Installment Sale Under Section 453: Deferring the Gain
How seller financing spreads tax over the years you are paid, what cannot be deferred, and the traps for large and related-party sales.
Reviewed by the Fairlight Accounting cross-border tax team — U.S. & Canadian Tax Desks
An installment sale is a sale of property where at least one payment is received after the year of sale. Under Section 453, the seller reports gain as payments arrive rather than all in year one, by applying a gross profit percentage to each principal payment. It applies automatically unless the seller elects out, and some gain cannot be deferred.
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How is the gain spread?
- Gross profit = selling price minus installment sale basis — adjusted basis plus selling expenses and any depreciation recapture (the recapture is taxed separately in the year of sale).
- Contract price = generally the selling price minus debt the buyer assumes; any debt above the seller's installment sale basis is treated as a payment in the year of sale and added back.
- Gross profit percentage = gross profit ÷ contract price.
- Each year, principal received × gross profit percentage = gain reported. Interest received is ordinary income, reported separately.
Example. You sell business real estate for $1,000,000 with an adjusted basis of $400,000, no selling expenses, and no ordinary depreciation recapture. The buyer pays $200,000 at closing and $800,000 over eight years. Gross profit is $600,000, the percentage is 60 percent, so $120,000 of gain is reported in year one and 60 percent of each later principal payment.
What cannot be deferred?
| Item | Treatment |
|---|---|
| Depreciation recapture (Sections 1245 and 1250 ordinary portion) | Taxed in full in the year of sale, even if no cash is received |
| Inventory and dealer property | Not eligible |
| Publicly traded stock and securities | Not eligible |
| Receivables and inventory in a sale of a partnership interest | Not eligible — that part of the gain is reported in the year of sale |
| Interest on the note | Ordinary income as received |
Recapture is the trap: a seller of equipment-heavy assets can owe tax in year one larger than the down payment.
What special rules apply?
- Interest must be adequate. If the note's rate is below the applicable federal rate, part of each principal payment is recharacterized as interest.
- Large sales. When notes from sales over $150,000 that arise during a tax year total more than $5 million outstanding at the end of that year, the seller pays interest on the deferred tax, and keeps paying it each year those notes remain outstanding. Farm property and personal-use property are excepted.
- Pledging the note. For sales over $150,000, using the note as collateral for a loan generally treats the net loan proceeds as a payment received.
- Related-party sales. If a related buyer resells within two years (with no time limit for marketable securities), you are generally treated as receiving what the buyer realizes. A sale of depreciable property to a related person generally cannot use the installment method at all.
- Early payoff or sale of the note. The remaining deferred gain is recognized.
When does electing out make sense?
A seller can report all the gain in the year of sale by electing out by the due date, including extensions, of the return for the year of sale. That can make sense when the seller has expiring losses or credits to absorb the gain, or expects higher rates later. The election can be revoked only with IRS approval.
Frequently asked questions
Where is an installment sale reported?
On Form 6252 for the year of sale and every later year of the installment agreement, including the year of final payment, even a year with no payment, with the gain flowing to Schedule D, Form 4797, or both.
What happens if the buyer defaults?
You may repossess the property. Special rules determine the gain or loss on repossession, and real property has its own limited-gain rule.
Does an earnout count as an installment sale?
Usually, yes. Contingent payments are reported under the installment method, with basis recovered under rules for contingent price sales.
Does a state tax the gain as paid?
State treatment varies — many states start from the federal installment method — and a seller who moves states between payments should check how both states source the gain.
Official sources
The IRS explains: “If you sell property for which you claimed or could have claimed a depreciation deduction, you must report any depreciation recapture income in the year of sale, whether or not an installment payment was received that year.” — Internal Revenue Service, Publication 537 (2025), Installment Sales, https://www.irs.gov/publications/p537
The IRS explains: “Use this form to report income from an installment sale on the installment method. Generally, an installment sale is a disposition of property where at least one payment is received after the end of the tax year in which the disposition occurs.” — Internal Revenue Service, About Form 6252, Installment Sale Income, https://www.irs.gov/forms-pubs/about-form-6252
Next step
Fairlight Accounting handles U.S. domestic, cross-border (U.S.–Canada), and international tax returns, plus bookkeeping, payroll, and CFO advisory. Our U.S. Tax Desk models seller financing year by year, including the recapture owed at closing. See pricing or book a free fit call.
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