Hopefully this will all be over next year, and I am wondering how to do it.
I figure that if I take the average escrow balance each year, I can multiply by the interest rate and sum them. If anything is left over beyond the sum of the interest, then it is capital gains. Does that make sense, or is there a better way?
What is the proper interest to use? Thanks.
First of all the statutes are the law, and regulations are invalid to the extent they are not consistent with the statutes. Additionally, IRS publications give guidance, but have no legal effect.
You're right that under section 453 what OP describes is an installment sale - the transfer of title is taking place in a year different from the payment for the property. But it's more complex than just that.
The temporary regulation you cite does not deal with OP's situation - where the sale price can't be determined at the time of the transaction. In fact section 453 says,
"The regulations prescribed under paragraph (1) shall include regulations providing for ratable basis recovery in transactions where the gross profit or the total contract price (or both) cannot be readily ascertained."
The IRS has not done so. There are letter rulings that have dealt with uncertain purchase prices, but in those cases there was a definite payment period. There wasn't either of those in this case. Because of that, even though title may have changed 12 years ago, I think it is reasonable to characterize the sale to have taken place with both the purchase price and the payment term were established.
I don't understand that. Yes, the original payment can have been a business loss. But title still transferred 12 years ago, with no payments made to the seller at that point.
Yes, that is certain.
I don't see how that would be illegal. But you actually transferred title back then?
I think you may have an argument that section 1274 doesn't apply and that you may not need to impute interest. Because it says that it applies to loans where there is a "stated redemption price at maturity...." Your loan didn't have that.
Under section 1274, imputed intereste is based on the present value of future payments calculated on the date of the sale. But in your case that calculation couldn't be done because the amount of future payments could not be determined at that time.
I haven't researched this extensively, but I think you have a good argument based on the statute that no imputed interest is required in your transaction.
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I disagree. There is a paragraph in Publication 537 called "Contingent Payment Sale", which says to refer to regulations 15a.453-1(c). I haven't researched those regulations either.
Another potential approach, consistent with the section of Publication 537 on escrow accounts, is to treat actual payment of remediation funds as a business loss, making the original sale NOT an installment sale. Perhaps that's what the second accountant had in mind.
I think the OP needs professional help.
I sued the first accountant for malpractice on a related matter. The second accountant and a tax attorney reviewed everything the first accountant did and told me his method for handling the sale was not accepted by the IRS. They amended my tax return to make it an installment sale. The first accountant's expert witness acknowledged the first accountant's method was unacceptable (but insisted that as long as he acted in good faith, there could be no malpractice.)
So, I am pretty sure it is an installment sale, and that imputed interest is required.
I am asking about the method for calculating how much of the fund are imputed interest. I am hoping that taking the average value for the year and multiplying by the interest rate for that year and summing them. Anything left over is capital gains. Is that reasonable.
There is roughly a $20,000 tax difference between everything being capital gains and everything being interest. My guess is that after 12 years everything is likely to be interest, but need to confirm that.
That is the safest option.
I haven't done extensive research on this, but I have looked at several IRS letter rulings on similar issues. They seem to accept any way to calculating imputed interest that makes economic sense.
If the interest is so high that it exceeds your basis, you may have a loss you can take.
I presume the interest rate comes from this document.
That shows interest rates for obligations entered into in September
2019. The rate changes every month. One approach would be to find the rates for the month when you sold your interest in the property. You can find it here:
Using my method and those interest rates it turns out only a third of the capital gains has changed to interest over 10 years. That's not too bad; I guess I didn't understand how low the interest rates were all those years.
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