hrblock Report 100% of each payment (less interest) as gain from the sale. Taxes hrblock Treat the $1,000 difference between the mortgage and your installment sale basis as a payment and report 100% of it as gain in the year of sale. Taxes hrblock Buyer assumes other debts. Taxes hrblock   If the buyer assumes any other debts, such as a loan or back taxes, it may be considered a payment to you in the year of sale. Taxes hrblock   If the buyer assumes the debt instead of paying it off, only part of it may have to be treated as a payment. Taxes hrblock Compare the debt to your installment sale basis in the property being sold. Taxes hrblock If the debt is less than your installment sale basis, none of it is treated as a payment. Taxes hrblock If it is more, only the difference is treated as a payment. Taxes hrblock If the buyer assumes more than one debt, any part of the total that is more than your installment sale basis is considered a payment. Taxes hrblock These rules are the same as the rules discussed earlier under Buyer assumes mortgage . Taxes hrblock However, they apply only to the following types of debt the buyer assumes. Taxes hrblock Those acquired from ownership of the property you are selling, such as a mortgage, lien, overdue interest, or back taxes. Taxes hrblock Those acquired in the ordinary course of your business, such as a balance due for inventory you purchased. Taxes hrblock   If the buyer assumes any other type of debt, such as a personal loan or your legal fees relating to the sale, it is treated as if the buyer had paid off the debt at the time of the sale. Taxes hrblock The value of the assumed debt is then considered a payment to you in the year of sale. Taxes hrblock Property used as a payment. Taxes hrblock   If you receive property rather than money from the buyer, it is still considered a payment in the year received. Taxes hrblock However, see Trading property for like-kind property , later. Taxes hrblock Generally, the amount of the payment is the property's FMV on the date you receive it. Taxes hrblock Exception. Taxes hrblock   If the property the buyer gives you is payable on demand or readily tradable (see examples later), the amount you should consider as payment in the year received is: The FMV of the property on the date you receive it if you use the cash method of accounting, The face amount of the obligation on the date you receive it if you use an accrual method of accounting, or The stated redemption price at maturity less any original issue discount (OID) or, if there is no OID, the stated redemption price at maturity appropriately discounted to reflect total unstated interest. Taxes hrblock See Unstated interest , later. Taxes hrblock Examples. Taxes hrblock If you receive a note from the buyer as payment, and the note stipulates that you can demand payment from the buyer at any time, the note is payable on demand. Taxes hrblock If you receive marketable securities from the buyer as payment, and you can sell the securities on an established securities market (such as the New York Stock Exchange) at any time, the securities are readily tradable. Taxes hrblock In these examples, use the above rules to determine the amount you should consider as payment in the year received. Taxes hrblock Debt not payable on demand. Taxes hrblock   Any evidence of debt you receive from the buyer that is not payable on demand is not considered a payment. Taxes hrblock This is true even if the debt is guaranteed by a third party, including a government agency. Taxes hrblock Fair market value (FMV). Taxes hrblock   This is the price at which property would change hands between a willing buyer and a willing seller, neither being under any compulsion to buy or sell and both having a reasonable knowledge of all the necessary facts. Taxes hrblock Third-party note. Taxes hrblock   If the property the buyer gives you is a third-party note (or other obligation of a third party), you are considered to have received a payment equal to the note's FMV. Taxes hrblock Because the FMV of the note is itself a payment on your installment sale, any payments you later receive from the third party are not considered payments on the sale. Taxes hrblock The excess of the note's face value over its FMV is interest. Taxes hrblock Exclude this interest in determining the selling price of the property. Taxes hrblock However, see Exception under Property used as a payment , earlier. Taxes hrblock Example. Taxes hrblock You sold real estate in an installment sale. Taxes hrblock As part of the down payment, the buyer assigned to you a $50,000, 8% third-party note. Taxes hrblock The FMV of the third-party note at the time of the sale was $30,000. Taxes hrblock This amount, not $50,000, is a payment to you in the year of sale. Taxes hrblock The third-party note had an FMV equal to 60% of its face value ($30,000 ÷ $50,000), so 60% of each principal payment you receive on this note is a nontaxable return of capital. Taxes hrblock The remaining 40% is interest taxed as ordinary income. Taxes hrblock Bond. Taxes hrblock   A bond or other evidence of debt you receive from the buyer that is payable on demand or readily tradable in an established securities market is treated as a payment in the year you receive it. Taxes hrblock For more information on the amount you should treat as a payment, see Exception under Property used as a payment , earlier. Taxes hrblock   If you receive a government or corporate bond for a sale before October 22, 2004, and the bond has interest coupons attached or can be readily traded in an established securities market, you are considered to have received payment equal to the bond's FMV. Taxes hrblock However, see Exception under Property used as a payment , earlier. Taxes hrblock Buyer's note. Taxes hrblock   The buyer's note (unless payable on demand) is not considered payment on the sale. Taxes hrblock However, its full face value is included when figuring the selling price and the contract price. Taxes hrblock Payments you receive on the note are used to figure your gain in the year received. Taxes hrblock Sale to a related person. Taxes hrblock   If you sell depreciable property to a related person and the sale is an installment sale, you may not be able to report the sale using the installment method. Taxes hrblock For information on these rules, see the Instructions for Form 6252 and Sale to a Related Person in Publication 537. Taxes hrblock Trading property for like-kind property. Taxes hrblock   If you trade business or investment property solely for the same kind of property to be held as business or investment property, you can postpone reporting the gain. Taxes hrblock See Like-Kind Exchanges in chapter 8 for a discussion of like-kind property. Taxes hrblock   If, in addition to like-kind property, you receive an installment obligation in the exchange, the following rules apply to determine installment sale income each year. Taxes hrblock The contract price is reduced by the FMV of the like-kind property received in the trade. Taxes hrblock The gross profit is reduced by any gain on the trade that can be postponed. Taxes hrblock Like-kind property received in the trade is not considered payment on the installment obligation. Taxes hrblock Unstated interest. Taxes hrblock   An installment sale contract may provide that each deferred payment on the sale will include interest or that there will be an interest payment in addition to the principal payment. Taxes hrblock Interest provided in the contract is called stated interest. Taxes hrblock   If an installment sale contract does not provide for adequate stated interest, part of the stated principal amount of the contract may be recharacterized as interest. Taxes hrblock If Internal Revenue Code section 483 applies to the contract, this interest is called unstated interest. Taxes hrblock   If Internal Revenue Code section 1274 applies to the contract, this interest is called original issue discount (OID). Taxes hrblock   Generally, if a buyer gives a debt in consideration for personal use property, the unstated interest rules do not apply. Taxes hrblock Therefore, the buyer cannot deduct the unstated interest. Taxes hrblock The seller must report the unstated interest as income. Taxes hrblock Personal-use property is any property in which substantially all of its use by the buyer is not in connection with a trade or business or an investment activity. Taxes hrblock   If the debt is subject to the Internal Revenue Code section 483 rules and is also subject to the below-market loan rules, such as a gift loan, compensation-related loan or corporation-shareholder loan, then both parties are subject to the below-market loan rules rather than the unstated interest rules. Taxes hrblock   Unstated interest reduces the stated selling price of the property and the buyer's basis in the property. Taxes hrblock It increases the seller's interest income and the buyer's interest expense. Taxes hrblock   In general, an installment sale contract provides for adequate stated interest if the stated interest rate (based on an appropriate compounding period) is at least equal to the applicable federal rate (AFR). Taxes hrblock    The AFRs are published monthly in the Internal Revenue Bulletin (IRB). Taxes hrblock You can get this information by contacting an IRS office. Taxes hrblock IRBs are also available at IRS. Taxes hrblock gov. Taxes hrblock More information. Taxes hrblock   For more information, see Unstated Interest and Original Issue Discount (OID) in Publication 537. Taxes hrblock Example. Taxes hrblock You sell property at a contract price of $6,000 and your gross profit is $1,500. Taxes hrblock Your gross profit percentage is 25% ($1,500 ÷ $6,000). Taxes hrblock After subtracting interest, you report 25% of each payment, including the down payment, as installment sale income from the sale for the tax year you receive the payment. Taxes hrblock The remainder (balance) of each payment is the tax-free return of your adjusted basis. Taxes hrblock Example On January 3, 2013, you sold your farm, including the home, farm land and buildings. Taxes hrblock You received $50,000 down and the buyer's note for $200,000. Taxes hrblock In addition, the buyer assumed an outstanding $50,000 mortgage on the farm land. Taxes hrblock The total selling price was $300,000. Taxes hrblock The note payments of $25,000 each, plus adequate interest, are due every July 1 and January 1, beginning in July 2013. Taxes hrblock Your selling expenses were $15,000. Taxes hrblock Adjusted basis and depreciation. Taxes hrblock   The adjusted basis and depreciation claimed on each asset sold are as follows:   Depreciation Adjusted Asset Claimed Basis Home* -0- $33,743 Farm land -0- 73,610 Buildings $31,500 35,130 * Owned and used as main home for at least 2 of the 5 years prior to the sale Gain on each asset. Taxes hrblock   The following schedule shows the assets included in the sale, each asset's selling price based on its respective value, the selling expense allocated to each asset, the adjusted basis of each asset, and the gain on each asset. Taxes hrblock The selling expense for each asset is 5% of the selling price ($15,000 selling expense ÷ $300,000 selling price). Taxes hrblock   Selling Selling Adjusted     Price Expense Basis Gain Home* $60,000 $3,000 $33,743 $23,257 Farm land  165,000  8,250  73,610  83,140 Buildings 75,000 3,750 35,130 36,120   $300,000 $15,000 $142,483 $142,517 * Owned and used as main home for at least 2 of the 5 years prior to the sale Depreciation recapture. Taxes hrblock   The buildings are section 1250 property. Taxes hrblock There is no depreciation recapture income for them because they were depreciated using the straight line method. Taxes hrblock See chapter 9 for more information on depreciation recapture. Taxes hrblock   Special rules may apply when you sell section 1250 assets depreciated under the straight line method. Taxes hrblock See the Unrecaptured Section 1250 Gain Worksheet in the Instructions for Schedule D (Form 1040). Taxes hrblock See chapter 3 of Publication 544, Sales and Other Dispositions of Assets, for more information on section 1250 assets. Taxes hrblock Installment sale basis and gross profit. Taxes hrblock   The following table shows each asset reported on the installment method, its selling price, installment sale basis, and gross profit. Taxes hrblock     Installment     Selling Sale Gross   Price Basis Profit Farm land $165,000 $73,610 $83,140 Buildings 75,000 35,130 36,120   $240,000 $108,740 $119,260 Section 1231 gains. Taxes hrblock   The gain on the farm land and buildings is reported as section 1231 gains. Taxes hrblock See Section 1231 Gains and Losses in chapter 9. Taxes hrblock Contract price and gross profit percentage. Taxes hrblock   The contract price is $250,000 for the part of the sale reported on the installment method. Taxes hrblock This is the selling price ($300,000) minus the mortgage assumed ($50,000). Taxes hrblock   Gross profit percentage for the sale is 47. Taxes hrblock 70% ($119,260 gross profit ÷ $250,000 contract price). Taxes hrblock The gross profit percentage for each asset is figured as follows:   Percent Farm land ($83,140 ÷ $250,000) 33. Taxes hrblock 256 Buildings ($36,120 ÷ $250,000) 14. Taxes hrblock 448 Total 47. Taxes hrblock 70 Figuring the gain to report on the installment method. Taxes hrblock   One hundred percent (100%) of each payment is reported on the installment method. Taxes hrblock The total amount received on the sale in 2013 is $75,000 ($50,000 down payment + $25,000 payment on July 1). Taxes hrblock The installment sale part of the total payments received in 2013 is also $75,000. Taxes hrblock Figure the gain to report for each asset by multiplying its gross profit percentage times $75,000. Taxes hrblock   Income Farm land—33. Taxes hrblock 256% × $75,000 $24,942 Buildings—14. Taxes hrblock 448% × $75,000 10,836 Total installment income for 2013 $35,778 Reporting the sale. Taxes hrblock   Report the installment sale on Form 6252. Taxes hrblock Then report the amounts from Form 6252 on Form 4797 and Schedule D (Form 1040). Taxes hrblock Attach a separate page to Form 6252 that shows the computations in the example. Taxes hrblock If you sell depreciable business property, prepare Form 4797 first in order to figure the amount to enter on line 12 of Part I, Form 6252. Taxes hrblock Section 1231 gains. Taxes hrblock   The gains on the farm land and buildings are section 1231 gains. Taxes hrblock They may be reported as either capital or ordinary gain depending on the net balance when combined with other section 1231 losses. Taxes hrblock A net 1231 gain is capital gain and a net 1231 loss is an ordinary loss. Taxes hrblock Installment income for years after 2013. Taxes hrblock   You figure installment income for the years after 2013 by applying the same gross profit percentages to the payments you receive each year. Taxes hrblock If you receive $50,000 during the year, the entire $50,000 is considered received on the installment sale (100% × $50,000). Taxes hrblock You realize income as follows:   Income Farm land—33. Taxes hrblock 256% × $50,000 $16,628 Buildings—14. Taxes hrblock 448% × $50,000 7,224 Total installment income $23,852   In this example, no gain ever is recognized from the sale of your home. Taxes hrblock You will combine your section 1231 gains from this sale with section 1231 gains and losses from other sales in each of the later years to determine whether to report them as ordinary or capital gains. Taxes hrblock The interest received with each payment will be included in full as ordinary income. Taxes hrblock Summary. Taxes hrblock   The installment income (rounded to the nearest dollar) from the sale of the farm is reported as follows: Selling price $190,000 Minus: Installment basis (108,740) Gross profit $81,260     Gain reported in 2012 (year of sale) $35,778 Gain reported in 2013:   $50,000 × 47. Taxes hrblock 70% 23,850 Gain reported in 2014:   $50,000 × 47. Taxes hrblock 70% 23,850 Gain reported in 2015:   $50,000 × 47. Taxes hrblock 70% 23,850 Gain reported in 2016:   $25,000 × 47. Taxes hrblock 70% 11,925 Total gain reported $119,253 Prev  Up  Next   Home   More Online Publications