Real Estate Professional Sold Property and Gave a Credit

[PPJCPA]

I have a client who is a real estate professional. He sold property for $185,000.00. In the section under "Reductions in Amount Due to Seller", $37,000 is listed as seller credit.

It is my understanding that the IRS would look at this transaction as if my client received the $185,000 in proceeds and then in turn, returned $37,000 of the proceeds to the buyer. Therefore triggering a Gift Tax Return filing requirement.

I am not sure why my client wouldn't have sold the property at $148,000 instead of $185,000 except maybe he was thinking he would have a book gain higher than a tax gain. He doesn't think he should have to recognize gain on the $37,000.

Is there something I am missing?

[TaxGuyBill]

In my opinion the IRS views it as being sold for $148,000. Or $185,000 with $37,000 of selling expenses.

Either way, no Gift Tax return needs to be filed and there is no gain on that $37,000.

[PPJCPA]

TaxGuyBill,

Thank you for your response. My concern is that the HUD shows the sale price of the property at $185,000. It does show the credit on both the seller and the purchaser side of the HUD. When I research the property on the property appraiser website, it also shows the house was sold for $185,000.

If my client doesn't report the gain, the purchaser of the property could also potentially avoid reporting a $37,000 gain if sold for $37,000.

I am just trying to figure out the proper reporting. If the IRS says the seller is suppose to report the credit and reduce the purchase price upon the sale of the property in the future, then this is great news for my client.

My client is a real estate professional. He purchases multiple properties and rents them, he buys properties and renovates to flip, and also sells real estate not owned by him under his real estate license. I am very careful with the preparation of this return due to high audit risk, IMO.

[Roland Slugg]

It is my understanding that the IRS would look at this transaction as if my client received the $185,000 in proceeds and then in turn, returned $37,000 of the proceeds to the buyer. Therefore triggering a Gift Tax Return filing requirement.

Where did you come to that "understanding? He sold the property for $148,000. The $37,000 in allowances were for agreed-upon items negotiated between buyer and seller.

The seller will receive a 1099-S form, probably from the escrow or title company that handled the funds, and that 1099-S may report a gross selling price of $185,000. If it does, he should include the $37,000 in with the rest of his selling expenses. If the 1099-S reports a selling price of $148,000, then the $37,000 in allowances has been netted, and no further adjustment for that amount needs to be made when reporting the sale on his tax return.

[TaxGuyBill]

If you want, report it as $185,000 with $37,000 of selling expenses.

The way I see it, what did your client receive from the transaction? He received $148,000. The numbers on the HUD-1 or the Closing Disclosure will support that.

[Burke]

The 1099-S should show $185,000. That is the gross sales price as stated on the HUD-1. In my experience, this is often done to qualify the buyer for a higher loan-to-value ratio with the bank. Which I think is a sham if not outright fraud, but then that's just my opinion. In any event, if the seller wants to give the buyer a credit for closing costs, or whatever reason, then that reduces the seller's gain/loss, if any, and the seller accounts for it on his tax return. You did not give sufficient information as to whether this would be ordinary gain/loss or capital gain/loss, but the profit is figured the same way. And it is not treated as a "gift" so no gift tax return is required.

[PPJCPA]

Thank you, TaxGuyBill and Burke.

After reading your comments, it makes sense. What I didn't mention and why I was thinking "gift tax" because the purchaser of the property was to my client's brother. Would that matter? I don't think it would because it's not sold at a loss.

[Burke]

Possibly. We don't know whether this was depreciable property (i.e, commercial bldg., for instance), nor whether it was sold for less than FMV. Review the rules for sales to related parties.

[PPJCPA]

Thanks, Burke. I will.

The property was a rental property so it was depreciated. However it was held for less than one year and therefore the gain is ordinary.

[Burke]

If it was sold for less than FMV with the intent of making a gift then you may have a sale and a gift situation. See Pub 544, page 4 under Bargain Sales.

[PPJCPA]

If it was sold for less than FMV with the intent of making a gift then you may have a sale and a gift situation. See Pub 544, page 4 under Bargain Sales.

Thanks, Burke. I will definitely be reviewing rules for related party sales and the bargain sale.

Your feedback and advise has been a great help.

Thank you!