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Amendment Forms

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Amendment Forms

Amendment forms 4. Amendment forms   Special Situations Table of Contents Condominiums CooperativesDepreciation Property Changed to Rental UseBasis of Property Changed to Rental Use Figuring the Depreciation Deduction Renting Part of Property Not Rented for ProfitPostponing decision. Amendment forms Example—Property Changed to Rental Use This chapter discusses some rental real estate activities that are subject to additional rules. Amendment forms Condominiums A condominium is most often a dwelling unit in a multi-unit building, but can also take other forms, such as a townhouse or garden apartment. Amendment forms If you own a condominium, you also own a share of the common elements, such as land, lobbies, elevators, and service areas. Amendment forms You and the other condominium owners may pay dues or assessments to a special corporation that is organized to take care of the common elements. Amendment forms Special rules apply if you rent your condominium to others. Amendment forms You can deduct as rental expenses all the expenses discussed in chapters 1 and 2. Amendment forms In addition, you can deduct any dues or assessments paid for maintenance of the common elements. Amendment forms You cannot deduct special assessments you pay to a condominium management corporation for improvements. Amendment forms However, you may be able to recover your share of the cost of any improvement by taking depreciation. Amendment forms Cooperatives If you live in a cooperative, you do not own your apartment. Amendment forms Instead, a corporation owns the apartments and you are a tenant-stockholder in the cooperative housing corporation. Amendment forms If you rent your apartment to others, you usually can deduct, as a rental expense, all the maintenance fees you pay to the cooperative housing corporation. Amendment forms In addition to the maintenance fees paid to the cooperative housing corporation, you can deduct your direct payments for repairs, upkeep, and other rental expenses, including interest paid on a loan used to buy your stock in the corporation. Amendment forms Depreciation You will be depreciating your stock in the corporation rather than the apartment itself. Amendment forms Figure your depreciation deduction as follows. Amendment forms Figure the depreciation for all the depreciable real property owned by the corporation. Amendment forms (Depreciation methods are discussed in chapter 2 of this publication and Publication 946. Amendment forms ) If you bought your cooperative stock after its first offering, figure the depreciable basis of this property as follows. Amendment forms Multiply your cost per share by the total number of outstanding shares. Amendment forms Add to the amount figured in (a) any mortgage debt on the property on the date you bought the stock. Amendment forms Subtract from the amount figured in (b) any mortgage debt that is not for the depreciable real property, such as the part for the land. Amendment forms Subtract from the amount figured in (1) any depreciation for space owned by the corporation that can be rented but cannot be lived in by tenant-stockholders. Amendment forms Divide the number of your shares of stock by the total number of shares outstanding, including any shares held by the corporation. Amendment forms Multiply the result of (2) by the percentage you figured in (3). Amendment forms This is your depreciation on the stock. Amendment forms Your depreciation deduction for the year cannot be more than the part of your adjusted basis (defined in chapter 2) in the stock of the corporation that is allocable to your rental property. Amendment forms Payments added to capital account. Amendment forms   Payments earmarked for a capital asset or improvement, or otherwise charged to the corporation's capital account are added to the basis of your stock in the corporation. Amendment forms For example, you cannot deduct a payment used to pave a community parking lot, install a new roof, or pay the principal of the corporation's mortgage. Amendment forms   Treat as a capital cost the amount you were assessed for capital items. Amendment forms This cannot be more than the amount by which your payments to the corporation exceeded your share of the corporation's mortgage interest and real estate taxes. Amendment forms   Your share of interest and taxes is the amount the corporation elected to allocate to you, if it reasonably reflects those expenses for your apartment. Amendment forms Otherwise, figure your share in the following manner. Amendment forms Divide the number of your shares of stock by the total number of shares outstanding, including any shares held by the corporation. Amendment forms Multiply the corporation's deductible interest by the number you figured in (1). Amendment forms This is your share of the interest. Amendment forms Multiply the corporation's deductible taxes by the number you figured in (1). Amendment forms This is your share of the taxes. Amendment forms Property Changed to Rental Use If you change your home or other property (or a part of it) to rental use at any time other than the beginning of your tax year, you must divide yearly expenses, such as taxes and insurance, between rental use and personal use. Amendment forms You can deduct as rental expenses only the part of the expense that is for the part of the year the property was used or held for rental purposes. Amendment forms You cannot deduct depreciation or insurance for the part of the year the property was held for personal use. Amendment forms However, you can include the home mortgage interest, qualified mortgage insurance premiums, and real estate tax expenses for the part of the year the property was held for personal use as an itemized deduction on Schedule A (Form 1040). Amendment forms Example. Amendment forms Your tax year is the calendar year. Amendment forms You moved from your home in May and started renting it out on June 1. Amendment forms You can deduct as rental expenses seven-twelfths of your yearly expenses, such as taxes and insurance. Amendment forms Starting with June, you can deduct as rental expenses the amounts you pay for items generally billed monthly, such as utilities. Amendment forms When figuring depreciation, treat the property as placed in service on June 1. Amendment forms Basis of Property Changed to Rental Use When you change property you held for personal use to rental use (for example, you rent your former home), the basis for depreciation will be the lesser of fair market value or adjusted basis on the date of conversion. Amendment forms Fair market value. Amendment forms   This is the price at which the property would change hands between a willing buyer and a willing seller, neither having to buy or sell, and both having reasonable knowledge of all the relevant facts. Amendment forms Sales of similar property, on or about the same date, may be helpful in figuring the fair market value of the property. Amendment forms Figuring the basis. Amendment forms   The basis for depreciation is the lesser of: The fair market value of the property on the date you changed it to rental use, or Your adjusted basis on the date of the change—that is, your original cost or other basis of the property, plus the cost of permanent additions or improvements since you acquired it, minus deductions for any casualty or theft losses claimed on earlier years' income tax returns and other decreases to basis. Amendment forms For other increases and decreases to basis, see Adjusted Basis in chapter 2. Amendment forms Example. Amendment forms Several years ago you built your home for $140,000 on a lot that cost you $14,000. Amendment forms Before changing the property to rental use this year, you added $28,000 of permanent improvements to the house and claimed a $3,500 casualty loss deduction for damage to the house. Amendment forms Part of the improvements qualified for a $500 residential energy credit, which you claimed on your 2010 tax return. Amendment forms Because land is not depreciable, you can only include the cost of the house when figuring the basis for depreciation. Amendment forms The adjusted basis of the house at the time of the change in its use was $164,000 ($140,000 + $28,000 − $3,500 − $500). Amendment forms On the date of the change in use, your property had a fair market value of $168,000, of which $21,000 was for the land and $147,000 was for the house. Amendment forms The basis for depreciation on the house is the fair market value on the date of the change ($147,000), because it is less than your adjusted basis ($164,000). Amendment forms Cooperatives If you change your cooperative apartment to rental use, figure your allowable depreciation as explained earlier. Amendment forms (Depreciation methods are discussed in chapter 2 of this publication and Publication 946. Amendment forms ) The basis of all the depreciable real property owned by the cooperative housing corporation is the smaller of the following amounts. Amendment forms The fair market value of the property on the date you change your apartment to rental use. Amendment forms This is considered to be the same as the corporation's adjusted basis minus straight line depreciation, unless this value is unrealistic. Amendment forms The corporation's adjusted basis in the property on that date. Amendment forms Do not subtract depreciation when figuring the corporation's adjusted basis. Amendment forms If you bought the stock after its first offering, the corporation's adjusted basis in the property is the amount figured in (1) under Depreciation (under Cooperatives, near the beginning of this chapter). Amendment forms The fair market value of the property is considered to be the same as the corporation's adjusted basis figured in this way minus straight line depreciation, unless the value is unrealistic. Amendment forms Figuring the Depreciation Deduction To figure the deduction, use the depreciation system in effect when you convert your residence to rental use. Amendment forms Generally, that will be MACRS for any conversion after 1986. Amendment forms Treat the property as placed in service on the conversion date. Amendment forms Example. Amendment forms Your converted residence (see previous example under Figuring the basis) was available for rent on August 1. Amendment forms Using Table 2-2d (see chapter 2), the percentage for Year 1 beginning in August is 1. Amendment forms 364% and the depreciation deduction for Year 1 is $2,005 ($147,000 × . Amendment forms 01364). Amendment forms Renting Part of Property If you rent part of your property, you must divide certain expenses between the part of the property used for rental purposes and the part of the property used for personal purposes, as though you actually had two separate pieces of property. Amendment forms You can deduct the expenses related to the part of the property used for rental purposes, such as home mortgage interest, qualified mortgage insurance premiums, and real estate taxes, as rental expenses on Schedule E (Form 1040). Amendment forms You can also deduct as rental expenses a portion of other expenses that normally are nondeductible personal expenses, such as expenses for electricity, or painting the outside of the house. Amendment forms There is no change in the types of expenses deductible for the personal-use part of your property. Amendment forms Generally, these expenses may be deducted only if you itemize your deductions on Schedule A (Form 1040). Amendment forms You cannot deduct any part of the cost of the first phone line even if your tenants have unlimited use of it. Amendment forms You do not have to divide the expenses that belong only to the rental part of your property. Amendment forms For example, if you paint a room that you rent, or if you pay premiums for liability insurance in connection with renting a room in your home, your entire cost is a rental expense. Amendment forms If you install a second phone line strictly for your tenant's use, all of the cost of the second line is deductible as a rental expense. Amendment forms You can deduct depreciation on the part of the house used for rental purposes as well as on the furniture and equipment you use for rental purposes. Amendment forms How to divide expenses. Amendment forms   If an expense is for both rental use and personal use, such as mortgage interest or heat for the entire house, you must divide the expense between rental use and personal use. Amendment forms You can use any reasonable method for dividing the expense. Amendment forms It may be reasonable to divide the cost of some items (for example, water) based on the number of people using them. Amendment forms The two most common methods for dividing an expense are (1) the number of rooms in your home, and (2) the square footage of your home. Amendment forms Example. Amendment forms You rent a room in your house. Amendment forms The room is 12 × 15 feet, or 180 square feet. Amendment forms Your entire house has 1,800 square feet of floor space. Amendment forms You can deduct as a rental expense 10% of any expense that must be divided between rental use and personal use. Amendment forms If your heating bill for the year for the entire house was $600, $60 ($600 × . Amendment forms 10) is a rental expense. Amendment forms The balance, $540, is a personal expense that you cannot deduct. Amendment forms Duplex. Amendment forms   A common situation is the duplex where you live in one unit and rent out the other. Amendment forms Certain expenses apply to the entire property, such as mortgage interest and real estate taxes, and must be split to determine rental and personal expenses. Amendment forms Example. Amendment forms You own a duplex and live in one half, renting the other half. Amendment forms Both units are approximately the same size. Amendment forms Last year, you paid a total of $10,000 mortgage interest and $2,000 real estate taxes for the entire property. Amendment forms You can deduct $5,000 mortgage interest and $1,000 real estate taxes on Schedule E (Form 1040), and if you itemize your deductions, you can deduct the other $5,000 mortgage interest and $1,000 real estate taxes on Schedule A (Form 1040). Amendment forms Not Rented for Profit If you do not rent your property to make a profit, you can deduct your rental expenses only up to the amount of your rental income. Amendment forms You cannot deduct a loss or carry forward to the next year any rental expenses that are more than your rental income for the year. Amendment forms Where to report. Amendment forms   Report your not-for-profit rental income on Form 1040 or 1040NR, line 21. Amendment forms For example, if you are filing Form 1040, you can include your mortgage interest and any qualified mortgage insurance premiums (if you use the property as your main home or second home), real estate taxes, and casualty losses on the appropriate lines of Schedule A (Form 1040) if you itemize your deductions. Amendment forms   If you itemize your deductions, claim your other rental expenses, subject to the rules explained in chapter 1 of Publication 535, as miscellaneous itemized deductions on Schedule A (Form 1040), line 23, or Schedule A (Form 1040NR), line 9. Amendment forms You can deduct these expenses only if they, together with certain other miscellaneous itemized deductions, total more than 2% of your adjusted gross income. Amendment forms Presumption of profit. Amendment forms   If your rental income is more than your rental expenses for at least 3 years out of a period of 5 consecutive years, you are presumed to be renting your property to make a profit. Amendment forms Postponing decision. Amendment forms   If you are starting your rental activity and do not have 3 years showing a profit, you can elect to have the presumption made after you have the 5 years of experience required by the test. Amendment forms You may choose to postpone the decision of whether the rental is for profit by filing Form 5213. Amendment forms You must file Form 5213 within 3 years after the due date of your return (determined without extensions) for the year in which you first carried on the activity or, if earlier, within 60 days after receiving written notice from the Internal Revenue Service proposing to disallow deductions attributable to the activity. Amendment forms More information. Amendment forms   For more information about the rules for an activity not engaged in for profit, see Not-for-Profit Activities in chapter 1 of Publication 535. Amendment forms Example—Property Changed to Rental Use In January, Eileen Johnson bought a condominium apartment to live in. Amendment forms Instead of selling the house she had been living in, she decided to change it to rental property. Amendment forms Eileen selected a tenant and started renting the house on February 1. Amendment forms Eileen charges $750 a month for rent and collects it herself. Amendment forms Eileen also received a $750 security deposit from her tenant. Amendment forms Because she plans to return it to her tenant at the end of the lease, she does not include it in her income. Amendment forms Her rental expenses for the year are as follows. Amendment forms   Mortgage interest $1,800     Fire insurance (1-year policy) 100     Miscellaneous repairs (after renting) 297     Real estate taxes imposed and paid 1,200   Eileen must divide the real estate taxes, mortgage interest, and fire insurance between the personal use of the property and the rental use of the property. Amendment forms She can deduct eleven-twelfths of these expenses as rental expenses. Amendment forms She can include the balance of the allowable taxes and mortgage interest on Schedule A (Form 1040) if she itemizes. Amendment forms She cannot deduct the balance of the fire insurance because it is a personal expense. Amendment forms Eileen bought this house in 1984 for $35,000. Amendment forms Her property tax was based on assessed values of $10,000 for the land and $25,000 for the house. Amendment forms Before changing it to rental property, Eileen added several improvements to the house. Amendment forms She figures her adjusted basis as follows:   Improvements Cost     House $25,000     Remodeled kitchen 4,200     Recreation room 5,800     New roof 1,600     Patio and deck 2,400     Adjusted basis $39,000   On February 1, when Eileen changed her house to rental property, the property had a fair market value of $152,000. Amendment forms Of this amount, $35,000 was for the land and $117,000 was for the house. Amendment forms Because Eileen's adjusted basis is less than the fair market value on the date of the change, Eileen uses $39,000 as her basis for depreciation. Amendment forms As specified for residential rental property, Eileen must use the straight line method of depreciation over the GDS or ADS recovery period. Amendment forms She chooses the GDS recovery period of 27. Amendment forms 5 years. Amendment forms She uses Table 2-2d to find her depreciation percentage. Amendment forms Since she placed the property in service in February, the percentage is 3. Amendment forms 182%. Amendment forms On April 1, Eileen bought a new dishwasher for the rental property at a cost of $425. Amendment forms The dishwasher is personal property used in a rental real estate activity, which has a 5-year recovery period. Amendment forms She uses Table 2-2a to find the percentage for Year 1 under “Half-year convention” (20%) to figure her depreciation deduction. Amendment forms On May 1, Eileen paid $4,000 to have a furnace installed in the house. Amendment forms The furnace is residential rental property. Amendment forms Because she placed the property in service in May, the percentage from Table 2-2d is 2. Amendment forms 273%. Amendment forms Eileen figures her net rental income or loss for the house as follows: Total rental income received  ($750 × 11) $8,250 Minus: Expenses     Mortgage interest ($1,800 × 11/12) $1,650   Fire insurance ($100 × 11/12) 92   Miscellaneous repairs 297   Real estate taxes ($1,200 × 11/12) 1,100   Total expenses 3,139 Balance $5,111 Minus: Depreciation     House ($39,000 × . Amendment forms 03182) $1,241   Dishwasher ($425 × . Amendment forms 20) 85   Furnace ($4,000 × . Amendment forms 02273) 91   Total depreciation 1,417 Net rental income for house   $3,694       Eileen uses Schedule E, Part I, to report her rental income and expenses. Amendment forms She enters her income, expenses, and depreciation for the house in the column for Property A. Amendment forms Since all property was placed in service this year, Eileen must use Form 4562 to figure the depreciation. Amendment forms See the Instructions for Form 4562 for more information on preparing the form. 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Consumer Protection Offices

City, county, regional, and state consumer offices offer a variety of important services. They might mediate complaints, conduct investigations, prosecute offenders of consumer laws, license and regulate professional service providers, provide educational materials and advocate for consumer rights. To save time, call before sending a written complaint. Ask if the office handles the type of complaint you have and if complaint forms are provided.

State Consumer Protection Offices

New Hampshire Office of the Attorney General

Website: New Hampshire Office of the Attorney General

Address: New Hampshire Office of the Attorney General
Consumer Protection and Antitrust Bureau
33 Capitol St.
Concord, NH 03301

Phone Number: 603-271-3641

Toll-free: 1-888-468-4454 (Consumer Protection Hotline)

TTY: 1-800-735-2964 (NH)

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Banking Authorities

The officials listed in this section regulate and supervise state-chartered banks. Many of them handle or refer problems and complaints about other types of financial institutions as well. Some also answer general questions about banking and consumer credit. If you are dealing with a federally chartered bank, check Federal Agencies.

State Banking Department

Website: State Banking Department

Address: State Banking Department
53 Regional Dr., Suite 200
Concord, NH 03301

Phone Number: 603-271-3561

Toll-free: 1-800-437-5991

TTY: 1-800-735-2964

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Insurance Regulators

Each state has its own laws and regulations for each type of insurance. The officials listed in this section enforce these laws. Many of these offices can also provide you with information to help you make informed insurance buying decisions.

Insurance Department

Website: Insurance Department

Address: Insurance Department
21 S. Fruit St., Suite 14
Concord, NH 03301

Phone Number: 603-271-2261

Toll-free: 1-800-852-3416 (NH)

TTY: 1-800-735-2964 (NH)

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Securities Administrators

Each state has its own laws and regulations for securities brokers and securities - including stocks, mutual funds, commodities, real estate, etc. The officials and agencies listed in this section enforce these laws and regulations. Many of these offices can also provide information to help you make informed investment decisions.

Secretary of State

Website: Secretary of State

Address: Secretary of State
Bureau of Securities Regulation
107 N. Main St., #204
Concord, NH 03301

Phone Number: 603-271-1463

Toll-free: 1-800-994-4200

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Utility Commissions

State Utility Commissions regulate services and rates for gas, electricity and telephones within your state. In some states, the utility commissions regulate other services such as water, transportation, and the moving of household goods. Many utility commissions handle consumer complaints. Sometimes, if a number of complaints are received about the same utility matter, they will conduct investigations.

Public Utilities Commission

Website: Public Utilities Commission

Address: Public Utilities Commission
Consumer Affairs Division
21 S. Fruit St., Suite 10
Concord, NH 03301-2429

Phone Number: 603-271-2431

Toll-free: 1-800-852-3793 (NH)

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The Amendment Forms

Amendment forms Publication 537 - Main Content Table of Contents What Is an Installment Sale?Special rule. Amendment forms General RulesFiguring Installment Sale Income Reporting Installment Sale Income Other RulesElecting Out of the Installment Method Payments Received or Considered Received Escrow Account Depreciation Recapture Income Sale to a Related Person Like-Kind Exchange Contingent Payment Sale Single Sale of Several Assets Sale of a Business Unstated Interest and Original Issue Discount (OID) Disposition of an Installment Obligation Repossession Interest on Deferred Tax Reporting an Installment SaleRelated person. Amendment forms Several assets. Amendment forms Special situations. Amendment forms Schedule D (Form 1040). Amendment forms Form 4797. Amendment forms How To Get Tax Help 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. Amendment forms 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. Amendment forms The installment sales method cannot be used for the following. Amendment forms Sale of inventory. Amendment forms   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. Amendment forms See Sale of a Business under Other Rules, later. Amendment forms Dealer sales. Amendment forms   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. Amendment forms This rule also applies to real property held for sale to customers in the ordinary course of a trade or business. Amendment forms However, the rule does not apply to an installment sale of property used or produced in farming. Amendment forms Special rule. Amendment forms   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. Amendment forms For more information, see section 453(l). Amendment forms Stock or securities. Amendment forms   You cannot use the installment method to report gain from the sale of stock or securities traded on an established securities market. Amendment forms You must report the entire gain on the sale in the year in which the trade date falls. Amendment forms Installment obligation. Amendment forms   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. Amendment forms 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. Amendment forms See Electing Out of the Installment Method under Other Rules, later, for information on recognizing the entire gain in the year of sale. Amendment forms Sale at a loss. Amendment forms   If your sale results in a loss, you cannot use the installment method. Amendment forms If the loss is on an installment sale of business or investment property, you can deduct it only in the tax year of sale. Amendment forms Unstated interest. Amendment forms   If your sale calls for payments in a later year and the sales contract provides for little or no interest, you may have to figure unstated interest, even if you have a loss. Amendment forms See Unstated Interest and Original Issue Discount (OID) under Other Rules, later. Amendment forms 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. Amendment forms Each payment on an installment sale usually consists of the following three parts. Amendment forms Interest income. Amendment forms Return of your adjusted basis in the property. Amendment forms Gain on the sale. Amendment forms 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. Amendment forms You do not include in income the part that is the return of your basis in the property. Amendment forms Basis is the amount of your investment in the property for installment sale purposes. Amendment forms Interest Income You must report interest as ordinary income. Amendment forms Interest is generally not included in a down payment. Amendment forms 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. Amendment forms Interest provided in the agreement is called stated interest. Amendment forms If the agreement does not provide for enough stated interest, there may be unstated interest or original issue discount. Amendment forms See Unstated Interest and Original Issue Discount (OID) under Other Rules, later. Amendment forms 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. Amendment forms A tax-free return of your adjusted basis in the property, and Your gain (referred to as installment sale income on Form 6252). Amendment forms Figuring adjusted basis for installment sale purposes. Amendment forms   You can use Worksheet A to figure your adjusted basis in the property for installment sale purposes. Amendment forms 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. Amendment forms Worksheet A. Amendment forms Figuring Adjusted Basis and Gross Profit Percentage 1. Amendment forms Enter the selling price for the property   2. Amendment forms Enter your adjusted basis for the property     3. Amendment forms Enter your selling expenses     4. Amendment forms Enter any depreciation recapture     5. Amendment forms Add lines 2, 3, and 4. Amendment forms  This is your adjusted basis for installment sale purposes   6. Amendment forms Subtract line 5 from line 1. Amendment forms If zero or less, enter -0-. Amendment forms  This is your gross profit     If the amount entered on line 6 is zero, stop here. Amendment forms You cannot use the installment method. Amendment forms   7. Amendment forms Enter the contract price for the property   8. Amendment forms Divide line 6 by line 7. Amendment forms This is your gross profit percentage   Selling price. Amendment forms   The selling price is the total cost of the property to the buyer and includes any of the following. Amendment forms Any money you are to receive. Amendment forms The fair market value (FMV) of any property you are to receive (FMV is discussed in Property Used As a Payment under Other Rules, later). Amendment forms 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). Amendment forms Any of your selling expenses the buyer pays. Amendment forms   Do not include stated interest, unstated interest, any amount recomputed or recharacterized as interest, or original issue discount. Amendment forms Adjusted basis for installment sale purposes. Amendment forms   Your adjusted basis is the total of the following three items. Amendment forms Adjusted basis. Amendment forms Selling expenses. Amendment forms Depreciation recapture. Amendment forms Adjusted basis. Amendment forms   Basis is your investment in the property for installment sale purposes. Amendment forms The way you figure basis depends on how you acquire the property. Amendment forms The basis of property you buy is generally its cost. Amendment forms The basis of property you inherit, receive as a gift, build yourself, or receive in a tax-free exchange is figured differently. Amendment forms   While you own property, various events may change your original basis. Amendment forms Some events, such as adding rooms or making permanent improvements, increase basis. Amendment forms Others, such as deductible casualty losses or depreciation previously allowed or allowable, decrease basis. Amendment forms The result is adjusted basis. Amendment forms   For more information on how to figure basis and adjusted basis, see Publication 551. Amendment forms For more information regarding your basis in property you inherited from someone who died in 2010 and whose executor filed Form 8939, Allocation of Increase In Basis for Property Acquired From a Decedent, see Publication 4895. Amendment forms Selling expenses. Amendment forms   Selling expenses relate to the sale of the property. Amendment forms They include commissions, attorney fees, and any other expenses paid on the sale. Amendment forms Selling expenses are added to the basis of the sold property. Amendment forms Depreciation recapture. Amendment forms   If the property you sold was depreciable property, you may need to recapture part of the gain on the sale as ordinary income. Amendment forms See Depreciation Recapture Income under Other Rules, later. Amendment forms Gross profit. Amendment forms   Gross profit is the total gain you report on the installment method. Amendment forms   To figure your gross profit, subtract your adjusted basis for installment sale purposes from the selling price. Amendment forms If the property you sold was your home, subtract from the gross profit any gain you can exclude. Amendment forms See Sale of Your Home , later, under Reporting Installment Sale Income. Amendment forms Contract price. Amendment forms   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. Amendment forms Gross profit percentage. Amendment forms   A certain percentage of each payment (after subtracting interest) is reported as installment sale income. Amendment forms This percentage is called the gross profit percentage and is figured by dividing your gross profit from the sale by the contract price. Amendment forms   The gross profit percentage generally remains the same for each payment you receive. Amendment forms However, see the Example under Selling Price Reduced, later, for a situation where the gross profit percentage changes. Amendment forms Example. Amendment forms You sell property at a contract price of $6,000 and your gross profit is $1,500. Amendment forms Your gross profit percentage is 25% ($1,500 ÷ $6,000). Amendment forms 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. Amendment forms The remainder (balance) of each payment is the tax-free return of your adjusted basis. Amendment forms Amount to report as installment sale income. Amendment forms   Multiply the payments you receive each year (less interest) by the gross profit percentage. Amendment forms The result is your installment sale income for the tax year. Amendment forms In certain circumstances, you may be treated as having received a payment, even though you received nothing directly. Amendment forms A receipt of property or the assumption of a mortgage on the property sold may be treated as a payment. Amendment forms For a detailed discussion, see Payments Received or Considered Received under Other Rules, later. Amendment forms Selling Price Reduced If the selling price is reduced at a later date, the gross profit on the sale also will change. Amendment forms You then must refigure the gross profit percentage for the remaining payments. Amendment forms Refigure your gross profit using Worksheet B. Amendment forms You will spread any remaining gain over future installments. Amendment forms Worksheet B. Amendment forms New Gross Profit Percentage — Selling Price Reduced 1. Amendment forms Enter the reduced selling  price for the property   2. Amendment forms Enter your adjusted  basis for the  property     3. Amendment forms Enter your selling  expenses     4. Amendment forms Enter any depreciation  recapture     5. Amendment forms Add lines 2, 3, and 4. Amendment forms   6. Amendment forms Subtract line 5 from line 1. Amendment forms  This is your adjusted  gross profit   7. Amendment forms Enter any installment sale  income reported in  prior year(s)   8. Amendment forms Subtract line 7 from line 6   9. Amendment forms Future installments   10. Amendment forms Divide line 8 by line 9. Amendment forms  This is your new gross profit percentage*   * Apply this percentage to all future payments to determine how much of each of those payments is installment sale income. Amendment forms Example. Amendment forms In 2011, you sold land with a basis of $40,000 for $100,000. Amendment forms Your gross profit was $60,000. Amendment forms You received a $20,000 down payment and the buyer's note for $80,000. Amendment forms The note provides for four annual payments of $20,000 each, plus 8% interest, beginning in 2012. Amendment forms Your gross profit percentage is 60%. Amendment forms You reported a gain of $12,000 on each payment received in 2011 and 2012. Amendment forms In 2013, you and the buyer agreed to reduce the purchase price to $85,000 and payments during 2013, 2014, and 2015 are reduced to $15,000 for each year. Amendment forms The new gross profit percentage, 46. Amendment forms 67%, is figured on Example—Worksheet B. Amendment forms You will report a gain of $7,000 (46. Amendment forms 67% of $15,000) on each of the $15,000 installments due in 2013, 2014, and 2015. Amendment forms Example — Worksheet B. Amendment forms New Gross Profit Percentage — Selling Price Reduced 1. Amendment forms Enter the reduced selling  price for the property 85,000 2. Amendment forms Enter your adjusted  basis for the  property 40,000   3. Amendment forms Enter your selling  expenses -0-   4. Amendment forms Enter any depreciation  recapture -0-   5. Amendment forms Add lines 2, 3, and 4. Amendment forms 40,000 6. Amendment forms Subtract line 5 from line 1. Amendment forms  This is your adjusted  gross profit 45,000 7. Amendment forms Enter any installment sale  income reported in  prior year(s) 24,000 8. Amendment forms Subtract line 7 from line 6 21,000 9. Amendment forms Future installments 45,000 10. Amendment forms Divide line 8 by line 9. Amendment forms  This is your new gross profit percentage* 46. Amendment forms 67% * Apply this percentage to all future payments to determine how much of each of those payments is installment sale income. Amendment forms Reporting Installment Sale Income Generally, you will use Form 6252 to report installment sale income from casual sales of real or personal property during the tax year. Amendment forms You also will have to report the installment sale income on Schedule D (Form 1040), Capital Gains and Losses, or Form 4797, or both. Amendment forms See Schedule D (Form 1040) and Form 4797 , later. Amendment forms If the property was your main home, you may be able to exclude part or all of the gain. Amendment forms See Sale of Your Home , later. Amendment forms Form 6252 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. Amendment forms Attach it to your tax return for each year. Amendment forms Form 6252 will help you determine the gross profit, contract price, gross profit percentage, and installment sale income. Amendment forms Which parts to complete. Amendment forms   Which part to complete depends on whether you are filing the form for the year of sale or a later year. Amendment forms Year of sale. Amendment forms   Complete lines 1 through 4, Part I, and Part II. Amendment forms If you sold property to a related party during the year, also complete Part III. Amendment forms Later years. Amendment forms   Complete lines 1 through 4 and Part II for any year in which you receive a payment from an installment sale. Amendment forms   If you sold a marketable security to a related party after May 14, 1980, and before January 1, 1987, complete Form 6252 for each year of the installment agreement, even if you did not receive a payment. Amendment forms (After December 31, 1986, the installment method is not available for the sale of marketable securities. Amendment forms ) Complete lines 1 through 4 and Part II for any year in which you receive a payment from the sale. Amendment forms Complete Part III unless you received the final payment during the tax year. Amendment forms   If you sold property other than a marketable security to a related party after May 14, 1980, complete Form 6252 for the year of sale and for 2 years after the year of sale, even if you did not receive a payment. Amendment forms Complete lines 1 through 4 and Part II for any year during this 2-year period in which you receive a payment from the sale. Amendment forms Complete Part III for the 2 years after the year of sale unless you received the final payment during the tax year. Amendment forms Schedule D (Form 1040) Enter the gain figured on Form 6252 (line 26) for personal-use property (capital assets) on Schedule D (Form 1040), as a short-term gain (line 4) or long-term gain (line 11). Amendment forms If your gain from the installment sale qualifies for long-term capital gain treatment in the year of sale, it will continue to qualify in later tax years. Amendment forms Your gain is long-term if you owned the property for more than 1 year when you sold it. Amendment forms Form 4797 An installment sale of property used in your business or that earns rent or royalty income may result in a capital gain, an ordinary gain, or both. Amendment forms All or part of any gain from the disposition of the property may be ordinary gain from depreciation recapture. Amendment forms For trade or business property held for more than 1 year, enter the amount from line 26 of Form 6252 on Form 4797, line 4. Amendment forms If the property was held 1 year or less or you have an ordinary gain from the sale of a noncapital asset (even if the holding period is more than 1 year), enter this amount on Form 4797, line 10, and write “From Form 6252. Amendment forms ” Sale of Your Home If you sell your home, you may be able to exclude all or part of the gain on the sale. Amendment forms See Publication 523 for information about excluding the gain. Amendment forms If the sale is an installment sale, any gain you exclude is not included in gross profit when figuring your gross profit percentage. Amendment forms Seller-financed mortgage. Amendment forms   If you finance the sale of your home to an individual, both you and the buyer may have to follow special reporting procedures. Amendment forms   When you report interest income received from a buyer who uses the property as a personal residence, write the buyer's name, address, and social security number (SSN) on line 1 of Schedule B (Form 1040A or 1040), Interest and Ordinary Dividends. Amendment forms   When deducting the mortgage interest, the buyer must write your name, address, and SSN on line 11 of Schedule A (Form 1040), Itemized Deductions. Amendment forms   If either person fails to include the other person's SSN, a $50 penalty will be assessed. Amendment forms Other Rules The rules discussed in this part of the publication apply only in certain circumstances or to certain types of property. Amendment forms The following topics are discussed. Amendment forms Electing out of the installment method. Amendment forms Payments received or considered received. Amendment forms Escrow account. Amendment forms Depreciation recapture income. Amendment forms Sale to a related person. Amendment forms Like-kind exchange. Amendment forms Contingent payment sale. Amendment forms Single sale of several assets. Amendment forms Sale of a business. Amendment forms Unstated interest and original issue discount. Amendment forms Disposition of an installment obligation. Amendment forms Repossession. Amendment forms Interest on deferred tax. Amendment forms Electing Out of the Installment Method 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. Amendment forms To figure the amount of gain to report, use the fair market value (FMV) of the buyer's installment obligation that represents the buyer's debt to you. Amendment forms Notes, mortgages, and land contracts are examples of obligations that are included at FMV. Amendment forms You must figure the FMV of the buyer's installment obligation, whether or not you would actually be able to sell it. Amendment forms If you use the cash method of accounting, the FMV of the obligation will never be considered to be less than the FMV of the property sold (minus any other consideration received). Amendment forms Example. Amendment forms You sold a parcel of land for $50,000. Amendment forms You received a $10,000 down payment and will receive the balance over the next 10 years at $4,000 a year, plus 8% interest. Amendment forms The buyer gave you a note for $40,000. Amendment forms The note had an FMV of $40,000. Amendment forms You paid a commission of 6%, or $3,000, to a broker for negotiating the sale. Amendment forms The land cost $25,000, and you owned it for more than one year. Amendment forms You decide to elect out of the installment method and report the entire gain in the year of sale. Amendment forms Gain realized:     Selling price $50,000 Minus: Property's adj. Amendment forms basis $25,000     Commission 3,000 28,000 Gain realized $22,000 Gain recognized in year of sale:   Cash $10,000 Market value of note 40,000 Total realized in year of sale $50,000 Minus: Property's adj. Amendment forms basis $25,000     Commission 3,000 28,000 Gain recognized $22,000 The recognized gain of $22,000 is long-term capital gain. Amendment forms You include the entire gain in income in the year of sale, so you do not include in income any principal payments you receive in later tax years. Amendment forms The interest on the note is ordinary income and is reported as interest income each year. Amendment forms How to elect out. Amendment forms   To make this election, do not report your sale on Form 6252. Amendment forms Instead, report it on Form 8949, Sales and Other Dispositions of Capital Assets, Form 4797, or both. Amendment forms When to elect out. Amendment forms   Make this election by the due date, including extensions, for filing your tax return for the year the sale takes place. Amendment forms Automatic six-month extension. Amendment forms   If you timely file your tax return without making the election, you still can make the election by filing an amended return within 6 months of the due date of your return (excluding extensions). Amendment forms Write “Filed pursuant to section 301. Amendment forms 9100-2” at the top of the amended return and file it where the original return was filed. Amendment forms Revoking the election. Amendment forms   Once made, the election can be revoked only with IRS approval. Amendment forms A revocation is retroactive. Amendment forms You will not be allowed to revoke the election if either of the following applies. Amendment forms One of the purposes is to avoid federal income tax. Amendment forms The tax year in which any payment was received has closed. Amendment forms 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. Amendment forms In certain situations, you are considered to have received a payment, even though the buyer does not pay you directly. Amendment forms 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. Amendment forms However, as discussed later, the buyer's assumption of your debt is treated as a recovery of your basis rather than as a payment in many cases. Amendment forms Buyer Pays Seller's Expenses 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. Amendment forms Include these expenses in the selling and contract prices when figuring the gross profit percentage. Amendment forms Buyer Assumes Mortgage If the buyer assumes or pays off your mortgage, or otherwise takes the property subject to the mortgage, the following rules apply. Amendment forms Mortgage not more than basis. Amendment forms   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. Amendment forms It is considered a recovery of your basis. Amendment forms The contract price is the selling price minus the mortgage. Amendment forms Example. Amendment forms You sell property with an adjusted basis of $19,000. Amendment forms You have selling expenses of $1,000. Amendment forms 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 12% interest) in each of the next 4 years). Amendment forms The selling price is $25,000 ($15,000 + $10,000). Amendment forms Your gross profit is $5,000 ($25,000 − $20,000 installment sale basis). Amendment forms The contract price is $10,000 ($25,000 − $15,000 mortgage). Amendment forms Your gross profit percentage is 50% ($5,000 ÷ $10,000). Amendment forms You report half of each $2,000 payment received as gain from the sale. Amendment forms You also report all interest you receive as ordinary income. Amendment forms Mortgage more than basis. Amendment forms   If the buyer assumes a mortgage that is more than your installment sale basis in the property, you recover your entire basis. Amendment forms The part of the mortgage greater than your basis is treated as a payment received in the year of sale. Amendment forms   To figure the contract price, subtract the mortgage from the selling price. Amendment forms This is the total amount (other than interest) you will receive directly from the buyer. Amendment forms Add to this amount the payment you are considered to have received (the difference between the mortgage and your installment sale basis). Amendment forms The contract price is then the same as your gross profit from the sale. Amendment forms    If the mortgage the buyer assumes is equal to or more than your installment sale basis, the gross profit percentage always will be 100%. Amendment forms Example. Amendment forms The selling price for your property is $9,000. Amendment forms The buyer will pay you $1,000 annually (plus 8% interest) over the next 3 years and assume an existing mortgage of $6,000. Amendment forms Your adjusted basis in the property is $4,400. Amendment forms You have selling expenses of $600, for a total installment sale basis of $5,000. Amendment forms The part of the mortgage that is more than your installment sale basis is $1,000 ($6,000 − $5,000). Amendment forms This amount is included in the contract price and treated as a payment received in the year of sale. Amendment forms 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%. Amendment forms Report 100% of each payment (less interest) as gain from the sale. Amendment forms 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. Amendment forms Mortgage Canceled If the buyer of your property is the person who holds the mortgage on it, your debt is canceled, not assumed. Amendment forms You are considered to receive a payment equal to the outstanding canceled debt. Amendment forms Example. Amendment forms Mary Jones loaned you $45,000 in 2009 in exchange for a note and a mortgage in a tract of land you owned. Amendment forms On April 4, 2013, she bought the land for $70,000. Amendment forms At that time, $30,000 of her loan to you was outstanding. Amendment forms She agreed to forgive this $30,000 debt and to pay you $20,000 (plus interest) on August 1, 2013, and $20,000 on August 1, 2014. Amendment forms She did not assume an existing mortgage. Amendment forms She canceled the $30,000 debt you owed her. Amendment forms You are considered to have received a $30,000 payment at the time of the sale. Amendment forms Buyer Assumes Other Debts 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. Amendment forms If the buyer assumes the debt instead of paying it off, only part of it may have to be treated as a payment. Amendment forms Compare the debt to your installment sale basis in the property being sold. Amendment forms If the debt is less than your installment sale basis, none of it is treated as a payment. Amendment forms If it is more, only the difference is treated as a payment. Amendment forms 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. Amendment forms These rules are the same as the rules discussed earlier under Buyer Assumes Mortgage . Amendment forms However, they apply only to the following types of debt the buyer assumes. Amendment forms Those acquired from ownership of the property you are selling, such as a mortgage, lien, overdue interest, or back taxes. Amendment forms Those acquired in the ordinary course of your business, such as a balance due for inventory you purchased. Amendment forms 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. Amendment forms The value of the assumed debt is then considered a payment to you in the year of sale. Amendment forms Property Used As a Payment If you receive property other than money from the buyer, it is still considered a payment in the year received. Amendment forms However, see Like-Kind Exchange , later. Amendment forms Generally, the amount of the payment is the property's FMV on the date you receive it. Amendment forms Exception. Amendment forms   If the property the buyer gives you is payable on demand or readily tradable, 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 the 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. Amendment forms See Unstated Interest and Original Issue Discount (OID) , later. Amendment forms Debt not payable on demand. Amendment forms   Any evidence of debt you receive from the buyer not payable on demand is not considered a payment. Amendment forms This is true even if the debt is guaranteed by a third party, including a government agency. Amendment forms Fair market value (FMV). Amendment forms   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. Amendment forms Third-party note. Amendment forms   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. Amendment forms 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. Amendment forms The excess of the note's face value over its FMV is interest. Amendment forms Exclude this interest in determining the selling price of the property. Amendment forms However, see Exception under Property Used As a Payment, earlier. Amendment forms Example. Amendment forms You sold real estate in an installment sale. Amendment forms As part of the down payment, the buyer assigned to you a $50,000, 8% interest third-party note. Amendment forms The FMV of the third-party note at the time of the sale was $30,000. Amendment forms This amount, not $50,000, is a payment to you in the year of sale. Amendment forms 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. Amendment forms The remaining 40% is interest taxed as ordinary income. Amendment forms Bond. Amendment forms   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. Amendment forms For more information on the amount you should treat as a payment, see Exception under Property Used As a Payment, earlier. Amendment forms    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. Amendment forms However, see Exception under Property Used As a Payment, earlier. Amendment forms Buyer's note. Amendment forms   The buyer's note (unless payable on demand) is not considered payment on the sale. Amendment forms However, its full face value is included when figuring the selling price and the contract price. Amendment forms Payments you receive on the note are used to figure your gain in the year received. Amendment forms Installment Obligation Used as Security (Pledge Rule) If you use an installment obligation to secure any debt, the net proceeds from the debt may be treated as a payment on the installment obligation. Amendment forms This is known as the pledge rule, and it applies if the selling price of the property is over $150,000. Amendment forms It does not apply to the following dispositions. Amendment forms Sales of property used or produced in farming. Amendment forms Sales of personal-use property. Amendment forms Qualifying sales of time-shares and residential lots. Amendment forms The net debt proceeds are the gross debt minus the direct expenses of getting the debt. Amendment forms The amount treated as a payment is considered received on the later of the following dates. Amendment forms The date the debt becomes secured. Amendment forms The date you receive the debt proceeds. Amendment forms A debt is secured by an installment obligation to the extent that payment of principal or interest on the debt is directly secured (under the terms of the loan or any underlying arrangement) by any interest in the installment obligation. Amendment forms For sales after December 16, 1999, payment on a debt is treated as directly secured by an interest in an installment obligation to the extent an arrangement allows you to satisfy all or part of the debt with the installment obligation. Amendment forms Limit. Amendment forms   The net debt proceeds treated as a payment on the pledged installment obligation cannot be more than the excess of item (1) over item (2), below. Amendment forms The total contract price on the installment sale. Amendment forms Any payments received on the installment obligation before the date the net debt proceeds are treated as a payment. Amendment forms Installment payments. Amendment forms   The pledge rule accelerates the reporting of the installment obligation payments. Amendment forms Do not report payments received on the obligation after it has been pledged until the payments received exceed the amount reported under the pledge rule. Amendment forms Exception. Amendment forms   The pledge rule does not apply to pledges made after December 17, 1987, to refinance a debt under the following circumstances. Amendment forms The debt was outstanding on December 17, 1987. Amendment forms The debt was secured by that installment sale obligation on that date and at all times thereafter until the refinancing occurred. Amendment forms   A refinancing as a result of the creditor's calling of the debt is treated as a continuation of the original debt so long as a person other than the creditor or a person related to the creditor provides the refinancing. Amendment forms   This exception applies only to refinancing that does not exceed the principal of the original debt immediately before the refinancing. Amendment forms Any excess is treated as a payment on the installment obligation. Amendment forms Escrow Account In some cases, the sales agreement or a later agreement may call for the buyer to establish an irrevocable escrow account from which the remaining installment payments (including interest) are to be made. Amendment forms These sales cannot be reported on the installment method. Amendment forms The buyer's obligation is paid in full when the balance of the purchase price is deposited into the escrow account. Amendment forms When an escrow account is established, you no longer rely on the buyer for the rest of the payments, but on the escrow arrangement. Amendment forms Example. Amendment forms You sell property for $100,000. Amendment forms The sales agreement calls for a down payment of $10,000 and payment of $15,000 in each of the next 6 years to be made from an irrevocable escrow account containing the balance of the purchase price plus interest. Amendment forms You cannot report the sale on the installment method because the full purchase price is considered received in the year of sale. Amendment forms You report the entire gain in the year of sale. Amendment forms Escrow established in a later year. Amendment forms   If you make an installment sale and in a later year an irrevocable escrow account is established to pay the remaining installments plus interest, the amount placed in the escrow account represents payment of the balance of the installment obligation. Amendment forms Substantial restriction. Amendment forms   If an escrow arrangement imposes a substantial restriction on your right to receive the sale proceeds, the sale can be reported on the installment method, provided it otherwise qualifies. Amendment forms For an escrow arrangement to impose a substantial restriction, it must serve a bona fide purpose of the buyer, that is, a real and definite restriction placed on the seller or a specific economic benefit conferred on the buyer. Amendment forms Depreciation Recapture Income If you sell property for which you claimed or could have claimed a depreciation deduction, you must report any depreciation recapture income in the year of sale, whether or not an installment payment was received that year. Amendment forms Figure your depreciation recapture income (including the section 179 deduction and the section 179A deduction recapture) in Part III of Form 4797. Amendment forms Report the recapture income in Part II of Form 4797 as ordinary income in the year of sale. Amendment forms The recapture income is also included in Part I of Form 6252. Amendment forms However, the gain equal to the recapture income is reported in full in the year of the sale. Amendment forms Only the gain greater than the recapture income is reported on the installment method. Amendment forms For more information on depreciation recapture, see chapter 3 in Publication 544. Amendment forms The recapture income reported in the year of sale is included in your installment sale basis in determining your gross profit on the installment sale. Amendment forms Determining gross profit is discussed under General Rules , earlier. Amendment forms Sale to a Related Person 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. Amendment forms If you sell property to a related person and the related person disposes of the property before you receive all payments with respect to the sale, you may have to treat the amount realized by the related person as received by you when the related person disposes of the property. Amendment forms These rules are explained under Sale of Depreciable Property and under Sale and Later Disposition , later. Amendment forms Sale of Depreciable Property If you sell depreciable property to certain related persons, you generally cannot report the sale using the installment method. Amendment forms Instead, all payments to be received are considered received in the year of sale. Amendment forms However, see Exception , below. Amendment forms Depreciable property for this rule is any property the purchaser can depreciate. Amendment forms Payments to be received include the total of all noncontingent payments and the FMV of any payments contingent as to amount. Amendment forms In the case of contingent payments for which the FMV cannot be reasonably determined, your basis in the property is recovered proportionately. Amendment forms The purchaser cannot increase the basis of the property acquired in the sale before the seller includes a like amount in income. Amendment forms Exception. Amendment forms   You can use the installment method to report a sale of depreciable property to a related person if no significant tax deferral benefit will be derived from the sale. Amendment forms You must show to the satisfaction of the IRS that avoidance of federal income tax was not one of the principal purposes of the sale. Amendment forms Related person. Amendment forms   Related persons include the following. Amendment forms A person and all controlled entities with respect to that person. Amendment forms A taxpayer and any trust in which such taxpayer (or his spouse) is a beneficiary, unless that beneficiary's interest in the trust is a remote contingent interest. Amendment forms Except in the case of a sale or exchange in satisfaction of a pecuniary bequest, an executor of an estate and a beneficiary of that estate. Amendment forms Two or more partnerships in which the same person owns, directly or indirectly, more than 50% of the capital interests or the profits interests. Amendment forms   For information about which entities are controlled entities, see section 1239(c). Amendment forms Sale and Later Disposition Generally, a special rule applies if you sell or exchange property to a related person on the installment method (first disposition) who then sells, exchanges, or gives away the property (second disposition) under the following circumstances. Amendment forms The related person makes the second disposition before making all payments on the first disposition. Amendment forms The related person disposes of the property within 2 years of the first disposition. Amendment forms This rule does not apply if the property involved is marketable securities. Amendment forms Under this rule, you treat part or all of the amount the related person realizes (or the FMV if the disposed property is not sold or exchanged) from the second disposition as if you received it at the time of the second disposition. Amendment forms See Exception , later. Amendment forms Related person. Amendment forms   Related persons include the following. Amendment forms Members of a family, including only brothers and sisters (either whole or half), husband and wife, ancestors, and lineal descendants. Amendment forms A partnership or estate and a partner or beneficiary. Amendment forms A trust (other than a section 401(a) employees trust) and a beneficiary. Amendment forms A trust and an owner of the trust. Amendment forms Two corporations that are members of the same controlled group as defined in section 267(f). Amendment forms The fiduciaries of two different trusts, and the fiduciary and beneficiary of two different trusts, if the same person is the grantor of both trusts. Amendment forms A tax-exempt educational or charitable organization and a person (if an individual, including members of the individual's family) who directly or indirectly controls such an organization. Amendment forms An individual and a corporation when the individual owns, directly or indirectly, more than 50% of the value of the outstanding stock of the corporation. Amendment forms A fiduciary of a trust and a corporation when the trust or the grantor of the trust owns, directly or indirectly, more than 50% in value of the outstanding stock of the corporation. Amendment forms The grantor and fiduciary, and the fiduciary and beneficiary, of any trust. Amendment forms Any two S corporations if the same persons own more than 50% in value of the outstanding stock of each corporation. Amendment forms An S corporation and a corporation that is not an S corporation if the same persons own more than 50% in value of the outstanding stock of each corporation. Amendment forms A corporation and a partnership if the same persons own more than 50% in value of the outstanding stock of the corporation and more than 50% of the capital or profits interest in the partnership. Amendment forms An executor and a beneficiary of an estate unless the sale is in satisfaction of a pecuniary bequest. Amendment forms Example 1. Amendment forms In 2012, Harvey Green sold farm land to his son Bob for $500,000, which was to be paid in five equal payments over 5 years, plus adequate stated interest on the balance due. Amendment forms His installment sale basis for the farm land was $250,000 and the property was not subject to any outstanding liens or mortgages. Amendment forms His gross profit percentage is 50% (gross profit of $250,000 ÷ contract price of $500,000). Amendment forms He received $100,000 in 2012 and included $50,000 in income for that year ($100,000 × 0. Amendment forms 50). Amendment forms Bob made no improvements to the property and sold it to Alfalfa Inc. Amendment forms , in 2013 for $600,000 after making the payment for that year. Amendment forms The amount realized from the second disposition is $600,000. Amendment forms Harvey figures his installment sale income for 2013 as follows: Lesser of: 1) Amount realized on second disposition, or 2) Contract price on first disposition $500,000 Subtract: Sum of payments from Bob in 2012 and 2013 - 200,000 Amount treated as received because of second disposition $300,000 Add: Payment from Bob in 2013 + 100,000 Total payments received and treated as received for 2013 $400,000 Multiply by gross profit % × . Amendment forms 50 Installment sale income for 2013 $200,000 Harvey will not include in his installment sale income any principal payments he receives on the installment obligation for 2014, 2015, and 2016 because he has already reported the total payments of $500,000 from the first disposition ($100,000 in 2012 and $400,000 in 2013). Amendment forms Example 2. Amendment forms Assume the facts are the same as Example 1 except that Bob sells the property for only $400,000. Amendment forms The gain for 2013 is figured as follows: Lesser of: 1) Amount realized on second disposition, or 2) Contract price on first disposition $400,000 Subtract: Sum of payments from Bob in 2012 and 2013 − 200,000 Amount treated as received because of second disposition $200,000 Add: Payment from Bob in 2013 + 100,000 Total payments received and treated as received for 2013 $300,000 Multiply by gross profit % × . Amendment forms 50 Installment sale income for 2013 $150,000     Harvey receives a $100,000 payment in 2014 and another in 2015. Amendment forms They are not taxed because he treated the $200,000 from the disposition in 2013 as a payment received and paid tax on the installment sale income. Amendment forms In 2016, he receives the final $100,000 payment. Amendment forms He figures the installment sale income he must recognize in 2016 as follows: Total payments from the first disposition received by the end of 2016 $500,000 Minus the sum of:     Payment from 2012 $100,000   Payment from 2013 100,000   Amount treated as received in 2013 200,000   Total on which gain was previously recognized  − 400,000 Payment on which gain is recognized for 2016  $100,000 Multiply by gross profit % × . Amendment forms 50 Installment sale income for 2016 $ 50,000 Exception. Amendment forms   This rule does not apply to a second disposition, and any later transfer, if you can show to the satisfaction of the IRS that neither the first disposition (to the related person) nor the second disposition had as one of its principal purposes the avoidance of federal income tax. Amendment forms Generally, an involuntary second disposition will qualify under the nontax avoidance exception, such as when a creditor of the related person forecloses on the property or the related person declares bankruptcy. Amendment forms   The nontax avoidance exception also applies to a second disposition that is also an installment sale if the terms of payment under the installment resale are substantially equal to or longer than those for the first installment sale. Amendment forms However, the exception does not apply if the resale terms permit significant deferral of recognition of gain from the first sale. Amendment forms   In addition, any sale or exchange of stock to the issuing corporation is not treated as a first disposition. Amendment forms An involuntary conversion is not treated as a second disposition if the first disposition occurred before the threat of conversion. Amendment forms A transfer after the death of the person making the first disposition or the related person's death, whichever is earlier, is not treated as a second disposition. Amendment forms Like-Kind Exchange 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. Amendment forms These trades are known as like-kind exchanges. Amendment forms The property you receive in a like-kind exchange is treated as if it were a continuation of the property you gave up. Amendment forms You do not have to report any part of your gain if you receive only like-kind property. Amendment forms However, if you also receive money or other property (boot) in the exchange, you must report your gain to the extent of the money and the FMV of the other property received. Amendment forms For more information on like-kind exchanges, see Like-Kind Exchanges in chapter 1 of Publication 544. Amendment forms Installment payments. Amendment forms   If, in addition to like-kind property, you receive an installment obligation in the exchange, the following rules apply to determine the installment sale income each year. Amendment forms The contract price is reduced by the FMV of the like-kind property received in the trade. Amendment forms The gross profit is reduced by any gain on the trade that can be postponed. Amendment forms Like-kind property received in the trade is not considered payment on the installment obligation. Amendment forms Example. Amendment forms In 2013, George Brown trades personal property with an installment sale basis of $400,000 for like-kind property having an FMV of $200,000. Amendment forms He also receives an installment note for $800,000 in the trade. Amendment forms Under the terms of the note, he is to receive $100,000 (plus interest) in 2014 and the balance of $700,000 (plus interest) in 2015. Amendment forms George's selling price is $1,000,000 ($800,000 installment note + $200,000 FMV of like-kind property received). Amendment forms His gross profit is $600,000 ($1,000,000 − $400,000 installment sale basis). Amendment forms The contract price is $800,000 ($1,000,000 − $200,000). Amendment forms The gross profit percentage is 75% ($600,000 ÷ $800,000). Amendment forms He reports no gain in 2013 because the like-kind property he receives is not treated as a payment for figuring gain. Amendment forms He reports $75,000 gain for 2014 (75% of $100,000 payment received) and $525,000 gain for 2015 (75% of $700,000 payment received). Amendment forms Deferred exchanges. Amendment forms   A deferred exchange is one in which you transfer property you use in business or hold for investment and receive like-kind property later that you will use in business or hold for investment. Amendment forms Under this type of exchange, the person receiving your property may be required to place funds in an escrow account or trust. Amendment forms If certain rules are met, these funds will not be considered a payment until you have the right to receive the funds or, if earlier, the end of the exchange period. Amendment forms See Regulations section 1. Amendment forms 1031(k)-1(j)(2) for these rules. Amendment forms Contingent Payment Sale A contingent payment sale is one in which the total selling price cannot be determined by the end of the tax year of sale. Amendment forms This happens, for example, if you sell your business and the selling price includes a percentage of its profits in future years. Amendment forms If the selling price cannot be determined by the end of the tax year, you must use different rules to figure the contract price and the gross profit percentage than those you use for an installment sale with a fixed selling price. Amendment forms For rules on using the installment method for a contingent payment sale, see Regulations section 15a. Amendment forms 453-1(c). Amendment forms Single Sale of Several Assets If you sell different types of assets in a single sale, you must identify each asset to determine whether you can use the installment method to report the sale of that asset. Amendment forms You also have to allocate part of the selling price to each asset. Amendment forms If you sell assets that constitute a trade or business, see Sale of a Business , later. Amendment forms Unless an allocation of the selling price has been agreed to by both parties in an arm's-length transaction, you must allocate the selling price to an asset based on its FMV. Amendment forms If the buyer assumes a debt, or takes the property subject to a debt, you must reduce the FMV of the property by the debt. Amendment forms This becomes the net FMV. Amendment forms A sale of separate and unrelated assets of the same type under a single contract is reported as one transaction for the installment method. Amendment forms However, if an asset is sold at a loss, its disposition cannot be reported on the installment method. Amendment forms It must be reported separately. Amendment forms The remaining assets sold at a gain are reported together. Amendment forms Example. Amendment forms You sold three separate and unrelated parcels of real property (A, B, and C) under a single contract calling for a total selling price of $130,000. Amendment forms The total selling price consisted of a cash payment of $20,000, the buyer's assumption of a $30,000 mortgage on parcel B, and an installment obligation of $80,000 payable in eight annual installments, plus interest at 8% a year. Amendment forms Your installment sale basis for each parcel was $15,000. Amendment forms Your net gain was $85,000 ($130,000 − $45,000). Amendment forms You report the gain on the installment method. Amendment forms The sales contract did not allocate the selling price or the cash payment received in the year of sale among the individual parcels. Amendment forms The FMV of parcels A, B, and C were $60,000, $60,000, and $10,000, respectively. Amendment forms The installment sale basis for parcel C was more than its FMV, so it was sold at a loss and must be treated separately. Amendment forms You must allocate the total selling price and the amounts received in the year of sale between parcel C and the remaining parcels. Amendment forms Of the total $130,000 selling price, you must allocate $120,000 to parcels A and B together and $10,000 to parcel C. Amendment forms You should allocate the cash payment of $20,000 received in the year of sale and the note receivable on the basis of their proportionate net FMV. Amendment forms The allocation is figured as follows:   Parcels   A and B Parcel C FMV $120,000 $10,000 Minus: Mortgage assumed 30,000 -0- Net FMV $ 90,000 $10,000 Proportionate net FMV:     Percentage of total 90% 10% Payments in year of sale:     $20,000 × 90% $18,000   $20,000 × 10%   $2,000 Excess of parcel B mortgage over installment sale basis 15,000 -0- Allocation of payments  received (or considered  received) in year of sale $ 33,000 $ 2,000 You cannot report the sale of parcel C on the installment method because the sale results in a loss. Amendment forms You report this loss of $5,000 ($10,000 selling price − $15,000 installment sale basis) in the year of sale. Amendment forms However, if parcel C was held for personal use, the loss is not deductible. Amendment forms You allocate the installment obligation of $80,000 to the properties sold based on their proportionate net FMVs (90% to parcels A and B, 10% to parcel C). Amendment forms Sale of a Business The installment sale of an entire business for one overall price under a single contract is not the sale of a single asset. Amendment forms Allocation of Selling Price To determine whether any of the gain on the sale of the business can be reported on the installment method, you must allocate the total selling price and the payments received in the year of sale between each of the following classes of assets. Amendment forms Assets sold at a loss. Amendment forms Real and personal property eligible for the installment method. Amendment forms Real and personal property ineligible for the installment method, including: Inventory, Dealer property, and Stocks and securities. Amendment forms Inventory. Amendment forms   The sale of inventories of personal property cannot be reported on the installment method. Amendment forms All gain or loss on their sale must be reported in the year of sale, even if you receive payment in later years. Amendment forms   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. Amendment forms If you do not, each payment must be allocated between the inventory and the other assets sold. Amendment forms   Report the amount you receive (or will receive) on the sale of inventory items as ordinary business income. Amendment forms Use your basis in the inventory to figure the cost of goods sold. Amendment forms Deduct the part of the selling expenses allocated to inventory as an ordinary business expense. Amendment forms Residual method. Amendment forms   Except for assets exchanged under the like-kind exchange rules, both the buyer and seller of a business must use the residual method to allocate the sale price to each business asset sold. Amendment forms This method determines gain or loss from the transfer of each asset and the buyer's basis in the assets. Amendment forms   The residual method must be used for any transfer of a group of assets that constitutes a trade or business and for which the buyer's basis is determined only by the amount paid for the assets. Amendment forms This applies to both direct and indirect transfers, such as the sale of a business or the sale of a partnership interest in which the basis of the buyer's share of the partnership assets is adjusted for the amount paid under section 743(b). Amendment forms   A group of assets constitutes a trade or business if goodwill or going concern value could, under any circumstances, attach to the assets or if the use of the assets would constitute an active trade or business under section 355. Amendment forms   The residual method provides for the consideration to be reduced first by cash and general deposit accounts (including checking and savings accounts but excluding certificates of deposit). Amendment forms The consideration remaining after this reduction must be allocated among the various business assets in a certain order. Amendment forms   For asset acquisitions occurring after March 15, 2001, make the allocation among the following assets in proportion to (but not more than) their fair market value on the purchase date in the following order. Amendment forms Certificates of deposit, U. Amendment forms S. Amendment forms Government securities, foreign currency, and actively traded personal property, including stock and securities. Amendment forms Accounts receivable, other debt instruments, and assets that you mark to market at least annually for federal income tax purposes. Amendment forms However, see Regulations section 1. Amendment forms 338-6(b)(2)(iii) for exceptions that apply to debt instruments issued by persons related to a target corporation, contingent debt instruments, and debt instruments convertible into stock or other property. Amendment forms Property of a kind that would properly be included in inventory if on hand at the end of the tax year or property held by the taxpayer primarily for sale to customers in the ordinary course of business. Amendment forms All other assets except section 197 intangibles. Amendment forms Section 197 intangibles except goodwill and going concern value. Amendment forms Goodwill and going concern value (whether or not they qualify as section 197 intangibles). Amendment forms   If an asset described in (1) through (6) is includible in more than one category, include it in the lower number category. Amendment forms For example, if an asset is described in both (4) and (6), include it in (4). Amendment forms Agreement. Amendment forms   The buyer and seller may enter into a written agreement as to the allocation of any consideration or the fair market value of any of the assets. Amendment forms This agreement is binding on both parties unless the IRS determines the amounts are not appropriate. Amendment forms Reporting requirement. Amendment forms   Both the buyer and seller involved in the sale of business assets must report to the IRS the allocation of the sales price among section 197 intangibles and the other business assets. Amendment forms Use Form 8594, Asset Acquisition Statement Under Section 1060, to provide this information. Amendment forms The buyer and seller should each attach Form 8594 to their federal income tax return for the year in which the sale occurred. Amendment forms Sale of Partnership Interest A partner who sells a partnership interest at a gain may be able to report the sale on the installment method. Amendment forms The sale of a partnership interest is treated as the sale of a single capital asset. Amendment forms The part of any gain or loss from unrealized receivables or inventory items will be treated as ordinary income. Amendment forms (The term “unrealized receivables” includes depreciation recapture income, discussed earlier. Amendment forms ) The gain allocated to the unrealized receivables and the inventory cannot be reported under the installment method. Amendment forms The gain allocated to the other assets can be reported under the installment method. Amendment forms For more information on the treatment of unrealized receivables and inventory, see Publication 541. Amendment forms Example — Sale of a Business On June 4, 2013, you sold the machine shop you had operated since 2005. Amendment forms You received a $100,000 down payment and the buyer's note for $120,000. Amendment forms The note payments are $15,000 each, plus 10% interest, due every July 1 and January 1, beginning in 2014. Amendment forms The total selling price is $220,000. Amendment forms Your selling expenses are $11,000. Amendment forms The selling expenses are divided among all the assets sold, including inventory. Amendment forms Your selling expense for each asset is 5% of the asset's selling price ($11,000 selling expense ÷ $220,000 total selling price). Amendment forms The FMV, adjusted basis, and depreciation claimed on each asset sold are as follows:     Depre- ciation Adj. Amendment forms Asset FMV Claimed Basis Inventory $ 10,000 -0- $ 8,000 Land 42,000 -0- 15,000 Building 48,000 $9,000 36,000 Machine A 71,000 27,200 63,800 Machine B 24,000 12,960 22,040 Truck 6,500 18,624 5,376   $201,500 $67,784 $150,216         Under the residual method, you allocate the selling price to each of the assets based on their FMV ($201,500). Amendment forms The remaining $18,500 ($220,000 - $201,500) is allocated to your section 197 intangible, goodwill. Amendment forms The assets included in the sale, their selling prices based on their FMVs, the selling expense allocated to each asset, the adjusted basis, and the gain for each asset are shown in the following chart. Amendment forms   Sale  Price Sale   Exp. Amendment forms Adj. Amendment forms   Basis Gain Inventory $ 10,000 $ 500 $ 8,000 $ 1,500 Land 42,000 2,100 15,000 24,900 Building 48,000 2,400 36,000 9,600 Mch. Amendment forms A 71,000 3,550 63,800 3,650 Mch. Amendment forms B 24,000 1,200 22,040 760 Truck 6,500 325 5,376 799 Goodwill 18,500 925 -0- 17,575   $220,000 $11,000 $150,216 $58,784 The building was acquired in 2005, the year the business began, and it is section 1250 property. Amendment forms There is no depreciation recapture income because the building was depreciated using the straight line method. Amendment forms All gain on the truck, machine A, and machine B is depreciation recapture income since it is the lesser of the depreciation claimed or the gain on the sale. Amendment forms Figure depreciation recapture in Part III of Form 4797. Amendment forms The total depreciation recapture income reported in Part II of Form 4797 is $5,209. Amendment forms This consists of $3,650 on machine A, $799 on the truck, and $760 on machine B (the gain on each item because it was less than the depreciation claimed). Amendment forms These gains are reported in full in the year of sale and are not included in the installment sale computation. Amendment forms Of the $220,000 total selling price, the $10,000 for inventory assets cannot be reported using the installment method. Amendment forms The selling prices of the truck and machines are also removed from the total selling price because gain on these items is reported in full in the year of sale. Amendment forms The selling price equals the contract price for the installment sale ($108,500). Amendment forms The assets included in the installment sale, their selling price, and their installment sale bases are shown in the following chart. Amendment forms   Selling  Price Install- ment  Sale  Basis Gross  Profit Land $ 42,000 $17,100 $24,900 Building 48,000 38,400 9,600 Goodwill 18,500 925 17,575 Total $108,500 $56,425 $52,075         The gross profit percentage (gross profit ÷ contract price) for the installment sale is 48% ($52,075 ÷ $108,500). Amendment forms The gross profit percentage for each asset is figured as follows: Percentage Land— $24,900 ÷ $108,500 22. Amendment forms 95 Building— $9,600 ÷ $108,500 8. Amendment forms 85 Goodwill— $17,575 ÷ $108,500 16. Amendment forms 20 Total 48. Amendment forms 00 The sale includes assets sold on the installment method and assets for which the gain is reported in full in the year of sale, so payments must be allocated between the installment part of the sale and the part reported in the year of sale. Amendment forms The selling price for the installment sale is $108,500. Amendment forms This is 49. Amendment forms 3% of the total selling price of $220,000 ($108,500 ÷ $220,000). Amendment forms The selling price of assets not reported on the installment method is $111,500. Amendment forms This is 50. Amendment forms 7% ($111,500 ÷ $220,000) of the total selling price. Amendment forms Multiply principal payments by 49. Amendment forms 3% to determine the part of the payment for the installment sale. Amendment forms The balance, 50. Amendment forms 7%, is for the part reported in the year of the sale. Amendment forms The gain on the sale of the inventory, machines, and truck is reported in full in the year of sale. Amendment forms When you receive principal payments in later years, no part of the payment for the sale of these assets is included in gross income. Amendment forms Only the part for the installment sale (49. Amendment forms 3%) is used in the installment sale computation. Amendment forms The only payment received in 2013 is the down payment of $100,000. Amendment forms The part of the payment for the installment sale is $49,300 ($100,000 × 49. Amendment forms 3%). Amendment forms This amount is used in the installment sale computation. Amendment forms Installment income for 2013. Amendment forms   Your installment income for each asset is the gross profit percentage for that asset times $49,300, the installment income received in 2013. Amendment forms Income Land—22. Amendment forms 95% of $49,300 $11,314 Building—8. Amendment forms 85% of $49,300 4,363 Goodwill—16. Amendment forms 2% of $49,300 7,987 Total installment income for 2013 $23,664 Installment income after 2013. Amendment forms   You figure installment income for years after 2013 by applying the same gross profit percentages to 49. Amendment forms 3% of the total payments you receive on the buyer's note during the year. Amendment forms Unstated Interest and Original Issue Discount (OID) 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. Amendment forms Interest provided in the contract is called stated interest. Amendment forms 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. Amendment forms If section 483 applies to the contract, this interest is called unstated interest. Amendment forms If section 1274 applies to the contract, this interest is called original issue discount (OID). Amendment forms An installment sale contract does not provide for adequate stated interest if the stated interest rate is lower than the test rate (defined later). Amendment forms Treatment of unstated interest and OID. Amendment forms   Generally, if a buyer gives a debt in consideration for personal use property, the unstated interest rules do not apply. Amendment forms As a result, the buyer cannot deduct the unstated interest. Amendment forms The seller must report the unstated interest as income. Amendment forms   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. Amendment forms   If the debt is subject to the 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. Amendment forms Rules for the seller. Amendment forms   If either section 1274 or section 483 applies to the installment sale contract, you must treat part of the installment sale price as interest, even though interest is not called for in the sales agreement. Amendment forms If either section applies, you must reduce the stated selling price of the property and increase your interest income by this unstated interest. Amendment forms   Include the unstated interest in income based on your regular method of accounting. Amendment forms Include OID in income over the term of the contract. Amendment forms   The OID includible in income each year is based on the constant yield method described in section 1272. Amendment forms (In some cases, the OID on an installment sale contract also may include all or part of the stated interest, especially if the stated interest is not paid at least annually. Amendment forms )   If you do not use the installment method to report the sale, report the entire gain under your method of accounting in the year of sale. Amendment forms Reduce the selling price by any stated principal treated as interest to determine the gain. Amendment forms   Report unstated interest or OID on your tax return, in addition to stated interest. Amendment forms Rules for the buyer. Amendment forms   Any part of the stated selling price of an installment sale contract treated by the buyer as interest reduces the buyer's basis in the property and increases the buyer's interest expense. Amendment forms These rules do not apply to personal-use property (for example, property not used in a trade or business). Amendment forms Adequate stated interest. Amendment forms   An installment sale contract generally provides for adequate stated interest if the contract's stated principal amount is at least equal to the sum of the present values of all principal and interest payments called for under the contract. Amendment forms The present value of a payment is determined based on the test rate of interest, defined next. Amendment forms (If section 483 applies to the contract, payments due within six months after the sale are taken into account at face value. Amendment forms ) 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 test rate of interest. Amendment forms Test rate of interest. Amendment forms   The test rate of interest for a contract is the 3-month rate. Amendment forms The 3-month rate is the lower of the following applicable federal rates (AFRs). Amendment forms The lowest AFR (based on the appropriate compounding period) in effect during the 3-month period ending with the first month in which there is a binding written contract that substantially provides the terms under which the sale or exchange is ultimately completed. Amendment forms The lowest AFR (based on the appropriate compounding period) in effect during the 3-month period ending with the month in which the sale or exchange occurs. Amendment forms Applicable federal rate (AFR). Amendment forms   The AFR depends on the month the binding