Tax implications of owner financing real estate

General Real Estate Investing
1

I have been paying cash for single family homes, and I am considering owner financing some of them to qualified tenants. I have never done that before.

I anticipate I will use a lease to own, or deed in lieu of foreclosure, financing method for the tenant with a $3-10k down payment on a property that I have a basis of $10k to $25k in, for a sales price of 3x my basis. These methods ARE legal in Texas, but they have to be done right to keep it legal - so I will have a real estate lawyer draw up all the paperwork.

I have researched selling mobile homes this way pretty intensely, and I understand that since mobile homes are personal property they would make me subject to a capital gains tax that could hurt pretty bad. So if I sold a $5k home for $15k, with $5k down at 9% interest amortized over 15 years, I would be subject to a $10k capital gains tax on “phantom” income that I have not really earned yet! THAT SUCKS!!!

I do not anticipate doing this with mobile homes as I make too much money to hassle with these little deals. My current real estate investment strategy involves buying “slightly bigger” all cash deals, aka lower & middle income single family homes.

But - anyway - I have heard the tax implications are not NEAR as bad when you owner finance REAL PROPERTY.

Could someone explain that to me?

Say I sold a $20k home for $60k, with $5k down at 9% interest amortized over 15 years.

Thanks,
MotivatedCEO

2

Look up the IRS pub on installment sales.

In a nutshell,

If this has been a rental property you owned at least a year prior to sale, then depreciation will be recaptured in full in the year of sale. After that, for the year any installments are received, any return of your basis will be tax free, your profit will be taxed when received at the long term capital gains rate in effect for the year you received the installments, and your interest income will be taxed as it is received at your ordinary income tax rate.

HTH