What is a Tax Deferred Installment Sale:
A Tax-Deferred Installment Sale combines an installment sale to a dealer, who resells the asset to the end buyer for cash with a loan from a third-party lender. Together, these transactions let the seller defer capital gains tax and net about 93.5% of net sales amount in cash at closing.
Think of it as a tax deferred installment sale coupled with a tax-free loan.
- The installment sale defers capital gains tax under Internal Revenue Code Section 453.
- The loan, provided by a third-party private lender, provides the cash at closing and is secured by the installment agreement and a performance bond. No personal guarantees are required, and recourse is limited to the stipulation that the proceeds from the installment agreement must be used to pay the loan.
The terms of the installment agreement and the loan are usually 30 years. They are interest-only payments and final balloon payments on each are set so that they cancel each other out.
As a result, you avoid paying capital gains tax for up to 30 years, and you receive a cash equivalent to about 93.5% of the net sales proceeds in cash, which you may invest unfettered as you wish.
Deferring your tax for an extended period of time (up to 30-years) is the equivalent of a substantial present-day tax reduction. This is because you can invest the money not paid in taxes today at some favorable rate of return and pay the tax in the distant future after accumulating a significant financial yield.
Tax-Deferred Installment Sale History:
Historically this tax strategy was only available to very large companies represented by one of the big accounting firms. These original transaction were often in the 100s of million-dollar range to over a billion dollars. Due to the complexity, the cost of structuring these transactions had previously been out of reach for the small to midsized farmlands. However, over the past decade there has been templates of documentation for realizing nontaxable revenue of deferred payment transactions and is now accessible to nearly all farms and agricultural land, large and small.
The following is a sample of previous transactions by publicly traded companies for Farmland, Agricultural and Woodland assets that deferred capital gain tax for as long as 30-years:
|Corporate Entity||Auditor at Time of Transaction||Transaction Date||Size|
|M Kimberly Clark||Deloitte & Touche LLP||9/30/1999||$617 Million|
|Glatfelter||Deloitte & Touche LLP||2003||$37.90 Million|
|Rayonier||Deloitte & Touche LLP||3/1/2004||$22.90 Million|
|Office Max||KPMG||10/29/2004||$1.47 Billion|
|GREIF, Inc.||Ernst & Young LLP||5/31/2005||$43.25 Million|
|International Paper||Deloitte & Touche LLP||4/4/2006||$4.80 Billion|
|The St. Joe Company||KPMG||3/5/2014||$183 Million|
Tax-Deferred Installment Sale Process:
- The seller sells the asset to a dealer specializing in Tax-Deferred Installment Sales, who performs a role like that of a 1031 qualified intermediary. The seller receives an installment sale note from the dealer.
- The dealer resells the asset to an end buyer for cash, which remains in escrow. For the buyer, everything remains exactly as it would be with a straight sale.
- They will acquire the property or other assets with full title and no delays. (At times a 1031 exchange agent is utilized on real estate transaction to receive the cash on the sale as most buyers are familiar with a 1031 exchange. From that exchange escrow, the installment sale may occur).
- Simultaneously the seller obtains a loan from a third-party lender, introduced to the seller by the dealer.
- The installment sale agreement and the loan each have interest-only payments with final balloon principal payments that are all sized to be equal and offsetting, so the seller never has any out-of-pocket loan payments to make.
- All payments are automated in a long-term escrow with an administrator of the escrow providing annual tax documentation for the interest earned from the installment agreement and the interest paid on the loan. There is an annual $300 fee for these services.
This transaction is specific to “Farmland and Farm Commodities” and should not be confused with any other nontaxable revenue of deferred payment transactions of assets, such as commercial real estate and non-farm business.
If you are selling any type of agricultural asset such as your farm, ranch, wineries, raw land zoned agricultural, etc. and would like to learn how you can defer your capital gain tax for up to 30 years and receive about 93.5% of your net sales amount in cash at closing you can contact us by phone, email, or fill out our contact form and we can schedule a call.
Tax-Deferred Installment Sale Background:
The use of deferred payment reporting on the sale of farmland and farm commodities has existed in various forms since its inception in 1918 and is commonly referred to as an installment sale. It was the Omnibus Budget Reconciliation Act of 1987 and passed in 1988 which exempted farm property from what is known as the “Pledge Rule”. This exemption permits the seller in the “business of farming of farm property” to obtain a loan using the Installment Agreement and/ or different financial instruments as security without being in “constructive receipt” of the seller’s funds, which would otherwise trigger capital gain tax.
The legislation also provided an exemption from the “interest charge”. This is interest that the IRS charges on an Installment Sale over certain limits, this exemption removed all limits. Theses exemptions extend to “any property used or produced in the trade or business of farming, within the meaning of Code § 2032(A)(e)(4) or (5)”.
This code defines any land that is zoned agriculture or the business of “stock, dairy, poultry, fruit, furbearing animal, as well as plantations, ranches, nurseries, ranges, greenhouses, and other similar structures used primarily for the raising of agricultural or horticultural commodities, orchards, and woodlands.”
In 2012 the Chief Counsels office of the IRS affirmed the regulation for farm property in a Technical Advice Memorandum (TAM) where a large transaction undertaken by a public traded company was reviewed with the following analysis:
“The Transaction meets the statutory and regulatory requirements of I.R.C. § 453. Because Asset meets the definition of farm property under I.R.C. § 2032A(e)(4), Taxpayer can pledge the Purchase Notes and obtain cash through a separate loan under I.R.C. § 453A(b)(3)(B) without the proceeds being treated as a payment for installment sale purposes. The Code and the regulations also allow a standby letter of credit, cash or other security to secure an installment sale obligation”. Chief Counsel Memorandum 20123401F.pdf
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No information provided on this website is intended as individual tax advice.
Consult with a qualified tax adviser before acting on any of the information provided on this site.
Notice: Internal Revenue Service regulations provide a taxpayer may rely only on formal written advice to comply with IRS regulations. We advise you that any discussion of Federal tax issues contained on this website is not intended to be used (and cannot be used) by any taxpayer for the purpose of avoiding penalties or to promote, market, or recommend to another party any tax-related matters that may be imposed under the Internal Revenue Code as it does not meet those requirements of formal written advice. All interested parties are advised to seek qualified legal counsel to determine whether this transaction structure is suitable for their individual situation and risk tolerance. We can provide referrals to CPAs and tax attorneys who are experienced in this specific area.