Per Section 453 of the Internal Revenue Code, you can defer capital gains taxes on the sale of your substantially appreciated investment real estate or business by means of an installment sale. A Deferred Sales Trust is an innovative type of installment sales contract that not only defers your capital gains taxes, but also provides you with numerous other benefits as well.
As you might expect, the IRS sets forth rules regarding how an installment sale qualifies for this favorable tax treatment. Here is why your DST qualifies:
Trust Structure
As its name implies, a Deferred Sales Trust is, in fact, a trust that the DST Estate Planning Team structures for you based on the type of asset you’re selling and your short- and long-term investment goals and objectives. This qualifies your DST as a bona fide third-party trust.
Independent Trustee
Just as the trust itself must be a bona fide third-party trust, so, too, must the trustee be a bona fide third party, independent of you. Gregory H. Reese, your Reef Point Trustee, certainly qualifies. Thoroughly trained and vetted by the EPT, he is one of only 13 DST trustees in the U.S.
Asset Transfer
When you establish your DST, you sell your appreciated asset to the trust rather than directly to your buyer. The trust, in turn, gives you an installment sale note or promissory note. This binding legal contract sets forth the payments you will receive in the future and when and how you will receive them. Often called a self-directed note, you have control over its terms.
Asset Ownership
Your DST now owns your appreciated asset instead of you. Consequently, when it sells the asset to your buyer, the proceeds go into the trust instead of coming to you personally. This means that you do not have either constructive or actual receipt of them, thus not triggering a taxable event for which you must pay capital gains taxes.
Depreciation Recapture
Keep in mind that if you used the accelerated method rather than the straight-line method to depreciate your investment real estate before selling it to your DST, you likely will need to recapture the amount of these excess deductions when you do so. Your DST team and tax professional can give you solid advice on this or any other tax-related questions you may have.
Installment Note Payments
Also keep in mind that your DST defers your capital gains taxes, it does not eliminate them. When you begin receiving payments under your installment sale note, you will owe capital gains taxes on any portion thereof that represents a return on your investment.
Want to Know More?
Bottom line, if you face at least a $250,000 gain on the sale of your investment real estate or business, you definitely should consider a DST. You now know how and why a DST qualifies as an installment sale that allows you to defer your capital gains taxes. You can rest assured that the DST Estate Planning Team and all the other professionals involved will set up and manage your DST properly and in conformance with not only IRS rules, but also the rules governing trusts. If you have additional questions, contact Reef Point today.