In a scenario when A makes a multi-year personal loan to B, paying interest monthly, with B deducting interest paid as business expense on Sch. C, does A necessarily have to report it as profit for the same year? Or can A treat it as principal repayments, and only view a part of the lump sum received at the end (final repayment) as taxable interest? The total interest would be the same, whether adding up monthly payments or treating a part of the lump sum as interest, but it would not be for the same year. What stops A & B from viewing the same loan differently? If the taxability stems from their actual agreement, can they agree to have this asymmetric view?
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Wouldn’t B have to issue something like a 1099-INT in order for A to deduct it? I imagine B couldn’t issue it without claiming that interest as income in the same year…
Personal loans do not require 1099-INT
I can’t imagine this would pass an IRS audit.
What would the contract actually say? I can’t see how you’d write up a legit contract to do this.
If you can’t make a legit contract that makes sense then when you get audited then what do you tell the IRS?
Contract can go over the calculation and details of payment schedule and specifically say that lender and borrower are entitled to view each payment as either interest payment or principal reduction as they see fit.
I don’t even know if the IRS is entitled to view the contract, as it may be privileged and not disclosed by either party. I am talking about private individuals, not regulated financial institutions.
If you get audited then they’ll want to see the contract. I’m sure they will feel entitled to do so. Or you can just refuse to provide paperwork and pay whatever interest and penalty they demand.
My opinion is that this wouldn’t fly.
How about I just view my W2 as a loan and then pay no income taxes and at the same time my employer can view my pay as pay and deduct it.? Think that would fly? We could write up a contract and claim the IRS can’t see it. That sounds silly doesn’t it? Why is your scheme any different?
You can’t view your paycheck as timely interest payments either, though wouldn’t it be nice to be exempt from payroll tax by offering your employer a loan 
The difference is that employment is regulated by labor laws.
Enjoy your audit then.
How are A&B related?
What kind of contract is this where it would be privileged? And aren’t you one of the parties to the contract? You would be the one disclosing it…
No relation, separate households. It’s a hypothetical question.
Don’t understand the fixation on the contract. No one is obligated to turn it over to the IRS in this scenario. Maybe if they got a court ordered subpoena… or let’s just say it’s an oral contract. Still perfectly valid.
If the parties aren’t “related parties” there may not a per se direct requirement that they be treated the same. However, there are rules specific to interest that you have to follow. There are other common law principle hurdles you would have to get over to prove that your allocation method is correct. The results of a required allocation of the interest may result in both the lender and borrower treating the interest symmetrically.
As for the contract - this is how you prove your tax allocation method is appropriate and matches the economic substance of the transaction. If you don’t provide the contract you would have to provide some other evidence to support your contention. Otherwise the examiner would likely just disallow your method in favor of their own (in case there’s not a specific required method which again depends on the details of the transaction).So yes, you probably wouldn’t have to provide the contract, but it would mean you lose that point…
And technically, if you don’t provide something that an examiner thinks meets a certain standard, the IRS does have the authority to issue a summons and go to court to enforce it.
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A calculates tax how they want, and B calculates tax how they want. The two are independent.
If A is not consistent with B, one of the two is likely using incorrect interpretation of accounting rules. I agree with you though, no way to force the other party to be consistent.