Land contract - rent to own

[JT2307]

Client has house they have been renting - now the tenants are going to rent to own -$1000 a month - 700 to rent 300 towards purchase price.... the buyer is assuming all taxes and assessments.

Question how should I handle this? Schedule E showing the rent and installment agreement showing the 300?

Thanks in advance for the advise with so few days to go.

[spanel]

Client has house they have been renting - now the tenants are going to rent to own -$1000 a month - 700 to rent 300 towards purchase price.... the buyer is assuming all taxes and assessments.

Question how should I handle this? Schedule E showing the rent and installment agreement showing the 300?

Thanks in advance for the advise with so few days to go.

Yes. Also, you will have to break out the $300 into principle/interest and record the Int on Sch B.

[TaxGuyBill]

To me, it seems like $700 interest and $300 principal in an Installment Sale.

[spanel]

To me, it seems like $700 interest and $300 principal in an Installment Sale.

The more I think about it, This is the way I'd go as well.

Chris

[kathyc2]

What does the contract say? Has the sale actually occurred, or will the sale occur at a set date in the future? If in the future, the 300 is essentially a deposit against the future sale and will not be taxable until the actual sale or forfeiture occurs.

[TAXNJ]

Client has house they have been renting - now the tenants are going to rent to own -$1000 a month - 700 to rent 300 towards purchase price.... the buyer is assuming all taxes and assessments.

Question how should I handle this? Schedule E showing the rent and installment agreement showing the 300?

Thanks in advance for the advise with so few days to go.

You need to determine if the situation (agreement) is a lease-option or an installment sale. It may be more involved that just reporting "interest" & "principal".

You should and need to consider what the agreement facts and circumstances are based on to make that determination otherwise the IRS may make that determination.

As reply poster kathyc2 states "What does the contract say? Has the sale actually occurred, or will the sale occur at a set date in the future?"

In addition to a review of the "agreement", consider reviewing IRS Pub 527 and The Tax Book Installment Sale starting at 6-15 and TTB 8-7 Conditional sales contract. If rent or lease payments are in fact made under a conditional sales contract, the payments are not deductible as rent. Instead, the payments are considered to be part of the purchase price of the asset, and the cost of purchasing the asset is recovered through depreciation. A conditional sales contract may exist if any of the following is true........

[TAXNJ]

Yes. Also, you will have to break out the $300 into principle/interest and record the Int on Sch B.

If interest is reported on SCH. B where should the principal (principle) be reported?

[spanel]

Installment sale 6252

[JT2307]

What does the contract say? Has the sale actually occurred, or will the sale occur at a set date in the future? If in the future, the 300 is essentially a deposit against the future sale and will not be taxable until the actual sale or forfeiture occurs.

The lawyer wrote it up as a Land Sale Contract - purchase price 145,000 - 2000 down and $1000 a month (700 for rent $300 towards purchase price) for three years and then balloon payment in 2021.

$700 for interest sounds high. Not too sure where to go with this.

[kathyc2]

The lawyer wrote it up as a Land Sale Contract - purchase price 145,000 - 2000 down and $1000 a month (700 for rent $300 towards purchase price) for three years and then balloon payment in 2021.

$700 for interest sounds high. Not too sure where to go with this.

What does the contract say about what happens to the 2K + 300/month if they default on paying anytime before the 2021 date? Is there any mention of an interest rate? Was anything filed with local authorities to record a land contract?

It sounds to me that renters didn't qualify for bank loan, and owners were not willing to enter into a true installment sale. Sounds like owners are holding the funds for a future purchase. It would be better if a third party held the funds, but it is what it is.

The basis calculation will change each year as the property will continue to be depreciated.

[ATSMAN]

Just do the math. Sale price $145,000. $2000 down. Net financed $143,000. If he is paying only $300 per month for 3 years that is $10,800. What is the balloon payment? The contract should stipulate an interest rate or none. Is $700 FMV rent for that area?

Lot's of questions.

[JT2307]

There was no interest stated so I will use imputed interest rate - and if the purchaser fails to make payments the agreement is null and void (seller will keep all)

After reading every ones thoughts my best option is report the $700 as rent and the $300 towards the installment sale breaking that into principal and interest.

[kathyc2]

After reading every ones thoughts my best option is report the $700 as rent and the $300 towards the installment sale breaking that into principal and interest.

Not the way I would handle it. I don't see how you can both own the house and have rent income, AND have sold the house and have installment income. How are you planning on handling the 6252 for 2019? Because of depreciation your basis/gain numbers will all change. I'm assuming the sale will be at a gain.

I see it as a down-payment for a future sale in 2021. If you are adamant about reporting cash received in 2018, I'd put is Line 21 income, and then increase the basis in house by that amount for 2021.. Of course you would want to document what you did and make sure client has a copy in the event that someone else is preparing returns by then.

[Lion]

Is it interest only with a balloon payment at the end for principal? But you said interest is NOT specified in the documents. Why do lawyers do things like this without talking to the tax preparer?!

[kathyc2]

Is it interest only with a balloon payment at the end for principal? But you said interest is NOT specified in the documents. Why do lawyers do things like this without talking to the tax preparer?!

I don't think interest applies in this situation as the contract is a promise to buy in the future and not a current sale. I've run across a few of these over the years, but have always been for a primary residence and not rental.

Seller could have entered into an installment sale not, but for whatever reason chose not to do so. They are getting extra money now to discourage buyer from changing their mind and walking away in 2021 or prior. Think of it as an escrow account on a traditional sale. Seller has the benefit of not having house sold from under them and also locks in price. Also, the amount they are paying each month will count as a down payment when they apply for a mortgage in 2021.