Home sellers can benefit from offering seller financing. One of the most attractive benefits is that it could increase income from the sale. However, there is the issue of seller financing tax. Depending on the agreement, it could increase tax payments.
This post is part two of a series about seller financing taxes. You can learn more by clicking here for part one.
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The average number of days on the market for homes in Tennessee during September 2023 was 37. However, real estate data can change quickly. If you need title services for buying or selling a home in Tennessee, click here to contact our team.
One factor that makes seller financing attractive is that the seller can charge interest on the loan. Depending on how you structure the agreement, interest could result in a significant increase in income. However, there are also tax implications for the interest income.
It is essential to recognize that the interest income tax differs from the capital gains tax on the sale. The capital gains tax is on the seller’s gain on the sale price from the cost basis. Interest usually counts as ordinary income for an individual. That means you must report the two separately and pay different taxes.
One tax implication is that you add the interest to your regular income for tax purposes, which could push you into a higher tax bracket. However, sellers may use deal structures and workarounds to avoid this.
Depreciation recapture might be an issue when discussing an investment property. With investment properties, the IRS allows you to deduct a portion of the property’s value as depreciation over the years. It can be a way to reduce your tax liability.
Depreciation recapture may apply to the proceeds if you’ve claimed these deductions during the ownership period because a depreciation deduction adjusts the property’s cost basis for tax purposes. That means some profits may count as ordinary income instead of capital gains.
When you take depreciation deductions, it reduces your regular taxable income, so regular income tax will apply to the portion of the sale under depreciation recapture. However, navigating depreciation recapture is complex. Sellers should keep detailed depreciation records and consult a tax professional for advice.
Do you need title services for a seller financing sale in Tennessee? Click here to contact the Title Group of Tennessee. We offer a comprehensive array of title services for buyers and sellers.
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