Deceased Installment Sales

[Corduroy Frog]

Mother sells 10 acres of expensive property to her son at FMV. Land was bought 50 years ago at $30 per acre and she sells to her son for $10,000 per acre. LT Gain is $97,500.

Son makes no down payment, and pays $5,000 on principal every year plus 6% interest.
Mother begins reporting on the installment sale method, Form 6252. After 3 years, Momma dies, after collecting $10,000 of the $100,000 sale.

Son still owes $90,000 and is also a beneficiary if estate mess is ever settled. No question he still owes the money, but is there a stepped-up basis on the Note Receivable such that the estate is not required to recognize the rest of the profit left on installment?

[Uncle Sam]

Deceased Installment Sale

Installment note was a matter of fact before mother deceased.
Son only owes the estate the $ 90,000 balance.
Son took title to the property before death - no step up in basis.
If anything, son's basis would be reduced by the amount NOT paid to the estate.

[Corduroy Frog]

Thanks

Thanks to Uncle Sam for your response.

Mother did not own title to the land obviously but
the FMV of the Receivable was $90,000. I was hoping by
stepping-up the Receivable that would render her basis
$90,000 to apply against future payments.

Thanks

[Bees Knees]

From IRS Pub 537, page 11

Transfer due to death. The transfer of an
installment obligation (other than to a buyer) as
a result of the death of the seller is not a disposition.
Any unreported gain from the installment
obligation is not treated as gross income to the
decedent. No income is reported on the decedent’s
return due to the transfer. Whoever receives
the installment obligation as a result of
the seller’s death is taxed on the installment
payments the same as the seller would have
been had the seller lived to receive the payments.

However, if an installment obligation is canceled,
becomes unenforceable, or is transferred
to the buyer because of the death of the holder
of the obligation, it is a disposition. The estate
must figure its gain or loss on the disposition. If
the holder and the buyer were related, the FMV
of the installment obligation is considered to be
no less than its full face value.

[Corduroy Frog]

Thanks

Thanks as usual, Bees Knees. This opens the door to take advantage of a somewhat stepped-up value of the receivable.

Your answers and comments always appreciated.

[Davc]

Nothing in the cite says anything about a step up in basis. It says that if the note is canceled, becomes noncollectable, or is transfered to the son as a distribution it's a deemed sale of the note at the greater of FMV or remaining face value. In any of these situations the Estate immediately recognizes any remaining gain on the original sale plus any additional gain if FMV is greater than face value.

[WhiteOleander]

There is no step-up on installment sales contracts if the owner dies.

[Corduroy Frog]

Brick Wall

Appreciate all the responses, and looks like I'm running into a brick wall. Miss Oleander, is there a statute or regulation that forces the rest of the income to be recognized by the estate? If there is, this may foil my plot, and the savings are not recoverable, so it would be helpful to know this.

The "step-up" in basis rationale is as follows: A $90,000 note receivable with a $3000 basis is still an asset with a monetary FMV of $90,000. If the question was a piece of land worth $90,000 and a $3000 original cost, the step-up would be obvious, and immediately the land would have a basis of $90,000.

Even if the receivable is from an heir, if it were sold to a third party bank, would the estate be forced to recognize this whopping gain at that point, or would the basis of the receivable be $90,000? I've read Bees Knees comment several times and he says that the estate would have to treat it as a disposition and recognize gain or loss. However, in that event, what would be the basis for that gain/loss? stepped-up to $90,000 or remaining at $3,000?

Those of you who have responded, thank you. Would this be worth re-thinking?

[Davc]

Installment obligations are specifically exempt from receiving a step-up or down in basis. Read the cite again.

"Whoever receives
the installment obligation as a result of
the seller’s death is taxed on the installment
payments the same as the seller would have
been had the seller lived to receive the payments."

Your plot is foiled. Accept it and move on.

[Corduroy Frog]

Estate Tax

Davc - we can "move on" - but given that the estate has $87,000 more income to report on the $90,000 note:

How would we list the asset if the estate had to file a 706? I would think the full $90,000 would have to be listed (and I refer to the text). So the estate is taxed on stepped-up value whether it is entitled to the basis or not, and then if distributed to an heir C, heir C will have to report the installment profit as retired.

[WhiteOleander]

The installment note is kind of like an accounts receiveable. So, the FMV is the amount still owed at the death of the owner. You can't get someone to say the debt is actually worth more or less and take that basis. It is what it is.

So, assuming the debtor continues to pay on the installment note, the heir will receive the funds just as the deceased did.

So the outstanding debt is what is to be reported as the FMV on the 706.

Since the son is also the heir (I am assuming) then the estate must show the sale as completed. As posted by Bees:

.However, if an installment obligation is canceled,
becomes unenforceable, or is transferred
to the buyer because of the death of the holder
of the obligation, it is a disposition. The estate
must figure its gain or loss on the disposition. If
the holder and the buyer were related, the FMV
of the installment obligation is considered to be
no less than its full face value

Otherwise, the heir would owe himself the money. Doesn't make much sense. And if the estate does not show it as a disposition, then the buyer gets by without paying for the property.

[les grans]

IRD - Income in Respect of a Decedent

Here's what another website says about the "inherited" installment obligation:

"...Congress focused on the problem of income tax inherent in certain assets included in the gross estate by allowing an income tax deduction under section 691(c). ...section
691(c) provides an income tax deduction determined by reference to the estate tax attributable to the assets. The court reasoned that Congress recognized that an installment obligation which includes income in respect of a decedent is subject to both income tax and estate tax. Congress chose to ameliorate the impact of the income taxation of the property by allowing an income tax deduction under section 691(c)."

I think what that means is that the value of the note is subject to estate tax, and the gain "included" in the note is subject to income tax, there is no step-up, but there is allowed a deduction against income tax when the installment gain is recognized, determined under the IRD rules.