I sold my house and property to my husband on a land contract at FMV. I understand that under sec. 1041 there is no gain realized, but what about the monthly payments going forward or the interest? Is that also covered by 1041? How would I even determine what is interest and what is not, according to the IRS? Is the principal of each payment taxed?
Under Section 1041 of the Internal Revenue Code, transfers of property between spouses (or former spouses, if incident to divorce) are generally treated as gifts for tax purposes, meaning no gain or loss is recognized on the transfer. However, the monthly payments and interest you receive under the land contract may have different tax implications.
Determining Interest vs. Principal: The IRS requires clear documentation to distinguish between interest and principal in each payment. Typically, the land contract should outline the payment breakdown. If it doesn't, you may need to allocate payments based on a reasonable interest rate and the remaining balance of the contract.
How does the installment method apply if there's no gain to report?
It doesn't. The installment method is only available when there is taxable gain.
An installment sale is a sale of property where you receive at least one payment after the tax year of the sale. If you realize a gain on an installment sale, you may be able to report part of your gain when you receive each payment. This method of reporting gain is called the installment method.
If you receive interest each year you will report it each year as it is received.