While Rebates from Real Estate Agents Are NOT Taxable Income, What If The Agent Issues A 1099?

Recently, a question was posed to me by a buyer after receiving an IRS Form 1099-MISC regarding a rebate she received. The question was whether she had to pay income taxes on the rebate. As I posted on this issue in March 2010, NO! A rebate received from an agent is not taxable income. Rather, the rebate should be applied to reduce your cost basis, which will affect your capital gains tax you may have to pay when you sell. Please see my earlier post for more details. Also see pages 31-32 of IRS Publication 525 at www.irs.gov/pub/irs-pdf/p525.pdf.

So what happens when the agent pays the rebate outside of escrow and sends you an IRS Form 1099-MISC? First, I believe that the 1099-MISC was made in error and could adversely affect the client's taxes by convincing them they must pay taxes on the rebate or cause the client to be audited. Interestingly, the IRS has issued an opinion letter in February 2007 on this very issue at the request of a large real estate firm that offers rebates. The IRS's conclusions of law are as follows:

FACTS (Paraphrased): A buyer purchased a home through a broker who sent the buyer a check rebating a portion of the commission earned, which was paid by the seller in the normal course of business and per local MLS rules. The buyer's agent was an exclusive agency. The questions raised are: 1) Is the rebate taxable income; and, 2) Must the broker providing the rebate issue a 1099 to the buyer?

ISSUE 1: Payments (Rebates) or Credits are Not Taxable Income

Section 61 of the Internal Revenue Code (Code) provides that, except as otherwise provided, gross income means all income from whatever source derived.

Situation 2 of Rev. Rul. 2006-27, 2006-21 I.R.B. 915, involves a nonprofit corporation that provides down payment assistance towards the purchase of homes to low-income individuals and families. The ruling holds that down payment assistance received by a home purchaser represents a rebate or an adjustment to the purchase price, and, as such, is not included in a purchaser's gross income.

Rev.Rul. 76-96, 1976-1 C.B. 23, as modified by Rev.Rul. 2005-28, 2005-1 C.B. 997, involves a manufacturer of automobiles that paid rebates to its retail customers who purchased or leased new automobiles. The ruling holds that a rebate is not to be included in a customer's gross income; but rather, represents an adjustment to the purchase price of the automobile.

In the present case, a payment or credit at [or after] closing from the [broker] represents an adjustment to the purchase price of the home and generally is not includible in a purchaser's gross income.

ISSUE 2: Information Reporting Obligations

Section 6041 of the Code requires all persons engaged in a trade or business and making payment in the course of such trade or business to another person, of rent, salaries, wages, premiums, annuities, compensations, remunerations, emoluments, or other fixed or determinable gains, profits, and income of $600 or more in any taxable year, to file an information return with the Internal Revenue Service and to furnish an information statement to the payee.

Section 1.6041-1(a)(2) of the Income Tax Regulations provides that the return required by section 6041(a) of the Code is made on Forms 1096 and 1099. Section 1.6041-1(c) provides that payments are fixed when they are paid in amounts definitely pre-determined. Income is determinable whenever there is a basis of calculation by which the amount to be paid may be ascertained.

A payor generally is not required to make a return under section 6041 of the Code for payments that are not includible in the recipient's income. nor is a payor required to make a return if the payor does not have a basis to determine the amount of a payment that is required to be included in the recipient's income.

In the present case, [broker] does not have an information reporting obligation under section 6041 of the Code because, as concluded above, a payment (rebate) or credit at [or after] closing represents an adjustment to the purchase price of the home and generally is not includible in a purchaser's gross income. Nor does [the broker] have an information reporting obligation for those amounts under any other section of the Code.

In conclusion, real estate agent rebates are not taxable income and any agent that provides them should not be filing any IRS reporting forms. I suggest to any buyer who receives a 1099, or any other IRS form, that seems to identify a rebate received as income to immediately send a letter to the broker demanding that form be withdrawn or corrected. The broker, when preparing their taxes, should be deducting the rebates from their gross income.

Real Estate Buyer Rebates are Legal in California

There are a lot of talk and assertions by some on the internet that it is illegal or unethical for a real estate agent to provide a rebate to a buyer in a real estate transaction. While this is true in some states, it is not for California. For those states that ban such rebates, the Anti-Trust Division of the US Department of Justice (DOJ) is actively working to get those lifted to promote competition in the real estate industry to hopefully reduce costs in all states.

The historical problem associated with rebates in the real estate industry is one of kickbacks to other businesses, such as providing a kickback to a title company or another business to direct business a certain way. Through kickbacks, some agents were able to corner the market and prevent competition. This has been made illegal in all states through the federal Real Estate Settlement Procedures Act (RESPA). With regard to commission rebates to buyers, the issue is one of disclosure.

According to the DOJ and the Department of Housing and Urban Development (HUD), real estate agents may rebate a portion of the agent’s commission under RESPA. The rebate must be listed as a credit on page 1 of the HUD-1 in Lines 204-209 and the name of the party giving the credit must be identified. Real estate agent or broker commission rebates do NOT violate Section 8 of RESPA as long as no part of the commission rebate is tied to a referral of business.

As part of my business model, I provide buyer rebates to my clients when I only represent the buyer in a transaction. What I have found in today’s market is that lenders get a bit nervous when they see a large credit to the buyer from their agent. Thus, it is imperative that as the buyer’s agent to address this issue early with the lender as to how they will feel comfortable on how the credit is to be applied. I typically will credit the rebate toward closing costs and any extra toward the buyer’s down payment. I have found that lenders are happy to see the rebate so long as it does not show up as a surprise at the last hour.

As of this posting, the states that still prohibit rebates are: OR, AK, KS, OK, IA, MO, TN, MS, AL, and LA. Below is a link to the Department of Justice website page regarding rebates.

http://www.justice.gov/atr/public/real_estate/rebates.htm

Are Cash Back Rebates From A Real Estate Agent Income? NO!

In response to a question posed by a home buyer regarding a rebate he was to receive from his agent, someone told the buyer that he would have to claim the rebate on his income taxes and the agent giving the rebate would need to provide the buyer with a Form 1099. The assertion is completely wrong and a ploy used by some agents to discourage consumers from employing an agent that offers a rebate.

According to the IRS: "A cash rebate you receive from a dealer or manufacturer of an item you buy is not income, but you must reduce your basis by the amount of the rebate." For example; if you buy a home for $100,000.00 and receive $1,000 as a cash rebate from your agent, then your basis is $99,000.00 rather than the full $100,000.00.

Where this matters is when you go to sell and you make a capital gain that may be taxed. Following the example above, say you sell the home a few years later for $150,000.00. Without the rebate, your capital gain would be $50,000.00 as your basis is $100,000.00. With the rebate, your capital gain would be $51,000.00 because your adjusted basis is $99,000.00.

The same is true if you receive down payment assistance. According to the IRS: "If you purchase a home and receive assistance from a non-profit corporation to make the down payment, that assistance is not included in your income. If the corporation qualifies as a tax-exempt charitable organization, the assistance is treated as a gift and is included in your basis of the house. If the corporation does not qualify, the assistance is treated as a rebate or reduction of the purchase price and is not included in your basis."

You can go to pages 31-32 of IRS Publication 525 for verification of the above information. The link to Publication 525 is:

www.irs.gov/pub/irs-pdf/p525.pdf

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