Taxation of a loan business-I'm Stumped

[Harvey Lucas]

My client buys, fixes up and then sells mobile homes that are already set up in mobile home parks.

Sometimes he gets them for free, only has to fix them, and then sells them.

He always sells them on a contract, ie, he gets a small down payment, and then gets payments on a note at 12 to 18 percent interest.

Most of his profit comes from the interest collected on the notes.

He bought and sold 1 on 2005, 4 in 2006, and none in 2007.

This is a side line activity for him, he has a good W2 job, and since he has only done a few deals, I would like to treat it as an investment activity, report 100% of the sale profit on schedule D in the year of sale(s), report the interest income on schedule B over the years as the notes are collected on.

The problem I am having is that the activity looks like a business to me and as such maybe should all go on Schedule C.

He set the activity up as an LLC, however, it is a sole owner LLC and as such is a disregarded entity for IRS purposes. He does all the buying and selling in the name of the LLC.

He has a website and advertises for people to go to his website to either buy or sell a mobile home.

He says he intends to do more buying and selling in the future.

Is it proper to report the collection of the interest income as gross income on Schedule C?

If we report the interest income on Schedule C, will the IRS computer spit out a notice because it can't find it on Schedule B? (a note servicing company reports the interest to IRS on a 1099 for each of the notes under my clients SSN and name of the LLC)

I am really searching for a clear direction on this one, any help would be appreaciated.

Thank You,
Harvey Lucas

[erchess]

Why

is each one not simply an installment sale? F 6252 and then Sch D and of course the interest each year on Sch B. I presume that you are aware that a single owner LLC can still elect to be taxed as a Corporation although I don't particularly see the benefit of that for him unless he wants to be a C Corp and retain some or all of the earnings to buy more trailers. I have no idea how a Corp would report installment sale income but someone here can clue us in.

[Chief]

6252 Sch D and Sch B

This sounds a logical way to handle these sales under an installment arrangement. I too do not know how or why you would use a corporation for this activity. Since he has a full time job with W2 income I would not see this income as being subject to SE.

[S T]

Interest Income

An auditor once told me that I should not report Interest Income on a Schedule C and subject it to SE tax, it belongs on Schedule B. The question would be whether or not it pertains to your client and his business/investment.

He further said that Schedule B was one of the few ways that IRS had to track the interest income. The purchaser would report on the Schedule A line 11 not reported on form 1098, assuming it was deductible mortgage interest and would have to indicate the seller's information. The seller then would report on Schedule B.

If the note servicing company is reporting 1099 INT form for the interest then I would suspect it would be reported on Schedule B.

As far as the buy/sell would it not fall under the same category as the house flipping and be reported on Schedule C rather than Schedule D. I don't know.

Just laying out some questions that hopefully will bring in further posts.

Sandy

[OtisMozzetti]

Are the trailers capital assets vs. stock in trade?

Another question I would have is whether since this LLC advertises as a buyer and seller of trailers wouldn't the trailers which the LLC owns be considered "stock-in-trade" or inventory held by a dealership? If so, then the trailers would not be capital assets. Schedule D is for sales or exchanges of capital assets. Gains or losses would be ordinary gains or losses. At the same time, the LLC doesn't just buy trailers and sell trailers, the LLC also (extensively?) fixes them up.

[les grans]

Here's an excerpt from IRC section 453 (defining the term "installment sale") which may be of interest to us:

(2) Exceptions
The term "installment sale" does not include -
(A) Dealer dispositions
Any dealer disposition (as defined in subsection (l)).
(B) Inventories of personal property
A disposition of personal property of a kind which is
required to be included in the inventory of the taxpayer if on
hand at the close of the taxable year.

And here's subsection (l) which defines "dealer dispositions" - which are *not* installment sales, as above:

(l) Dealer dispositions
For purposes of subsection (b)(2)(A) -
(1) In general
The term "dealer disposition" means any of the following dispositions:
(A) Personal property
Any disposition of personal property by a person who regularly sells or otherwise disposes of personal property of the same type on the installment plan.
(B) Real property
Any disposition of real property which is held by the taxpayer for sale to customers in the ordinary course of the taxpayer's trade or business.

This is especially interesting because "mobile homes" might be real estate or they might be personal property! It may depend on state law and/or how they - the homes - are attached to the land....

[erchess]

Good Thoughts So Far

As for flipping houses, I thought that this consisted of buying and quickly reselling as opposed to buying and taking weeks or months to fix up. On the other hand I would think that a mobile home would have the same rules as any other house.

As for Capital Asset vs Stock in Trade I am not sure but I have to admit that I am shaky on what is and is not a capital asset.

I would like to see someone like Bees or NYEA weigh in on this.

[Lion]

Business

Sounds like a business to me. He's an LLC, advertises, sells with a profit motive, devotes weeks and even months to a sale, etc. Schedule C. I've also hear what Sandy said about interest to a disregarded entity going on Schedule B, but have no cites for you. He has inventory. Just because it doesn't sell overnight, doesn't make it an investment. An investment is HELD in hopes of prices moving up in that market over time. He's actively improving the price he can get by the work that he does. It might take him weeks or months, but the time is time spend improving for a higher price, not time waiting out the market.

[erchess]

however

the instructions on the installment sale form talk about carrying to Sch D or F 4797 not to Sch C. Or would it go from the 4797 to Sch C?

[Bees Knees]

the instructions on the installment sale form talk about carrying to Sch D or F 4797 not to Sch C. Or would it go from the 4797 to Sch C?

The installment sale method is not allowed for the sale of inventory. If this is a Schedule C business selling inventory, it cannot be reported under the installment method. If it is not a business but rather the purchase and sale of investment property, then the capital gain portion of the sale gets reported under the installment method.

[erchess]

That raises at least two questions

1. How do you decide whether the sale of these trailers is a Sch C Business selling inventory or an investor selling capital gains property?

2. In the Sch C Scenario how are the profit and expenses reported? Is it as simple as this year's share of the income and this year's share of the basis and expenses of sale? Or do you have to report the sale as a one time event?

[Lion]

Business?

It's one of those "facts and circumstances" things. If it walks like a duck.... In this case, he formed an LLC, advertised, etc., and acted like a business. Now, when you're sitting across from your client and able to ask questions and not just trying to form an opinion from someone's post of a few sentences, you can make an informed decision. Or, you can explain the issues to the client for him to make the call. In this case, the client is actively improving the properties for higher resale value. If he were purchasing during a time of depressed prices and holding until the market went up and then maybe cleaning them up a bit to show, well that sounds more like investing.

If he's treating the trailers like inventory to sell in his business, then he's not deducting his costs of improvements until he sells a unit. Just like COGS for any product.

[BHoffman]

Seller-Financed?

I'm taking a stab at this. Would the seller-financing rules apply, making this reportable on Sch B?

[Snaggletooth]

Yes and No

How's that for a straight answer?

If these mobile homes are inventory, there is no provision for installment treatment, even if the units are self-financed. Interest earned "in the course of business" would be considered self-employment income and reported on Schedule C. Schedule B would be appropriate for portfolio earnings, with the definition of portfolio extended to include banking products.

If this is investment property, then the entire gamut of installment sale features applies, including interest on schedule B, gains/losses on Schedule D, form 6252, and investment interest expense (if applicable).

[BHoffman]

I'm voting investment property, report the interest on Sch B. Looks like he only does a few deals now and then.