We are structuring our transaction as an installment sale under Section 453, but our CPA warned us that depreciation recapture will be taxed immediately at closing regardless of when we receive the cash. How do we structure the initial cash down payment to cover this tax hit without killing the deal?

Question

Tyler Smith · Accepted Answer

An installment sale under Section 453 is a powerful tax deferral tool, but depreciation recapture under Section 1245 is a painful trap. The IRS demands full payment of taxes on recaptured depreciation in the year of the sale, even if you have not collected a single dollar of the installment payments. If you do not structure your initial cash down payment correctly, you could end up writing a tax check that exceeds the cash you walked away with at closing.

To solve this, your first step is a forensic review of your asset schedule to calculate the exact recapture liability before finalizing the Letter of Intent. Once you have this number, you must negotiate a cash down payment that is specifically structured to cover your immediate tax obligations.

- Ensure the down payment equals at least the sum of the estimated federal and state taxes on the depreciation recapture plus your transaction advisory fees.
- Draft the payment schedule in the definitive agreement to explicitly tie the initial cash disbursement to these verified tax liabilities.
- Position this calculation as a non-negotiable deal term early in the process.

This ensures you do not suffer a cash-flow squeeze. Using your quarterly Rocks to clean up your asset ledger and depreciation schedules ahead of time allows you to present a clean, indisputable number to the buyer, keeping the deal moving toward a successful close without unexpected financial friction.