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Promissory Note Valuation Mistake: Fair Market Value Vs. Historical Cost

Overpaying Taxes and Fees Because of Valuation Confusion

Fair Market Value vs. Historical Cost

How you value your investments (promissory notes included) impacts the taxes and fees you pay. In the worlds of finance and accounting, there is a debate about the best methodology for asset valuation. Being a promissory note investor, decide to value at Fair Market Value, not at historical cost.

Historical cost is the price paid when the note was acquired. Fair Market Value is the price at which the promissory note would change hands between a willing buyer and seller in an arms-length transaction today. It’s the cash amount you could receive today if you had to find a buyer and sell.

Fair Market Value and Historical Cost Rarely are the Same

The two definitions are completely different and create two very different results. As an example consider publicly traded closed-end funds. The day-to-day trading price of Fair Market Value (FMV) is rarely the same as cost. Publically traded funds trade at prices above, below, and at historical cost. Your promissory note has two distinct values depending on which definition is applied.

A Promissory Notes Fair Market Values are Usually Less than its Cost

Because private notes are relatively illiquid–they do not trade on a public market-they have to be sold individually, one note to one buyer. Because of the extra time and cost to sell a note, its market value is discounted. Notes can be wonderful investments, pay an above-market yield, and yet have a legitimate reason to be discounted if they had to be sold. As an investor, the yield is vital; as a tax payer or a fee payer, the discounted value is vital.

Note investors normally are long-term holders, not frequent traders. Selling is not part of their agenda; holding for income is the usual goal. Investing for the long-term and valuing the investment based on the short-term (FMV) for taxation is a good business practice.

Using the Wrong Value Costs…

Read More…. by Lawrence Tepper

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The post Promissory Note Valuation Mistake: Fair Market Value Vs. Historical Cost appeared first on Note Investing Seminars.

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