Large developers of US timeshare companies and other forms of vacation ownership interval projects typically sell them to individual customers in exchange for installment obligations. The Internal Revenue Code provides these VOI sellers with special US corporation tax deferral benefits on these remittance obligations.
VOI reporting rules
Section 453(l)(2)(B) generally allows U.S. sellers of VOI to treat payment obligations arising from VOI transactions as non-dealer payment obligations. Such payment obligations therefore favorably escape the scope of the tax rule of section 453(b)(2)(A) which prohibits the carryover of the installment sale on the sales of the dealers.
Section 453(l)(2)(B) deferral of VOI payout obligations also differs favorably from generally accepted accounting principles (GAAP) timing rules, which generally include VOI payout gain at the time of the sale. Section 453(l)(2)(B) thus creates a temporary difference in GAAP income that exceeds corporate taxable income in the year the obligation arises. This temporary difference reverses roughly proportionally over time as non-GAAP corporate taxable payments are received.
But under section 453(l)(3), as illustrated in TAM 9133002, when principal payments are received, the VOI seller is subject to a corporation tax deductible interest expense on that previously deferred corporation tax in addition to ordinary corporate income tax. This effectively provides some compensation to the government for Section 453(l)(2)(B), allowing the payout gain to be deferred until collected.
The interest expense is determined by applying to the payment of corporation tax when collecting the note, according to the applicable federal rate in effect on the date of sale. Section 453(l)(2)(C) provides that any interest income on VOI payment obligations added to the seller’s books at the established spot sale price of the VOI is deferrable as if it were included in the total contract price.
Section 453A(b)(4) favorably excludes VOI payment obligations from the application of the interest rules in Section 453A(c). Section 453A(c) generally imposes a corporate tax-deductible interest expense on expected future corporate taxes attributable to the uncollected balance of non-VOI installment obligations in excess of $5 million. However, Section 453A(b)(4) reaffirms that the interest expense of Section 453(l)(3) triggered corporation tax attributable to the collected balance of the installment obligations applies to VOI installment obligations. Section 453A(b)(4) also favorably excludes VOI remittance obligations from the application of the collateral rules in section 453A(d), which triggers a gain to the extent that a non-VOI remittance obligation is pledge by the recipient company to secure a loan.
A 2021 congressional research report ranked the “deferral of gains on non-market installment sales” as the ninth greatest tax preference for corporations. This is the second highest listed corporate tax deferral preference behind “equipment depreciation beyond the alternative depreciation system”. Since excess tax depreciation is generally not subject to CAMT, the non-market remittance gain may well be the biggest potential timing difference that could be subject to CAMT.
Holidays at Hilton Global
Hilton Global Vacations Inc., a New York Stock Exchange-listed company, is one of the leading sellers of timeshares in the United States. HGV is incorporated in Delaware and headquartered in Florida and has national and international operations. According to its 2021 Form 10-K, HGV has two primary business segments: real estate sales and financing, which includes the sale of VOIs and the management and pledging of the resulting VOI bond portfolio; and resort operations, which includes the operation of timeshare resorts, typically under 10% to 15% markup contracts with resort owners’ associations.
In 2021, HGV’s real estate and sales and financing segment generated $1.5 billion in revenue consisting primarily of VOI bonds secured by VOIs sold. Less a provision for recovery, these obligations were immediately recognized for GAAP purposes upon completion of construction of the complex. HGV’s resort operations segment generated $700 million in revenue. Its total 2021 GAAP income before tax was $300 million, a strong recovery from the $300 million pretax GAAP loss in 2020, which was heavily impacted by Covid-19. Annualized GAAP 2022 net income for the first half of 2022 was $400 million.
In 2021, approximately 75% of truck VOI sales were financed. Each of HGV’s $2.4 billion VOI bonds on hand as of December 31, 2021 generally constituted about 90% of the VOI’s sale price, reflecting a 10% down payment. The average VOI loan outstanding in 2021 was around $22,000. The original term of VOI bonds was typically 10 years and their weighted average interest rate was around 14%. The average default rate on VOI installment bonds in 2021 was around 9%. Shortly after their inception, most of HGV’s VOI bonds were pledged by HGV as collateral for loans. At the end of 2021, HGV’s deferred tax liability account that was attributable to deferred income temporary differences was $500 million.
Perhaps the next guidance from the IRS on the alternative minimum tax for corporations will be issued under the regulatory authority of Section 56A could provide some CAMT relief on timing differences in general and VOI installment sales in particular. In the absence of such guidance,
This article does not necessarily reflect the views of the Bureau of National Affairs, Inc., publisher of Bloomberg Law and Bloomberg Tax, or its owners.
Alan S. Lederman is a shareholder of Gunster, Yoakley & Stewart, PA in Fort Lauderdale, Florida.
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