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ABC Accounting Group
ABC Accounting Group, Business Consultant/CPA
Category: Capital Gains and Losses
Satisfied Customers: 708
Experience:  Accounting Manager
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I want to sell a piece of property and carry the note how

Customer Question

i want to sell a piece of property and carry the note how will this effect my taxes
JA: The accountant will know how to help. Please tell me more, so we can help you best.
Customer: i bought this proprty several years ago for 165 K i want to sell it for 200 K and carry the note at a simple 8%
JA: Is there anything else the accountant should be aware of?
Customer: i have paid the proprty taxes and had a road built for about 12K
Submitted: 10 months ago.
Category: Capital Gains and Losses
Customer: replied 10 months ago.
Would this sale be considered taxable income
Expert:  ABC Accounting Group replied 10 months ago.

Great Question.

It sounds like an installment sale.

Your gain would be deferred.

You can add the road to the cost you originally paid for the property and any closing costs

Each installment payment on a home usually consists of three elements:

a partial return of the seller’s adjusted basis in the property sold, which is not taxable to the seller,

a portion of the your realized gain on the sale, which is taxable as a capital gain, and

accrued interest, which is taxable as ordinary interest income.

Each year, as you receive payments from an installment sale, you have to determine how much of the year’s payments is taxable as capital gains and how much is a nontaxable recovery of the your cost basis. The tax payer multiplies the non-interest portion of the total payments received in that year by the gross profit ratio for the sale.

The gross profit ratio is the your total anticipated gross profit, divided by the total contract price. The anticipated gross profit is the contract price less your adjusted basis starts with the original purchase price, including initial closing costs: then increased by any capital improvements and the selling expenses incurred in the sale: then reduced by any depreciation taken, or that could have been taken, during the time of your ownership.

The “contract price” is equal to the selling price, reduced by the amount of any qualifying indebtedness which is assumed or taken subject to by the buyer. Qualifying indebtedness may include any a mortgage or other debt encumbering the property, plus any debt that is incurred or assumed by the buyer incident to the buyers’ acquisition.

Qualifying indebtedness is, however, limited to your adjusted basis in the property. Thus, if you have refinanced the property and taken cash in an amount that creates indebtedness greater than your adjusted basis, the qualified indebtedness for purposes of calculating the contract price is limited to the adjusted basis. In other words, the gross profit percentage can never be greater than 100%. Note that the lender holding any existing mortgage must approve any loan assumption.

Consider the following example of the sale of raw land. In Year 1, Seller sold Black Acre to Buyer. Buyer paid $200,000 in cash at closing and agreed to assume the current $200,000 mortgage. Seller agreed to seller-finance $800,000 of the purchase price over a five-year installment note, with the first installment being due in Year 2.

Selling price for Property

$1,200,000

Less: Mortgage assumed by Buyer

(200,000)

The “contract price”

$1,000,000

Selling price for Property

$1,200,000

Adjusted Basis

(720,000)

Selling Expenses

(80,000)

Gross Profit

$400,000

The gross profit of $400,000 is divided by the contract price of $1,000,000 to determine a gross profit ratio of 40 percent. In applying the gross profit percentage of 40 percent to the $200,000 of cash received in Year 1, the Seller will recognize $80,000 of gain in the year of the sale. If the principal portion of the payments received by Seller in Year 2 is equal to $160,000, Seller will recognize gain in Year 2 equal to 40 percent of $160,000, or $64,000. (An example for real property that depreciates (such as an office building) would be more complicated because the IRS taxes the gain from appreciation at a maximum rate of 15% and the gain resulting from the tax depreciation at 25%.)

Customer: replied 10 months ago.
I am selling the property for a total (property plus interest ) of 216,000 dollars how can I have a profit of 400 thousand?
Expert:  ABC Accounting Group replied 10 months ago.

Hi. That was an example.

Expert:  ABC Accounting Group replied 10 months ago.

You would put your own numbers in.

Customer: replied 10 months ago.
Can you simplify the math? I paid 165,000 put in a road for 15,000 and pay property tax of 700 dollars more or less each year. At the end of 9 years I will have collected a total of 216,000 from the buyer. Is it taxable income?
Expert:  ABC Accounting Group replied 10 months ago.

Yes - It would be taxable income, but would be pro-rated over the years you receive the cash back from the buyers.

You would have a gain of 36,000 (216k less 165k, less 15k).

You take the 36,000/216000 = @ 17%

The 17% would be multiplied by the cash received for the year to get the gain for that year.

Customer: replied 10 months ago.
4080 dollars each year is taxable income?
Expert:  ABC Accounting Group replied 10 months ago.

Yes - if you are receiving @ 25.5k per year.

Customer: replied 10 months ago.
24,000 (the total payments for one year) x .17 gives me 4080 I don't understand the math!
Expert:  ABC Accounting Group replied 10 months ago.

The total % is actually 16.66666% per year - you take the % and times it by 24k = $4,000 per year. This is your total number per year of taxable income.

Customer: replied 10 months ago.
Thank you!
Expert:  ABC Accounting Group replied 10 months ago.

You are welcome. Have a great day.