INSTALLMENT SALES CAN HELP YOU AVOID CAPITAL GAINS TAXES
Posted by Danielle Dani Purcell on Sunday, February 23rd, 2014 at 10:16am.
okay.. you have investment property and you do not want to pay all capitol gains now.. Carry back the paper or part of it.
INSTALLMENT SALES CAN HELP YOU AVOID CAPITAL GAINS TAXES
Sara was in a quandary. The north of Wilshire resident wanted to sell an income property down south and was looking to do a reverse 1031 exchange. She spent months looking for a commercially zoned creative space on the West side of town because she did not want to give the government 15% capital gains tax state withholding taxes on the sale, and various other tax fees.
“They were taking a huge chunk of the profits from the sale, but other than trying to find an exchange property, I didn’t really know what else I could do about it,” revealed Sara.
As we are in a seller’s market, with a mediocre selection of properties, an installment sale is a viable option for investment properties holders who stand to net gain is more than $500,000 on the sale of their property.
"You get the use of the tax amount that you would normally pay and you get to turn interest on this," stated Donald Schmidt, a certified public accountant and real estate broker for Richland Properties. "The installment sale process should be used more."
Real estate installment sales, which are reported on tax form 6252, work like a loan from the seller to the buyer. The two parties determine the time period of the loan and a fair interest rate for the money that will be paid out.
From the seller's point of view, an installment generates a steady income stream. It also might allow a property owner to sell for a higher price to someone who might not qualify for a mortgage - or to dispose of a piece of property that has been difficult to sell.
Schmidt notes that in the current market, the seller could get a rate of about 8 percent. He also advised that fees and closing costs are significantly less since lenders do not get involved.
THE DETAILS OF INSTALLMENT SALES
If you have a taxable profit on the sale of real estate, business property or personal effects, the tax law allows you to be paid in installments that may stretch out over years. The advantage is that you don't have to report the gain on your tax return until you receive the money, so the sale won't push you into a higher tax bracket or boost your income to a level where you lose tax benefits. The disadvantage is that you don't get all of the money right away.
The terms of the loan or "carryback" vary, depending on the agreement between the seller and buyer. Typically, in an installment sale, the buyer puts down 20 percent to 30 percent of the sale price up front and pays the remainder in regular increments for a designated length of time, or in a lump sum at the end of the loan period. The seller collects interest on a regular basis throughout the life of the loan. As a result, he or she must pay capital gains tax on the lump sum amount in the first year, but not on the dollars still outstanding.
In each year following, the seller pays capital gains tax on the amount that came in from the sale in that particular year, plus income tax on the interest.
A very basic example is if the total sale were $400,000, with the buyer paying 25 percent, or $100,000 up front. The remaining $300,000 would be due at the end of a 10-year term and the seller would make $30,000 per year in interest income - at an annual interest rate of 10 percent.
Each interim year, the seller would get taxed only on the $30,000. In the tenth year, the seller would pay taxes on this interest income plus a capital gains tax on the $300,000 changing hands.
The major risk involved in this type of sale is the possible default by the borrower. Experts advise the seller to require 20 percent to 30 percent up front so the buyer has some equity in the property, should the borrower default - forcing the seller to foreclose. That equity could cover the cost to the seller of foreclosing and reselling the property.
For more information, consult your accountant
INSTALLMENT SALES CAN HELP YOU AVOID CAPITAL GAINS TAXES
Sara was in a quandary. The north of Wilshire resident wanted to sell an income property down south and was looking to do a reverse 1031 exchange. She spent months looking for a commercially zoned creative space on the West side of town because she did not want to give the government 15% capital gains tax state withholding taxes on the sale, and various other tax fees.
“They were taking a huge chunk of the profits from the sale, but other than trying to find an exchange property, I didn’t really know what else I could do about it,” revealed Sara.
As we are in a seller’s market, with a mediocre selection of properties, an installment sale is a viable option for investment properties holders who stand to net gain is more than $500,000 on the sale of their property.
"You get the use of the tax amount that you would normally pay and you get to turn interest on this," stated Donald Schmidt, a certified public accountant and real estate broker for Richland Properties. "The installment sale process should be used more."
Real estate installment sales, which are reported on tax form 6252, work like a loan from the seller to the buyer. The two parties determine the time period of the loan and a fair interest rate for the money that will be paid out.
From the seller's point of view, an installment generates a steady income stream. It also might allow a property owner to sell for a higher price to someone who might not qualify for a mortgage - or to dispose of a piece of property that has been difficult to sell.
Schmidt notes that in the current market, the seller could get a rate of about 8 percent. He also advised that fees and closing costs are significantly less since lenders do not get involved.
THE DETAILS OF INSTALLMENT SALES
If you have a taxable profit on the sale of real estate, business property or personal effects, the tax law allows you to be paid in installments that may stretch out over years. The advantage is that you don't have to report the gain on your tax return until you receive the money, so the sale won't push you into a higher tax bracket or boost your income to a level where you lose tax benefits. The disadvantage is that you don't get all of the money right away.
The terms of the loan or "carryback" vary, depending on the agreement between the seller and buyer. Typically, in an installment sale, the buyer puts down 20 percent to 30 percent of the sale price up front and pays the remainder in regular increments for a designated length of time, or in a lump sum at the end of the loan period. The seller collects interest on a regular basis throughout the life of the loan. As a result, he or she must pay capital gains tax on the lump sum amount in the first year, but not on the dollars still outstanding.
In each year following, the seller pays capital gains tax on the amount that came in from the sale in that particular year, plus income tax on the interest.
A very basic example is if the total sale were $400,000, with the buyer paying 25 percent, or $100,000 up front. The remaining $300,000 would be due at the end of a 10-year term and the seller would make $30,000 per year in interest income - at an annual interest rate of 10 percent.
Each interim year, the seller would get taxed only on the $30,000. In the tenth year, the seller would pay taxes on this interest income plus a capital gains tax on the $300,000 changing hands.
The major risk involved in this type of sale is the possible default by the borrower. Experts advise the seller to require 20 percent to 30 percent up front so the buyer has some equity in the property, should the borrower default - forcing the seller to foreclose. That equity could cover the cost to the seller of foreclosing and reselling the property.
For more information, consult your accountant
Hope You Found This Information Helpful!
Thank You,
Danielle Purcell
Team Laguna Real Estate
Owner/Broker
01063725
949-874-1187
Thank You,
Danielle Purcell
Team Laguna Real Estate
Owner/Broker
01063725
949-874-1187