Installment-sale interest is determined at the close of the taxable year

Plain-English summary

This Chief Counsel Advice addresses the interest charge under IRC § 453A for an installment sale. It concludes that the charge arises at the close of the taxable year, even if the sale occurs on the last day of a short taxable year. The applicable interest rate is the § 6621(a) rate in effect at the close of the taxable year, rather than a weighted average of rates during the year. The advice also concludes that, under an accrual method, the liability is taken into account in the year in which the statutory interest obligation arises.

Ruling snapshot

• Question: When does interest under IRC § 453A arise, which § 6621 rate applies, and in which year is the interest deduction taken?
• Outcome: Advice given
• Key authorities: IRC §§ 1, 11, 453A, and 6621; Treas. Reg. §§ 1.461-1 and 1.461-4

Full text (IRS public release)

       Office of Chief Counsel
       Internal Revenue Service
       memorandum
       Number: 201021020
       Release Date: 5/28/2010
       CC:ITA:B04: -------------                 Third Party Communication: None
       POSTF-147964-09                           Date of Communication: Not Applicable

UILC: 453A.03-00

date: February 2, 2010

 to:   James E. Kagy
       Senior Counsel (Cincinnati, Group 1)
       (Large & Mid-Size Business)

from: Michael J. Montemurro
Branch Chief, Branch 4
Office of Associate Chief Counsel
(Income Tax & Accounting)

subject: ---------------------------

       Legend

       Taxpayer = ----------------------------
       Date 1   = -------------------
       Date 2   = --------------------------

       This Chief Counsel Advice responds to your request for assistance dated November 17,
       2009. You asked us to address issues concerning the computation of interest on the
       deferred tax liability under § 453A of the Internal Revenue Code on Taxpayer’s
       installment sales contract. Taxpayer used an accrual method of accounting. We have
       assumed that Taxpayer’s installment sales contract does not have contingent
       payments. If, after further case development, it is established that Taxpayer’s
       installment sales contract has contingent payments, please contact us. This advice
       may not be used or cited as precedent.

       Issue 1

       Is the computation of the § 453A interest payment amount affected by whether the
       installment sale occurred on the last day of Taxpayer’s short taxable year?

POSTF-147964-09 2

No. In general, the purpose of § 453A is to require taxpayers using the installment
method to pay an interest charge each year on the portion of the tax liability that was
deferred under the installment method. Section 453A(c)(1) provides that if an obligation
to which § 453A applies is outstanding as of the close of any taxable year, the tax
imposed for such taxable year is increased by the amount of interest determined in the
manner provided in § 453A(c)(2). Section 453A(c)(2) provides that the interest equals
the product of the applicable percentage of the deferred tax liability with respect to such
obligation multiplied by the underpayment rate in effect under § 6621(a)(2) for the
month with or within which the taxable year ends. Section 453A(c)(3) defines “deferred
tax liability” as the product of the amount of gain with respect to an obligation which has
not been recognized as of the close of such taxable year, multiplied by the maximum
rate of tax in effect under §1 or §11, whichever is appropriate, for such taxable year.
Thus, the required interest charge arises as of the last day of the taxable year
regardless of whether a sale occurs on the last day of the taxable year or any other day
in the taxable year. Thus, Taxpayer is subject to the § 453A(c) interest charge for its
taxable year ending Date 1 for the installment sale that occurred on Date 1.

Issue 2

Should Taxpayer compute § 453A(c) interest by applying a weighted average of the
interest rates determined under § 6621(a) in effect on Date 1 and Date 2?

No. Under § 453A(c)(2), the payment computation is based on the § 6621(a) rate as of
the close of the taxable year. Thus, Taxpayer uses the § 6621(a) interest rate in effect
on Date 1, the last day of its taxable year.

Issue 3

Section 453A(c)(5) provides that the amount payable under § 453A(c) is used in
computing a taxpayer’s deduction for interest paid or accrued during the tax year. Does
the term “tax year” refer to the year that the required addition to tax under § 453A is
imposed, or to the subsequent year during which the interest is paid?

Section 1.461-1(a)(2)(i) of the Income Tax Regulations provides that under an accrual
method of accounting, a liability is incurred, and generally is taken into account for tax
purposes, in the taxable year in which all events have occurred that establish the fact of
the liability, the amount of the liability can be determined with reasonable accuracy, and
economic performance has occurred with respect to the liability.

Section 1.461-4(e) provides that in the case of interest, economic performance occurs
as the interest cost economically accrues, in accordance with the principles of relevant
provisions of the Code.

The all events test for the obligation, which is treated by statute as interest, is satisfied
at the close of the tax year in which it is imposed. Pursuant to § 453A(c) the fact of
POSTF-147964-09 3

liability is established at the close of that year because it is imposed by statute at that
time. The amount of the liability can be determined with reasonable accuracy at that
time because the deferred tax liability upon which this interest is paid is calculated
based on the amount of gain that has not been recognized as of the close of that year.
Economic performance has occurred because the “interest” obligation economically
accrues during that year as a result of the liability relating to a benefit provided during
that year.

We hope this information is helpful. Please call ---------------- or ---------------------at (202)
622-4920 if you have any further questions.

This writing may contain privileged information. Any unauthorized disclosure of this
writing may undermine our ability to protect the privileged information. If disclosure is
determined to be necessary, please contact this office for our views.