Are you selling your business or property? A structured installment sale might be appropriate for you. Structured installment sales allow you to receive payments in small, regular installments over time. This can allow for a steady income stream and provide tax advantages, including minimizing capital gains taxes.
If you’re seeking to use stocks you’ve held onto for a long time for capital tax-loss harvesting, there is an innovative way to do so while incorporating short positions. However, tax-loss harvesting methods often have limitations regarding the amount of capital losses that can be generated in the same tax year as the capital gain income. If you sold a business or property late in the year, you have limited time to implement the strategy effectively.
For these situations, a structured installment sale may be your best option. This approach allows business or property owners to spread out capital gains over multiple years, giving them additional time to recognize capital gains income and align with tax-harvesting strategies to defer capital gains tax.
Understanding the Installment Sale
Installment sales enable buyers to pay for capital assets over time in installments. In a typical business or real estate sale, proceeds are transferred to the buyer in a lump sum within a single tax year, posing difficulties in maximizing tax deferral strategies. Conversely, an installment sale offers advantages for both parties, facilitating buyer financing while allowing the seller to defer capital gains over multiple years. Sellers can specify immediate proceed income and designate the remaining amount to be received over a set period in installment payments.
However, a significant drawback of the installment sale is the seller's exposure to credit risk if the buyer defaults on future payments, potentially necessitating the seller to reclaim the operation of the business or real estate. This risk, coupled with potential declines in the asset's value, dissuades some sellers from pursuing tax benefits associated with installment sales.
To mitigate the risk of extending credit to buyers, the structured installment sale strategy redirects installment payments through a third-party assignment company. This arrangement enables sellers to spread capital gains over multiple years without assuming credit risk, thereby safeguarding against potential declines in asset value in case of buyer default.
How Structured Installment Sales Work
To better understand structured installment sales, consider four factors: eligibility, assignment company, compliance and investment options.
- Eligibility: IRC 537 outlines eligibility criteria for capital assets suitable for structured installment sales, including business and real estate assets, while excluding inventory, stock, securities and depreciation recapture.
- Assignment Company: Structured installment sales incorporate an assignment company into the transaction. This entity receives full payment from the buyer and assumes responsibility for future installment payments, enabling sellers to avoid immediate recognition of income and instead defer it until receipt.
- Compliance: Structured installment sales necessitate oversight by licensed experts to confirm proper implementation and compliance with requisite documentation, facilitating seamless execution of the payout schedule.
- Investment Options: Assignment companies offer various investment options for received funds and installment payments, including annuities from insurance companies, Treasury-funded settlement solutions, and market-based programs managed by registered investment advisers.
Structured installment sales present a strategic approach to optimizing wealth accumulation while minimizing capital gains taxes. However, it's imperative for individuals to consult financial planners and tax advisors before implementing this complex strategy. A CFP® professional with experience in structured installment sales can help you navigate the complexities while keeping your overall financial goals in mind. Find your CFP® professional today.
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