- Hey guys, in this video
we're going to discuss selling property
on an installment sale.
Okay. Let's get started.
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So here is the deal.
You've got a piece of property and you want to sell it
to a tenant or a buyer on an installment sale.
What that means is that you're going to act as the bank.
So you're selling it to the individual.
They're going to give you some money down
and then you're going to carry
back a note and they're going to pay you over time.
And maybe there's a balloon payment in there
somewhere or they it's expected
that they're going to pay it off
say within three or five years.
But the fact that the matter is, is
that you're not getting all your money
out of the deal right away.
The tenant is going to be paying you over time.
Now, most people assume as follows
that when they sell the property, let's say that I
I bought the property for a hundred K all right.
So that, that constitutes my basis in the asset.
That's what I paid for it and put into it.
And I sell it for $200,000.
Now I know these are big numbers here, you know
a hundred thousand dollar difference.
And before you start leaving comments
on my channel clip that's you wouldn't sell it
for an extra a hundred thousand dollars gain
unless you held it for a period of time.
That's not what I'm getting at here.
What I'm getting
at is I just want to show you how the numbers work out.
So, in this example
I have a hundred thousand dollars in gain.
So when I sell it to the individual on an installment sale
I'm selling it to for $200,000.
And I'm going to carry back the note
so maybe I tell them.
Hey, I want 10% down.
So they're going to give me $20,000
up front and it's going to be at
maybe I put the note at 5% interest.
Okay? And so each and every month they're going to
be paying me, principal on interest.
So assume they pay me $1,500 a month.
Let's say that was the
the mortgage amount that we have
on this property that they agreed to pay us based
upon the amortization schedule.
So they're paying me $1,500 a month.
Now that $1,500 a month payment that I'm receiving
that's going to break down into different components.
So when you sell a property on installment sale
the payments you receive on a monthly basis will be broken
down into a couple of every components here.
One is going to be return of basis.
Okay? So that's return of basis.
That's what you put into the property all right,
now return of basis, no tax on that.
Okay, because you're just getting back
out the money you put into it.
Another portion of this payment that you're going to look at
is depreciation recapture.
Because you were depreciating that property
and depending how long you've owned the property
there'd be a lot of depreciation
or very little bit of depreciation that property.
Now that portion of the payment's going to be taxed
at 25% straight line recapture on depreciation.
Then you're going to have a portion
of this that comes back to you
which is going to be your capital gains.
All right.
So if you've held this property for less than a year
and when you sold it, so assuming that you got
into the property and you're holding onto it for six months
and then your tenant came to you
and they made you this crazy offer, you know
a hundred thousand dollars
if you agree to carry the paper and you're like sold, okay.
So then in that case, because it was held
for less than a year, it's ordinary income.
Now, if you've held it for more than a year
and this T transpires, and it's going to be taxed
at long-term capital gains rate, not the short-term rate.
And in that case, it will be 20% typically.
So let me just assume this has held for more than one year.
So that'll that portion of the income will be taxed at 20%.
And then you're going to have interest.
You remember 5% interest.
So then you're going to have a portion of interest
on that and that's going to be taxed
at your ordinary income tax bracket.
So let's say your effective rate for your
your tax bracket is 25% there.
So that's how all this is going to break out.
So on that $1,500 payment,
let's assume that actually
let's just bring it all the way
out forwards for the entire year.
You'll bring in $18,000.
And of that $18,000
maybe $7,000 is the first one, the return of basis.
So zero tax on that depreciation recapture
maybe that was only a thousand dollars.
So that's a $250 in tax on that.
And then you got the capital gains.
So the capital gains portion of this is maybe $4,000.
So 20% of four K's, $800 there in, in taxes
you'd have to pay on this 18 K.
And then you've got the interest
which is the remaining seven, eight, 12
So that's $6,000.
Again, these numbers are not accurate at all.
So whatever 25% of six K is what's that 2,500.
So, let's say it's 12 over 1500
whatever that number is.
So the point is that maybe you pay 2250 in tax
over spread out over all these numbers.
When you sold this property on an installment sale.
And the same thing would happen
with the money you took up front, you would break it out.
Now here's the thing that you have to be aware
of when you're selling property on an installment sale.
That's so important.
And it gets people tripped up all the time
and they end up not having enough money to pay their taxes.
So when you're selling this property
the one example I just gave you right here
this was an investment property.
What does that mean?
It means that when I bought my house here, I put a tenant
into the property and I intended to treat this property
as an investment, right?
I was going to hold it long-term I was not flipping.
Now, if you're flipping property
you've got other problems here, right?
If you're, if you hold it as an investment property
then you get to use this type
of taxation where you're going to bust it out.
But if you're flipping
we have to look at it from a different angle.
So here's what I'm going to do now,
this is going to be a little longer video.
I'm going to discuss the installment sale with entities
and how that works from an investment standpoint.
And then for you flippers, you better stick around
because the next aspect of this we're going to walk
into is how you can get hammered
on taxes with installment sales.
If you don't know what you're doing.
Okay. So let's talk about the,
the investment side of this.
So what comes up a lot is, Hey
what do I do with my investing?
When do I set it up an installment sale?
Because if you watch my other videos on the channel
I tell you this, Hey, set up an LLC
puts your property in a limited liability company.
Like so and so you're treating as a rental
and many times you're going to have a Wyoming LLC down here
right here that, that owns this state specific LLC
for anonymity and asset protection and purposes.
So when you enter into an installment sale
it's not like a land contract where you still hold title
to the property in an installment sale.
You're actually selling them the property.
And you're taking back the note.
Okay? Now, if am selling this property to this homeowner
over here, this tenant that decides they want to buy
the property from me, I'm going to
sell them the land, take back a promissory note.
And my LLC is going to take back a first deed of trust.
That's what DOT stands for first deed of trust
or mortgage because you got to have security, right?
So you're going to take whatever's owed.
In my example
since they gave me 20 down, they owe me $180,000.
I'm going to take back $180,000 first
deed of trust on their property.
That's what the buyer's going to give me.
So I'm in first position.
This is key.
If you're ever selling property
on installment sale, don't do this.
You need to be a secured creditor.
If you're not a secured creditor, they could go out
leverage that property
with somebody else who could step in front of you.
So always work through a title company to get this
in place on the property.
When it's sold.
Now I've sold my property,
and what does this LLC have at this point in time
it's going to hold the deed of trust against the property.
And it has that promissory note.
So is that an asset?
Well yeah, it's an asset because you, I mean, note mine
that's a technique to invest in real estate.
You can buy other people's notes.
So this note has value.
And so here's where I see a lot
of real estate investors screw up their strategy planning.
They look at their LLC
that they've sold the property out of.
And rather than sh you know, do something, keep it as is
or maybe move the note, shut it down.
They think, Oh
this LLC doesn't hold any other assets.
Wrong it holds a note.
So I'm going to go out and buy another piece
of property and put it in this limited liability company.
And I'm going to do that.
Okay. So here's what you just did now.
You've taken a dangerous asset real estate
and you put it with a safe asset, a promissory note.
That is a problem.
You should never mix these two.
So what I would encourage you to do in this situation
if you're selling property on an installment sale
with an LLC that holds the promissory note.
And you want to reuse it, which I don't know why.
I mean, set up LLCs are set up, you know
to be put into place and then shut down.
When you sell a piece of property
I've got plenty of videos on that, of why you should do it.
What I may recommend you do is have a
if you're going to do a lot
of these set up a different entity to hold your notes.
And so you can assign the note over to a third entity
or put it down here in your LLC and get it out of there.
So now the tenant will have to pay this entity.
I mean, this happens all the time.
So let's say I set up a separate LLC over here.
This is my note, holding Wyoming note
holding LLC
note holding.
And what I'm going to do is I'm going to
move my promissory note from here, down to here.
And then once that's been done
I will have my title company reflect that on title
that that note has been assigned over
to this LLC and hence forth this tenant will be
or this owner will be notified no longer make payments here.
I want you to start making payments here.
So now you've separated out
your notes and you've got your notes.
Now over into this limited liability company
it's going to be receiving the payments.
Why am I doing this?
Because I don't want my real estate structures
here that have real estate associated with them holding
onto promissory notes, because those are safe assets.
I want to get those assets down here
into a separate company
and I can have as many assets as I want down in here.
Promissory notes that I'm holding on to
now to do all of this.
Keep in mind, depending
on how your entities are set up for tax purposes
you're going to have to have a professional look at it
to make sure that you can
you can do what I just described here to get those notes
out of there and move them over to another entity like this
to be your note holding entity.
Typically the note holding entity is going to
be that entity where you hold your
your cash that you're going to use
for investing your savings.
Things like that.
That would be this one entity here.
And so many investors that I work with
and even my own investing.
I have two Wyoming LLCs.
I have one here that holds all
of my real estate investment LLC.
So they're all down into here.
And then I have a second Wyoming LLC
over here that holds my cash,
my notes.
I've even put My Charles Schwab brokerage account
inside of here.
That's all over here.
Cause that's my safe assets.
And so when, you know, if I need to make a
like a gap funded a deal, not too long ago for a friend
I gap funded that deal out of this entity right here.
Because the deed of trust that I took back,
I said, gap on but I meant bridge loan.
The money that I took back on this deal
the note that I took back went right back to this LLC.
I had no problem holding the note
in that limited liability company
because it doesn't create liability for me.
So this is completely different
than when you sell something, on a land contract.
I'm going to cut another video on that.
So if you're curious about land contracts
how they work, I'll explain it.
But in this, in this context
selling on an installment sale, you have to know this.
This is an investment deal.
This is something that you bought with the intention
of holding it as an investment, not to flip.
So the way it's going to be taxed is in that way
in which I showed you, you know, portion, portion, portion
once a deal has been done
you may want to consider moving the note
over to here and shut down that LLC.
Why would I do that?
Well, maybe this is a disgruntled buyer.
They want to come back
and sue LLCs no longer around who do they sue.
They can't get out of
going after the note holder
note holder, you still have to pay
or you can just leave it in place if you want to
and not do this and just collect the money here
and then distribute the money down to here
and then out to yourself either way that works.
Okay. So now if you flip property, be sure to
check out my video next week, where I'm going to
describe how this strategy works when you're flipping.
All right, guys, Hey, if you like the channel
be sure you subscribe to the channel.
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of all my recent videos as they come out.
A lot information about real estate investing
tax planning for real estate investors.
Thanks.
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