The tax follows the payments. Mostly.

The facts, in one place.

Six quotable sentences on reporting the sale of a business on the installment method.

1. A sale with at least one payment after the year of sale is an installment sale, and the gain is reported as the payments come in unless the seller elects out (§ 453(a), (b)(1), (d)). Each payment of principal carries gain in the proportion the gross profit bears to the contract price (§ 453(c)).
2. Depreciation recapture under §§ 1245 and 1250 does not wait. It is ordinary income in the year of sale whatever the cash received, and it is added to basis so that only the remaining gain is spread (§ 453(i)).
3. Interest on the note is ordinary income as it is paid, on top of the gain in the principal. A note that states too little interest has interest imputed to it (§§ 483, 1274).
4. Example: a business sold for $2,000,000 with a $500,000 basis and $100,000 of recapture, $400,000 down and the rest over 4 years at 6%: 70% of each principal dollar is gain, the year-of-sale tax is $93,000 against $317,000 for a cash sale, and $224,000 is pushed into later years.
5. When the installment obligations arising in a year and still outstanding at its close exceed $5 million, the seller pays interest to the Treasury on the deferred tax (§ 453A(c)), and pledging the note as collateral for a loan is treated as receiving payment (§ 453A(d)).
6. If a related buyer resells within 2 years, the seller is treated as receiving the resale proceeds (§ 453(e)). Inventory cannot be reported on the method (§ 453(b)(2)(B)), and neither can publicly traded stock (§ 453(k)(2)). The seller carries the buyer's credit for the life of the note.

The year-by-year path in the example.

Principal, gain, recapture, interest, and tax for each year of the example note.

How the method works.

The installment method matches the tax to the cash. The seller computes a gross profit ratio once, gross profit over contract price, and applies it to every payment of principal as it arrives; that share of each payment is gain, and the rest is a return of basis. The ratio is fixed at the sale, so a note paid faster or slower changes when the gain is reported, never how much. Interest on the note is separate: ordinary income in the year it is paid, and imputed by the Code if the note states too little.

Two things are carved out of the deferral. Depreciation recapture under sections 1245 and 1250 is recognized in full in the year of sale, however small the down payment, and is added to basis so the ratio spreads only the remaining gain; a seller with heavy equipment depreciation can owe more tax in the first year than the cash received. And the straight-line depreciation on real property, the unrecaptured section 1250 gain taxed at up to 25 percent, is not recapture income for this purpose: it is spread with the rest, and comes out first under the regulations. Above $5 million of obligations outstanding at year end, the seller also pays interest to the Treasury on the deferred tax, which is the law's price for the deferral on a large note.

Methodology.

1. Inputs. The sale price, the seller's adjusted basis, the down payment, the years the note runs, the stated interest rate, the sections 1245 and 1250 ordinary recapture, the gains and ordinary rates, and whether the surtax applies.
2. The ratio. Gross profit is the price less basis less recapture (§ 453(i); Form 6252 line 14); the contract price is the sale price, since no assumed debt is modeled; the gross profit ratio is the one over the other (§ 453(c)).
3. The path. Year one receives the down payment and all of the recapture. Each later year receives one equal share of the note's principal and interest at the stated rate on the opening balance. Principal times the ratio is the gain for the year.
4. The tax. Gain at the gains rate, recapture and interest at the ordinary rate, the surtax added to each when it applies (§ 1411(c)(1)(A)(i), (iii)). Totals over the path; the same sale taxed all at once in year one for comparison; the tax deferred as the difference in year one.
5. The § 453A line. The tool flags a note above $5 million from a sale over $150,000 and states the interest charge; it does not compute it.
6. Validation. The example pinned by hand for every year (93,000; 91,520; 82,640; 73,760; 64,880), the surtax difference, an all-cash sale collapsing to the lump sum, and a note above the line flagged. A transcription error fails the build.
7. Not modeled. Debt assumed by the buyer, a wraparound or contingent price, imputed interest, the related-party rule, an election out, inventory carved out of the method, the interest charge itself, a lower bracket from spreading, state tax, and default. Educational, not advice.

Sources.

1. 1. United States Code (Cornell LII), 26 U.S.C. § 453 — Installment method. The installment method: income from an installment sale is the proportion of each payment that the gross profit bears to the total contract price (c); dealer dispositions and inventory are excluded (b)(2); the election not to use the method (d); the related-party second-disposition rule with its two-year window (e); the recognition of recapture income in the year of the disposition with only the excess gain reported on the method (i); and the bar on the method for publicly traded stock (k)(2). Retrieved September 7, 2026; verified September 7, 2026.
2. 2. United States Code (Cornell LII), 26 U.S.C. § 453A — Special rules for nondealers. The interest charge on the deferred tax liability (c) for obligations from sales over $150,000 (b)(1) when the face amount of all such obligations arising in the year and outstanding at its close exceeds $5,000,000 (b)(2), and the treatment of a pledge of the obligation as a payment (d). Retrieved September 7, 2026; verified September 7, 2026.
3. 3. Internal Revenue Service, Publication 537, Installment Sales. The Service's worked method: gross profit, contract price, the gross profit percentage, the treatment of depreciation recapture as income in the year of sale that is added to basis for the gross profit computation, interest on the note as ordinary income, the sale of a business by allocation among asset classes, and Form 6252. Retrieved September 7, 2026; verified September 7, 2026.
4. 4. United States Code (Cornell LII), 26 U.S.C. § 1245 — Gain from dispositions of certain depreciable property; § 1250 — Gain from dispositions of certain depreciable realty. That gain on depreciable personal property is ordinary income up to the depreciation taken (§ 1245(a)); that gain on real property is ordinary only to the extent of depreciation beyond straight line (§ 1250(a)); and, with § 1(h)(1)(E) and (h)(6), that the straight-line depreciation on real property is unrecaptured section 1250 gain taxed at up to 25 percent. Retrieved September 7, 2026; verified September 7, 2026.
5. 5. United States Code (Cornell LII), 26 U.S.C. § 1411 — Imposition of tax (net investment income). That the 3.8 percent surtax reaches interest and net gain from the disposition of property (c)(1)(A), except property held in a trade or business in which the taxpayer materially participates (c)(1)(A)(iii), (c)(2); so the sale of a C corporation's stock is within it, and the sale of an active owner's business assets is generally outside it. Retrieved September 7, 2026; verified September 7, 2026.

Revision history.

The record's history.

September 7, 2026

First release: the installment sale of a business (§ 453, with recapture in the year of sale and the § 453A line stated), the asset-or-stock double tax on a C corporation (§§ 11, 331), and the purchase price allocation by class (§ 1060, Form 8594).

Canonical address: https://consideratecapital.com/tools/installment-sale-calculator