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Rev. Rul. 78-267, 1978-2 CB 171

REV-RUL, Unstated interest; long-term timber contracts

Section 483.--Interest on Certain Deferred Payments

26 CFR 1.483-1: Computation of interest on certain deferred payments.
(Also Section 1221, 1231; 1.1221-1, 1.1231-1.)

[IRS Headnote] Unstated interest; long-term timber contracts.--
The application of the unstated interest provisions of section 483 of the Code to long-term timber contracts is described in situations in which the taxpayer is (1) a landowner who receives the entire consideration under the contract in a lump sum on the date the contract is signed, (2) a landowner who is to receive payments over a period of 60 years under a contract for the sale of timber and the lease of the land on which the timber is growing, and (3) a paper company that makes payments under a contract similar to that in situation 2; Rev. Ruls. 62-81, 62-82, and 75-59 amplified.

Advice has been requested whether the provisions of section 483 of the Internal Revenue Code of 1954 apply to the timber transactions described in Rev. Rul. 62-82, 1962-1 C.B. 155; Rev. Rul. 62-81, 1962-1 C.B. 153; and Rev. Rul. 75-59, 1975-1 C.B. 177.

Under the provisions of section 483 of the Code a portion of the payments under a deferred payment sales contract that does not call for any interest or calls for an inadequate rate of interest shall be treated as interest income rather than as part of the sales price. Section 483 applies to any payment received by the seller on account of the sale or exchange of property, provided that: (1) all or part of the gain, if any, on the sale is considered capital gain, (2) the selling price, determined at the time of sale, is more than $3,000, (3) the payment constitutes part or all of the sales price, (4) under the contract of sale, the payment is due more than 6 months after the date of sale or exchange, (5) some or all of the payments under the contract are due more than 1 year after the date of the sale or exchange, and (6) under the terms of the contract, there is "total unstated interest" as the term is defined in section 483(b).

Section 483(b) of the Code defines "total unstated interest," with respect to a contract for the sale or exchange of property, as an amount equal to the excess of, (1) the sum of the payments to which this section of the Code applies which are due under the contract, over (2) the sum of the present values of such payments and the present values of any interest payments due under the contract.

Situation 1:

Under the terms of the long-term timber contract described in Rev. Rul. 62-82, the landowner receives a lump sum payment of 198x dollars on the date the contract is signed. This payment is the only payment received by the landowner. No payments are due more than 6 months after the date of the execution of the contract.

Accordingly, the provisions of section 483 of the Code do not apply under the circumstances described in Rev. Rul. 62-82 because there are no deferred payments provided for under the terms of the contract.

Rev. Rul. 62-82 is amplified.

Situation 2:

Rev. Rul. 62-81 describes the manner in which an owner of timberland should treat the payments received from a long-term timber contract for Federal income tax purposes.

In that Revenue Ruling, the landowner was to receive payments over a period of 60 years under a contract for the sale of timber and the lease of the land on which the timber was growing. The fair market value of the timber existing on the date of the execution of the contract exceeded the landowner's adjusted basis for the timber. The contract did not designate any part of the payments as interest. It is assumed for purposes of the present ruling that under the contract the sales price, determined as of the time of sale, exceeded $3,000.

Rev. Rul. 62-81 holds that payments under the contract equal to the fair market value of the timber existing on the date of execution of the contract constitute proceeds from the sale of timber. Any gain included in the above amount is capital gain, provided the conditions specified in section 1221 or 1231 of the Code are met. Any excess of such payments over the fair market value of the timber existing on the date of the execution of the contract is ordinary income.

Section 1.483-1(b)(1) of the Income Tax Regulations provides that a sale or exchange of property under section 483 of the Code includes any transaction treated as a sale or exchange for Federal income tax purposes.

Section 483(d) of the Code provides a separate rule for imputing interest when the payments under a contract for the sale or exchange of property are indefinite as to time, liability, or amount.

If there are indefinite payments, section 1.483-1(e)(1) of the regulations provides that section 483 of the Code shall be separately applied to each such indefinite payment as if it (and any amount of interest attributable to such indefinite payment) was the only payment due under the contract. The effect of the application of section 483 is determined at the time such payment is made.

Under the facts described in Rev. Rul. 62-81, if the timber in the hands of the landowner is a capital asset or if the gain from the sale of the timber is characterized as capital gain under section 1231 of the Code, the provisions of section 483 apply to the payments that are attributable to the sale of timber because (1) the gain on the sale would be capital gain from the sale of a capital asset or property described in section 1231, (2) the sale price, determined as of the time of sale, is more than $3,000, (3) the payments constitute all or part of the sale price, (4) under the contract of sale, payments are due more than 6 months after the date of sale, (5) one or more payments are due more than 1 year after the date of sale, and (6) under the terms of the contract there is "total unstated interest" as that term is defined in section 483(b).

Accordingly, each payment, less that portion of the payment considered to be interest under the provisions of section 483 of the Code, is treated as received for the sale of timber until the aggregate of such payments, less imputed interest, equals the fair market value of the timber in existence on the date the contract is executed. The amount considered to be interest and any amount paid in excess of the sum of the fair market value of the timber plus imputed interest, constitutes ordinary income. However, if the timber in the hands of the landowner is neither a capital asset nor property used in a trade or business any gain realized from the sale of the timber is ordinary income to the landowner and the provisions of section 483 do not apply.

Rev. Rul. 62-81 is amplified.

Situation 3:

Rev. Rul. 75-59 describes the manner in which a paper company should treat the payments it makes under a long-term timber contract that is similar to the contract described in Rev. Rul. 62-81.

In Situation 2 the provisions of section 483 of the Code apply to the amounts received by the landowner for the sale of the timber only if the timber is a capital asset or a section 1231 asset in the hands of the landowner. In Situation 3, however, under the provisions of section 1.483-2(b)(3)(ii) of the regulations, the amounts paid for timber receive section 483 treatment by the paper company regardless of whether the timber is a capital asset or a section 1231 asset in the hands of the landowner.

Accordingly, each payment by the paper company under the contract described, less that portion of the payment considered to be interest under the provisions of section 483 of the Code, is a capital cost of timber to the paper company until the aggregate of such payments, less imputed interest, equals the fair market value of the timber existing on the date of the execution of the contract. The amounts considered to be interest are deductible by the paper company under the provisions of section 163.

All amounts paid by the paper company under the contract in excess of an amount equal to the sum of the fair market value of the timber on the date of the execution of the contract plus imputed interest, are consideration for the use (rental) of the land and are deductible by the paper company under section 162(a) of the Code.

Rev. Rul. 62-81, Rev. Rul. 62-82, and Rev. Rul. 75-59 are amplified.

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