The son was unable to make his mortgage payments that became due on his house. In order to avoid foreclosure, he sold his house to his parents. His parents financed the purchase by taking out a loan that was used to pay off $664,048 of the taxpayer’s outstanding mortgage debt. The closing statement showed that “Total Consideration” for the sale and purchase was $975,000. The IRS claimed that the amount realized on the transaction was $975,000. The son argued that the amount realized should be his $664,048 liability relief.

IRC section 1001(b) states that the amount realized from the sale of property is the sum of any money received plus the fair market value of property other than money that is received. The regulations for this code section state that the amount realized includes the amount of liabilities from which the transferor is discharged as a result of the sale.

The son argued that the amount realized should be the $664,048 of liability relief because the transaction was in part a sale and in part a gift to his parents. The IRS argued the total consideration of $975,000 shown on the closing statement controls the determination of the amount realized.

The tax court rejected the IRS argument saying that the son received no cash and no other property from his parents as a result of the sale other than the mortgage debt that was discharged. The court said the IRS failed to understand that the transaction was in part a sale and in part a gift. [Reg. §1.1001-1(e)(1)]

The tax court ruled that the amount realized on the sale was the $664,048 of mortgage debt relief, minus the son’s settlement costs at closing.  (Son must report the gift on Form 709)

If you’re in a similar bind and need tax help, contact Steve Siesser for advice.  ssiesser@verizon.net