interest assumed on a noninterest-bearing note, including discounted or zero-coupon instruments, or on a note with an unrealistically low interest rate. It applies to both notes payable and notes receivable. The imputed interest rate is the one the borrower would normally incur in a similar transaction. Assume a $10,000 one-year noninterest- bearing note payable was issued on 1/1/2005. It would be unrealistic to believe that someone would take a one-year note without interest. Thus, interest must be imputed, to arrive at the present value of the note on 1/1/2005. If we use a 10% imputed interest rate, the present value of the note is $9091 ($10,000/1.10). Hence, the note consists of a principal portion of $9091 and an imputed interest portion of $909.
interest that legally may be considered part of the principal of a debt, if the interest paid is less than the amount estimated for tax purposes by the Internal Revenue Service.
implied interest. In a mortgage that states an insufficient interest rate, tax law will impute a higher rate and a lower principal, which will increase taxes on the receipt of payments. The imputed interest is based on the difference between the rate the federal government pays on new borrowings and the interest charged on the loan.
interest considered to have been paid in effect even though no interest was actually paid. For example, the Internal Revenue Service requires that annual interest be recognized on a zero-coupon security.
implied interest. In a mortgage that states an insufficient interest rate, the law will impute that the rate is higher, and the principal is less.
Example: Abel sells property to Baker. Baker gives Abel a portion of the price in cash and Abel takes a note for the remainder. Since the gain on the sale is taxable at capital gains rates and the interest paid on the note is taxed as ordinary income, it is in Abel's favor to set a higher price in exchange for charging a low rate of interest on the note. If this is done, the Internal Revenue Service will consider a portion of the principal paid on the note as imputed interest and tax that portion as ordinary income.
