Determining the value of a financial asset can be an optional decision, but in most cases, it is a requirement. An example of the optional category is an investor seeking to learn the current market value of an asset acquired many years ago. The main driver of required or mandatory valuations is the Internal Revenue Service (IRA). All tax related matters must be valued under IRS rules and regulations. Let’s examine when and why promissory notes are appraised and valued.

IRS Revenue Ruling 59-60 details valuation requirements for income tax, estate tax, gift tax or other Federal tax purposes. Note appraisal and valuation experts are needed in the following situations:

Valuing notes, both business and personal, for audit or taxation reasons
A note is part of the financing for a business sale
When wealth managers advise on tax-related estate planning
When estate and trust attorneys and CPAs value notes for distribution and taxation
Gift Tax planning-“gifting”
Charitable Contribution planning
Related party (family members) asset valuation
Divorce property asset valuation
Partnership dissolution asset valuation
Self-directed IRA account valuation
Valuation experts are becoming more and more involved in working with estate and trust attorneys, auditors, CPAs, and investors. These parties need appraisals and valuations of financial assets.

Factors Affecting Note Valuation

The following list outlines thirteen valuation factors:
1. Loan document language clarity
2. Loan document terms and conditions
3. Interest rate-fixed or adjustable
4. Duration of the loan-long or short term
5. Payment schedule-amortizing or interest only
6. Loan payment history
7. Borrower’s financial information and financial strength
8. Collateral security
9. Economic conditions
10. Marketability of the asset
11. Liquidity of the asset
12. Collectability of the debt
13. Risk factors

All of the above factors are analyzed and evaluated individually; then, they must be analyzed in conjunction with each other. Each of the thirteen factors my impact one or more other factors. Their interrelationships affect the final Fair Market Value. Experienced judgment and training are required to reach a rational, defendable valuation conclusion.

Other Cash Flow Financial Instruments Requiring Valuations

Promissory notes are not the only type of cash-flow financial asset requiring appraisal and valuation. Over fifty categories of non-publicly traded financial assets require valuation by an independent, third-party appraiser. Listed below are some of the more common categories.

Contracts for Deed–Installment Land Contract
Promissory notes secured by business assets
Seller Carried-Back Financing/Seller-Financed Promissory Note
Partial ownership of an income stream
Full ownership of an income stream
Full ownership of a balloon balance

Other Cash Flow Financial Instruments-Not Promissory Note Related
Accounts receivable
General consumer debt
Auto finance notes
Lease payments
Judgments-commercial and consumer
Credit Card debt
Health and Country Club Memberships
Equipment leases
Trust advances
Retail Installment Contracts
Lottery winnings
Yacht promissory notes
Annuity payments
Insurance settlements
Timeshare and vacation club contracts
Inheritances and trust advances
Lottery winnings
Military retirement pensions
Prizes and awards/casino winnings
Structured settlements/Class Action awards
Tax lien certificates

What Professional Appraisal Services Should You Expect?

A privately held promissory note is often the centerpiece of the owner’s retirement savings; it often represents a major portion of the value of the estate. Because of this, the valuation expert must have actual experience appraising and valuing private promissory notes. The appraisal report should be well reasoned, and supported by documented conclusions. It should be an objective and defensible valuation analysis that will hold up in litigation or under IRS scrutiny.