Structure Sale Offers Greater Advantage Under New Tax Code

Under the American Taxpayer Relief Act of 2012, the top capital gain tax rate has been permanently increased to 20% (up from 15%) for single filers with incomes above $400,000 and married couples filing jointly with incomes exceeding $450,000. In addition, the new IRC Section 1411 (3.8% Medicare surtax on net investment income, which includes capital gains), results in an overall rate for higher-income taxpayers of 23.8% — a staggering 58% increase from 2012 tax rates!

2020 Federal Capital Gains Rates *

Single Taxpayer Married Filing Jointly Capital Gain Tax Rate Section 1411 Medicare Surtax Combined Tax Rate
$0 – $40,000 $0 – $80,000 0% 0% 0%
$40,001 – $200,000 $80,001 – $250,000 15% 0% 15%
$200,001 – $441,450 $250,001 – $496,500 15% 3.8% 18.8%
$441,451+ $496,501+ 20% 3.8% 23.8%

*Adjusted for inflation *The 3.8% Medicare surtax only applies to “net investment income” as defined in IRC §1411.

The bad news is that taxes have increased. The good news is that with the Structured Sale, we not only still defer the applicable taxes on the sale of an asset, we can avoid the higher rates by spreading the payments out over time and keeping them under the thresholds at which the higher rates kick in! Let’s look at a comparison of a cash sale vs. a Structured Sale:

Let’s look at a comparison of a cash sale vs. a Structured Sale:

A couple, married filing jointly, sells their Farm for $5,000,000. It was purchased 20 years ago for $1,000,000 (capital gains of $4,000,000). Terms of the Structured Sale are monthly payments of $20,232.32 per month ($242,787.84 annually), beginning January 1, 2021 for 30 years. (Assuming only capital gain income and no other income)

Cash Sale

Tax on Capital Gains of $4,00,000

Capital Gains Tax ($ 763,170.00)
Medicare Surtax 3.8% ($ 142,500.00)
Total taxes ($ 905,670.00)
Net to Invest
($750,000 – taxes)
$4,094,330.00

To equal the after-tax income of $231,519.31 from the Structured Sale, the seller would haveto invest $4,090,875 and earn a guaranteed 6.96% net return. (taxable income of $328,047)

Structured Sale

Tax on $242,787.84 (annual payment)

Capital Gains Tax ($ 8,420.00)
Medicare Surtax 3.8% ($ 0.00)
Interest Income Tax ($ 2,848.53)
Total Annual Taxes ($ 11,268.53)
Total Taxes over 30 yrs. ($ 338,055.90)
PV of annual taxes over 30 yrs. at a discount rate of 3% ($ 220,868.16)
After Tax Income $231,519.31
Total Guaranteed Income (pre-tax) $7,283,635.20

In a cash sale, almost 90% of the capital gain is taxed at the higher rates of 15% and 20%, as well as two thirds being subject to the Medicare Surtax of 3.8%.

In turn, by selling the property using the installment sale method and structuring the payments, all of the payments are subject to the 15% capital gains rate and no Medicare Surtax.

The couple is free to sell their Farm and retire with peace of mind knowing that all their future payments are guaranteed. They don’t have to worry about how to invest their proceeds in a volatile market, and they have significantly reduced their tax burden.

For advisors looking to save their high-value clients a significant tax burden, the structured sale is a proven option that makes more sense than ever.

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