Forfeited deposit

[FEDUKE404]

Isn't it plain vanilla ordinary income?

WOW - I thought this was a simple question until I started reading the answers.

My spin is the recipient of the income has ordinary income, pure and simple. (I'll let others decide if a business could deduct the same payment.)

In the recent past I had a client who received $50k each of several years running as an option to buy his property. Each year the option was unexercised, and each year the income was reported as ordinary income. Eventually they DID excercise the option and bought the property, and all funds (for that year only) went into the total sales prices, Sch D, etc.

I hope I have not been having another Rip Van Winkle moment?

FE

[ProbateGeek]

Hmmm....would that ordinary loss to the purchaser be deductible? Let's assume the buyer was buying equipment for their business, or a rental property. How can they have a deductible loss on property they never owned? Or, is it considered an investment loss? If so, what about a personal residence?

I can only think that the loss would not be deductible to the average taxpayer as purchaser, if the transaction was, say, the purchase of a personal residence. In our case, the would-be buyer was a real estate developer (okay, maybe not a good one...), and so should be able to take the loss.

Terry

Nothing is more admirable than the fortitude with which millionaires tolerate the disadvantages of their wealth. Nero Wolfe in The Red Box, by Rex Stout (Farrar & Rinehart, Inc., 1937).

[oceanlovin'ea]

Perfect timing

This is perfect timing as the client I had the question regarding just brought his tax papers in this week.

Since this is ordinary income and not a schedule D transaction, I guess we can just put it on line 21.

Linda F

[Zee]

First time poster, here.

Sandy,

I cannot offer a complete explanation (concise or not, and certainly not clear!), as that's a pretty tall order for a probate attorney. I was consulted by an estate's CPA to answer the question of income tax treatment of a $50,000 purchase deposit forfeited to estate as seller. Here's what I found yesterday:

"If the purchaser defaults, and thus the sale is not closed, the purchaser's loss of the deposit does not result from a sale or an exchange. Accordingly, the forfeiture of the deposit will result in an ordinary loss to the purchase and ordinary income to the seller." (from Capital Gains and Losses: the Federal Income Tax Consequences of Property Transactions, Student Edition, by Earl M. Colson, 1975, American Law Institute, p. 149).

The Harold S. Smith case, 50 T.C. 273 (1968), referenced in a prior response, reasoned this is so because "[t]he seller in such cases has the same capital assets as before and has the deposited amount as well. If the taxpayer is to be entitled to treat the amount retained as long-term capital gain there must be a sale or exchange, and . . . where the contract of sale was never carried out the transaction left him with the property plus the deposited fund."

The estate's CPA will be highly disappointed, but there it is.

Terry
Nothing is more admirable than the fortitude with which millionaires tolerate the disadvantages of their wealth. Nero Wolfe in The Red Box, by Rex Stout (Farrar & Rinehart, Inc., 1937).

Hmmm....would that ordinary loss to the purchaser be deductible? Let's assume the buyer was buying equipment for their business, or a rental property. How can they have a deductible loss on property they never owned? Or, is it considered an investment loss? If so, what about a personal residence?

[S T]

Thank you

Terry nice to have you on the Board.

Thank you for the information on forfeited deposits.

Sandy

[ProbateGeek]

. . . No question that the seller that receives the forfeited deposit and failed transaction needs to report income. I have read that it could be a Schedule D since it is related to a Capital Asset, some posts will say "basis" adjustment"

. . . Can anyone give a clear and consie explanation on treatment of forfeited deposit . .

Sandy

First time poster, here.

Sandy,

I cannot offer a complete explanation (concise or not, and certainly not clear!), as that's a pretty tall order for a probate attorney. I was consulted by an estate's CPA to answer the question of income tax treatment of a $50,000 purchase deposit forfeited to estate as seller. Here's what I found yesterday:

"If the purchaser defaults, and thus the sale is not closed, the purchaser's loss of the deposit does not result from a sale or an exchange. Accordingly, the forfeiture of the deposit will result in an ordinary loss to the purchase and ordinary income to the seller." (from Capital Gains and Losses: the Federal Income Tax Consequences of Property Transactions, Student Edition, by Earl M. Colson, 1975, American Law Institute, p. 149).

The Harold S. Smith case, 50 T.C. 273 (1968), referenced in a prior response, reasoned this is so because "[t]he seller in such cases has the same capital assets as before and has the deposited amount as well. If the taxpayer is to be entitled to treat the amount retained as long-term capital gain there must be a sale or exchange, and . . . where the contract of sale was never carried out the transaction left him with the property plus the deposited fund."

The estate's CPA will be highly disappointed, but there it is.

Terry
Nothing is more admirable than the fortitude with which millionaires tolerate the disadvantages of their wealth. Nero Wolfe in The Red Box, by Rex Stout (Farrar & Rinehart, Inc., 1937).

[oceanlovin'ea]

Moving back up

Just moving this post back up to the top.

On investment property would the forfeited deposit go on Schedule D or line 21?

Thanks

Linda F

[oceanlovin'ea]

Answer??

I just wanted to move this back up to the top so Sandy's questions could get answered. I would like to know the answer too.

Linda F

[S T]

Pub 530 is all that I find so far

According to Pub 530, it simply states that in the case of personal residence, the buyer can not deduct the forfeited deposit. However, something way, way back in my mind seems that forfeited deposit could be added to basis of a subsequent concluded transaction. And this might only be for personal residence, not for investment property. I can't find the info on forfeited deposit for investment purchase.

No question that the seller that receives the forfeited deposit and failed transaction needs to report income. I have read that it could be a Schedule D since it is related to a Capital Asset, some posts will say "basis" adjustment"

So now I am confused!

Can anyone give a clear and consie explanation on treatment of forfeited deposit,

1) for personal residence
2) for investment property

Glad you are all here

Sandy

[cpadan]

Isnt' it income to the receipient (seller) and basis adjustment somewhere to the person (buyer) that didn't go through with the transaction.

Could this be the confusion?

Sandy

Sandy I don't see where there would be a basis adjustment on either side. The buyer (potential) never received title to the property so he never had a basis to begin with.
Dan

[S T]

Wonder

Isnt' it income to the receipient (seller) and basis adjustment somewhere to the person (buyer) that didn't go through with the transaction.

Could this be the confusion?

Sandy

[cpadan]

Per RIA:

A seller who retains both the down payment and the property must treat the forfeited amount as ordinary income. 5


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5

Binns, Josephine v. U.S., (1967, CA6) 20 AFTR 2d 5715 , 385 F2d 159 , 67-2 USTC ¶9720 ; Smith, Harold S., (1968) 50 TC 273 , affd(1969, CA9) 24 AFTR 2d 69-6020 , 418 F2d 573 , 70-1 USTC ¶9110 ; Mittleman, Meyer, (1971) 56 TC 171 , affd(1972, CA3) 30 AFTR 2d 72-5574 , 464 F2d 1393 , 72-2 USTC ¶9679 ; Greenleaf, Aaron, (1950) PH TCM ¶50275 , 9 CCH TCM 1024 ; Boatman, Ralph, (1959) 32 TC 1188 ; Mechanic, Morris, (1960) TC Memo 1960-126 , PH TCM ¶60126 , 19 CCH TCM 667 ; Melone, Gerald, (1966) 45 TC 501 ; Handelman, Philip v. Com., (1975, CA2) 35 AFTR 2d 75-637 , 509 F2d 1067 , 75-1 USTC ¶9208 , revg(1973) TC Memo 1973-57 , PH TCM ¶73057 , 32 CCH TCM 249 ; Ailes, Milton, (1983) TC Memo 1983-388 , PH TCM ¶83388 , 46 CCH TCM 648

[BOB W]

Gene> the writing is on the screen (copy/paste) and it is probably correct.

When it is someone elses client > it goes on line 21. When it is my client> it is basis.

When I first research this issue I found it both ways so I split the difference> basis adjustment.

[Gene V]

Bob W.

Bob, I not saying you were wrong, my writing skills just isn’t up to par as the rest
Of you guys, (34 years in the airline-just didn’t teach me to write.) That’s why its
easier for me to copy and paste article’s. For all I know the attorney could be wrong.

[BOB W]

You realize, of course, that it's now our duty to report you to the proper authorities.

P.S. Never mind about that. I just remembered a couple of skeletons I left back there somewhere in the archives closet. Let's just call it even.

It was a small amount and the statute has run or will run shortly.