Sell a $5 Million Business and Take the Cash Over 10 Years. Section 453 Lets the Seller Choose Which Decade the Tax Bill Lands In, and Which Bracket

Selling a company you spent decades building often ends with an unwelcome surprise. The entire profit is treated as income earned in a single year, so a seller who takes one big check at closing puts most of that gain into the top capital-gains bracket.

Federal tax rules offer a way around that. Section 453 of the Internal Revenue Code lets a seller who gets paid over time report the gain only as cash comes in. Structure the deal as 10 annual payments and the seller decides, within limits, which years and brackets take the bill. In the example below, that choice saves about $430,190 in federal tax.

How Section 453 Turns One Giant Gain Into 10 Smaller Ones

The whole method runs on one ratio. Divide your gain by the contract price to get the gross profit percentage. That share of every principal payment is taxable gain, and the rest is a tax-free return of your basis (Payment x Gross Profit Percentage = Taxable gain).

Consider an hypothetical composite: a married couple in their 60s selling their company for $5 million. Their basis is $1 million, which leaves a gain of $4,000,000 and a gross profit percentage of 80%. Each $500,000 annual payment therefore includes $400,000 of taxable gain.

Lump Sum vs. Installments: A $430,190 Federal Tax Gap

Assumptions: the couple files jointly with no other income, takes the 2026 standard deduction of $32,200, and 2026 figures hold steady across all 10 years. For 2026, joint filers pay 0% on long-term gains up to $98,900 of taxable income, 15% up to $613,700, and 20% above that. The 3.8% net investment income tax applies above $250,000 of income. Active owners selling S corporation or partnership interests often avoid some of it, which would reduce both columns.

The savings come from how brackets work: the higher rate applies only to the layer of income above each threshold (you pay the higher rate only on the part that’s in the new tax bracket). The lump sum drives $3,354,100 into the 20% layer. Every installment dollar stays in the 15% layer.

Choosing Which Decade and Which Bracket Gets the Bill

Section 453 gives the seller several ways to guide the timing:

• Back-load the schedule. Take smaller payments while you’re still drawing a salary and bigger ones after you retire, when your ordinary income drops.
• Drives the first payment past December 31. Close in December, collect in January, and the first piece of gain moves to the next tax year.
• Elect out under Section 453(d). If you expect higher rates later, you can report the whole gain now on a timely filed return for the year of sale.
• Change your state. Florida, Texas, Tennessee, Alaska, South Dakota and Wyoming all rank 1 for individual income tax in the 2025 State Tax Competitiveness Index. Payments you receive after a genuine move may escape state tax, though some states, California among them, can still tax installment gain from a sale made while you lived there.

Fine Print That Can Erase the Savings

Depreciation recapture comes first. Recapture is taxed as ordinary income in the year of sale even if you receive no cash payment that year. Inventory and receivables don’t qualify for installment treatment either.

Section 453A charges interest on big notes. It applies when the sales price exceeds $150,000 and installment obligations outstanding at year-end exceed $5 million. Because our couple collects the first payment at closing, only $4,500,000 is left outstanding, which keeps them under that line. Pledging the note as collateral for a loan can count as receiving payment.

Interest is ordinary income. The interest portion of each payment is reported separately from the gain on Schedule B, and the note must includes at least the IRS applicable federal rate.

You become the buyer’s lender. If the business struggles, your payments can stop. With the 10-year Treasury yield at 5.28% as of October 2, 2026, the note’s rate should pay you well above that nearly risk-free benchmark.

Rates can change. Each payment is taxed under the law in effect the year it comes in. Seven federal brackets ranging from 10% to 37% apply for 2026, and Congress can change them in any of the next 10 years.

Before signing a purchase agreement, run the payment schedule, the state residency question and the 453A threshold through the numbers with a CPA or fiduciary advisor.

Contact [email protected] for any questions or corrections.