Business, Legal & Accounting Glossary
In United States income tax law, an installment sale is generally a “disposition of property where at least 1 payment is to be received after the close of the taxable year in which the disposition occurs.”
The term “installment sale” does not include, however, a “dealer disposition” (as defined in the statute) or, generally, a sale of inventory.
If a taxpayer realizes income (e.g., gain) from an installment sale, the income generally must be reported by the taxpayer under the “installment method.” The “installment method” is defined as “a method under which the income recognized for any taxable year [ . . . ] is that proportion of the payments received in that year which the gross profit [ . . . ] bears to the total contract price.”
Nothing in the language of the governing statute (section 453 of the Internal Revenue Code) requires the use of the installment method where the disposition results in a loss. If the taxpayer disposes of property in an installment sale, he or she reports a portion of the gain at the time of receipt of each installment payment. Income from an installment sale is generally reported on IRS Form 6252, Installment Sale Income, to be included in the taxpayer’s Federal income tax return for each year in which a payment is received.
If a sale qualifies as an installment sale, the gain must be reported under the installment method unless the taxpayer elects not to have the installment method apply (i.e., elects to report the entire gain in the year of disposition, even though at least one payment will not have been received by the close of that year) by making the election on a timely filed income tax return for the tax year in which the disposition occurs.
Installment sales are a valuable tool to help sellers defer capital gains tax. As with any other seller-financing, however, the seller is generally at risk with respect to the buyer’s creditworthiness or ability to manage the asset. The seller may often retain a lien against the property to secure payment of the installment obligation, which itself may or may not be evidenced by a promissory note.
A sales method called the Structured sale, also known as the Ensured Installment Sale, is a variation of the traditional installment sale and is intended to protect the seller completely from the risk in connection with the buyer’s creditworthiness.
The installment sale allows buyers to obtain an asset such as real estate without bank financing. The seller is then at risk of buyer default and the consequential repossession/foreclosure of the asset.
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This glossary post was last updated: 24th April, 2020 | 1 Views.