What happens to structured sale payments when I die?

Hans Goldstein structures installment sales for sellers and works alongside their CPAs. Email hans@goldsteinco.net or call 213-340-2018.

Who gets the payments?

The structured sale contract names a payee (you) and a beneficiary for any payments still due at your death. The assignment company keeps paying on the schedule set at closing, to that beneficiary or, if none is named or living, to your estate. The amounts and dates do not change, and they still depend on the claims-paying ability of the assignment company and the insurer behind it.

You can usually change the beneficiary after closing under the contract's own procedure. That is not constructive receipt: a beneficiary designation gives you no access to the money. The structure does not pay for life; it pays the fixed schedule you chose, whoever is alive to receive it.

How is the heir taxed?

The heir steps into your position. Unrecaptured §1250 gain stays §1250 gain and comes out first; capital gain stays capital gain. The heir files Form 6252 using your gross profit ratio. If the estate or heir later sells or assigns the right to the payments to someone else, the fair market value of the right is income at that point (§691(a)(2)).

How does the §691(c) deduction work?

If your estate paid federal estate tax, part of that tax was caused by including the remaining payments. §691(c) lets the person reporting the income deduct that share as the income is reported, a slice each year. It is an itemized deduction that is not subject to the 2% floor (§67(b)(7)). It exists only if federal estate tax was actually paid, and it requires numbers from the estate tax return. If your heir's preparer never sees Form 706, the deduction is usually lost. The full mechanics are on the income in respect of a decedent page.

What does this look like with real numbers?

Illustrative facts, using the year-one example: a $3,000,000 commercial building, gross profit ratio 61.67%, $2,500,000 structured as $250,000 of principal a year for 10 years. All the unrecaptured §1250 gain was reported in the year of sale and the next two payments. The seller dies after the fifth annual payment, with five payments left.

The heir reports $154,167 of capital gain plus that year's interest each year for five years, exactly as the seller would have. Had the seller kept the building until death instead of selling, the heir would have received a stepped-up basis and the $770,833 would never have been taxed. That is the honest trade: an installment sale gives you the exit and the income during life, and leaves an IRD asset behind.

What should you decide before closing?

• Name a beneficiary in the contract, and keep it current. Leaving it to the estate can add probate delay to each payment.
• Pick the term with your age and health in mind. A shorter schedule leaves less IRD behind; a longer one spreads more gain, possibly onto heirs in higher brackets.
• Coordinate with the estate plan. A charity named as beneficiary pays no income tax on IRD; heirs do. Life insurance owned outside the estate is a common offset for the income tax heirs will owe.
• Do not plan to forgive or cancel the obligation. Cancellation is a disposition under §691(a)(5) and triggers the gain.

Frequently asked

Q: Do the payments stop when I die? A: No. They continue on the same schedule to your named beneficiary or your estate until the last scheduled payment.

Q: Does my heir get a step-up in basis on the payments? A: No. The remaining gain is income in respect of a decedent, and §1014(c) denies the step-up. Your heir reports the gain and interest as the payments arrive.

Q: Is the remaining gain taxed all at once at death? A: No. §453B(c) says transmission at death is not a disposition. The gain stays spread over the remaining payments.

Q: Are the remaining payments part of my taxable estate? A: Yes. Their value is included in the gross estate. If federal estate tax is paid, the recipient can claim the §691(c) deduction as the income is reported.

What should you read or run next?

• What payment schedules can I choose?
• How are the payments taxed?
• Is a structured installment sale safe?
• Can I speed up or borrow against the payments?
• Income in respect of a decedent
• Form 6252 calculator
• All structured installment sale questions

Who wrote this?