Taxation of the down payment when selling real estate - it's worth knowing

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Withholding the down payment or receiving a double down payment carries certain tax consequences. The aim of this article is to introduce the indicated subject through the prism of real estate transactions, because the issue of down payment is the most common in preliminary contracts concluded by the parties for the sale of real estate. How to take into account the taxation of the down payment when selling real estate in the event that, for some reasons, the real estate sale transaction does not take place? - about it below!

What is a down payment?

The concept of a down payment has been regulated in the provisions of the Civil Code. Pursuant to Art. 394 of the Civil Code, unless the contract provides otherwise, in the event of the buyer failing to perform the contract, the seller may retain the received down payment. On the other hand, the non-performance of the contract by the seller gives the buyer the opportunity to demand a refund of the advance payment in a double amount. 1. The concept of a down payment is not limited to real estate transactions.
2. The use of the term "down payment" gives a real possibility to withhold or demand its double amount in the event of failure of the buyer or seller to comply with the contract, respectively. The down payment should be clearly distinguished from the down payment, which is returnable!

What source of income should the down payment qualify?

Taxation of the down payment on the sale of real estate, which constitutes the taxpayer's definitive income due to failure to comply with the provisions of the preliminary agreement, depends primarily on whether the taxpayer acted as an entrepreneur or not.

Conclusion of a preliminary contract as part of business activity and failure to comply with its provisions by the other party to the contract will cause the seller (entrepreneur) to tax the retained advance as income from business activities. An example of a preliminary contract concluded in connection with the business activity conducted by the taxpayer is a preliminary contract for the sale of real estate which is a company's fixed asset.

If, on the other hand, the party withholding the down payment did not perform activities as part of non-agricultural business activity, then the income on this account is the so-called income from other sources (Article 10 (1) (9) of the PIT Act). In art. 20 of the PIT Act, the legislator has included an exemplary catalog of revenues that should be qualified as revenues from other sources. It should also be emphasized that he does not mention the down payment directly, however, the examples of revenues listed in Art. 20 of the PIT Act, which should be recognized as income from other sources, are open catalog.
It should be emphasized that only the surplus of received cash is subject to taxation, i.e. the amount exceeding the amount of the advance payment. Therefore, if, for example, the would-be buyer receives a refund of the down payment in a double amount, only the amount that is his real asset gain is subject to taxation, without taking into account in his tax settlement the amount that is only a refund of previously paid funds. This issue is illustrated by the example below.

Example 1.

Mr. Andrzej has concluded a preliminary contract for the purchase of his future apartment. The parties agreed that he would pay PLN 10,000 as a down payment.

The would-be seller broke the provisions of the concluded preliminary contract and did not sell the apartment to Mr. Andrzej on the agreed date, hence Mr. Andrzej demanded the return of the double advance payment and received PLN 20,000 on that account.

Due to the fact that half of the amount received is only a refund of the previously paid sum of money, only the surplus paid to Mr. Andrzej over the amount originally paid, i.e. PLN 10,000, will be taxed as income from other sources.

The correctness of taxation of the advance payment as part of the source of income referred to in art. 10 sec. 1 point 9 of the PIT Act (i.e. as income from other sources), are also confirmed by the tax authorities. An example here can be a fragment of the individual interpretation issued by the Director of the National Tax Information on March 27, 2017, ref. 1462-IPPB4.4511.24.2017.1.MS1, which is the conclusion for the considerations so far:

"Bearing in mind the above explanations, it should be stated that the amount received by the Applicant - in the amount exceeding the amount of the advance payment - will constitute income from other sources, subject to taxation. This income is reduced in accordance with Art. 22 sec. 1 about the costs of its obtaining is the income that must be demonstrated in the testimony about the amount of income achieved ”. Income from other sources also includes the interest charged and paid together with the advance payment, which arose as a result of late payment of the advance payment (this aspect was also considered in the above-mentioned individual interpretation). Only the reimbursement of litigation costs will be indifferent to tax.

At what point to recognize revenue?

The moment of recognizing the revenue from the retained down payment will be completely different for the would-be seller who withheld the down payment and for the would-be buyer who received a double down payment. If:

  • the would-be seller will keep the down payment because the other party to the contract has failed to meet the provisions of the preliminary contract, then the retained down payment will become revenue upon the expiry of the deadline provided for in the preliminary contract for the conclusion of the final contract;
  • the would-be buyer will receive a double down payment, because it is the fault of the future seller that the final contract was not concluded, then the amount exceeding the previously paid down payment will constitute income at the time of the actual payment of funds.

Summarizing the above, it should be emphasized that only the final property gain in the form of the retention of the down payment or the return of the down payment in a double amount due to failure to perform the preliminary contract generates tax revenue.

The mere fact that the future seller receives an advance payment when concluding the preliminary contract does not generate a tax obligation on the basis of income tax until the fact that the future buyer fails to comply with the provisions of the preliminary contract. The above thesis remains valid even if the preliminary contract is concluded by the taxpayer as part of business activity. The above position was confirmed in particular by the Director of the Tax Chamber in Warsaw in the individual ruling of March 17, 2015, file ref. IPPB1 / 415-1393 / 14-4 / ES, recognizing that:

"Taking into account the above, the receipt by the Applicant of a prepayment in the form of an advance for the conclusion of the final contract for the sale of real estate did not - at this time - result in the emergence of a tax obligation in personal income tax".

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Taxation of the down payment on the sale of real estate - annual tax return

Taxation of the down payment, which does not constitute income from the business activity conducted by the taxpayer, should be classified as income from other sources, which should be taxed in accordance with art. 27 of the PIT Act, i.e. according to the tax scale.

The down payment must be declared in the PIT-36 tax return by April 30 of the next tax year following the year in which the tax obligation arose. Within the deadline for submitting the tax return, the taxpayer should also pay the tax due on this account. The correctness of the described procedure was confirmed, among others, by Director of the National Tax Information in an individual interpretation of November 27, 2017, file ref. 0112-KDIL3-2.4011.322.2017.2.DJ, recognizing that:

"To sum up, in the event that the final sale agreement is not concluded, and thus the ownership of the property is not transferred to the buyer, and the down payment is retained by the Applicant, then the amount of the down payment at the time of its retention will constitute income for the Applicant from other sources, about which referred to in Art. 10 sec. 1 point 9 in connection with joke. 20 paragraph 1 of the Personal Income Tax Act. The Applicant should show the above amount in the "other sources" item in the PIT-36 tax return for the tax year in which the Applicant retained the received advance payment by April 30 of the year following the above-mentioned tax return. tax year, together with other income achieved in the same year and taxed on general principles according to the tax scale specified in art. 27 sec. 1 of the Personal Income Tax Act ”.

Finally, it should be mentioned that pursuant to Art. 42a of the PIT Act, natural persons running a business, legal persons and their organizational units as well as organizational units without legal personality that make payments of revenues from other sources, should prepare and provide the taxpayer and the competent tax office with information on the amount of these revenues (PIT-11) .