Client's parents sold property on a RE Installment Loan, carrying the contract. They gifted the loan to Client (daughter). Balance owing at time of gift: $10,000. Payment $800/month including interest. Loan was paid off in 2014. How is client taxed? On interest? How about principal? Comments appreciated.
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Well, the interest the daughter (D) receives is certainly taxable to her. As for the principal, if the parents reported the original sale on the installment basis, then they, not their D, must report gain upon the gift of the note to their D. For that purpose they are treated as if they sold the note at its FMV on the date of the gift. For a relatively small note, just $10K, I would be inclined to treat its FMV as the same as the principal balance. If they do that, the parents would report all the remaining, as-yet-untaxed gain on their own tax return, and the D would have nothing to report for the principal portions of the payments she collects ... just the interest. See Code ยง453B(a).Roland Slugg
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