How to expense payment to bank on behalf of seller before property purchase

Question

Here's the situation - Client has earnest money put down on a property to purchase. Closing takes longer than expected, so client graciously makes the sellers loan payment @ bank. Property has now closed, this amt was not addressed anywhere. So, since it was made on behalf of the seller, what should it be expensed to on purchaser's side? AND, should that amt be reported on 1099 as "income" to the seller (my thinking is that he will get the benefit of the interest that was paid, plus he rec'd more $ @ closing because of the principal that had been paid.

(background - I'm a fullcharge bookkeeper, but sometimes I run into situations I'm not exactly sure about. Tax preparer on this acct is an EA and I'm not sure he could answer my question. TIA!) N Owen

Bob · Accepted Answer

Can the seller not simply repay the buyer? It seems like a short termloan arrangement, and if they repay there wouldn't be any taxconsequences. I don't have any guidance to back up that position, butjust thinking out loud...

N Owen · Answer

No, not an option. This was just a gentlemen's agreement and no repaymentis expected. I now have to deal with the fallout (and book/reportcorrectly! :^)N Owen

Bob · Answer

If that's the case, sounds like a gift to me, and I don't believe youcan deduct interest on property you don't yet own. Unless it's amaterial amount, I'd call it a gift and move on. Seller gets thebenefit of the interest deduction and extra principle.

Rocinante · Answer

I would also consider this a gift per the guidelines since your client is not getting anything in return. However, you need to show this in case this comes up in the future.

If you want an audit trail for this transaction, try this in Quicken or Quickbooks (or a similar program):

Set up a "gift" account in cash flows or the COA.
Make an entry for the check to the bank, but book it as a transfer to the gift account.
Within the gift account, transfer out the loan payment by showing the seller as the payee and book it to "gifts given" since your client cannot show that he received anything in return.

Of course, you could do it the easy way and directly book the check to the bank as gifts given and provide more detail in the comments section, but that may initially appear as a direct gift to the bank.

How to expense payment to bank on behalf of seller before property purchase

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