I hope you can help me. My husband and I live in Maryland. My in-laws also live in Maryland. Their house is paid for but requires a lot of work. They have not been able to do the necessary maintenance on their property. My husband and I help out when we can. But the house needs a lot of work. My in-laws want to sell us their house and move into an apartment. They like that they can get repairs fixed by calling a rental office. They also won’t have to deal with grass mowing and snow removal issues.
Having said that, my husband and I are trying to see which is the best option for all of us. My in-laws want to sell us their house for about $ 100,000, which is most likely below market value. But it requires a lot of work, like water in the basement due to a foundation problem ($ 7,000 – $ 8,000); a new roof ($ 12,500); and a new air conditioning / heating unit ($ 10,000). The other issues are aesthetic – bathroom renovations, new flooring and painting throughout the house, and landscaping (front and back).
We can refinance our house for 15 years – we currently have eight years left on our mortgage – to buy and repair their house. But what do you think is the best way to do it, because we don’t want to be trapped in taxes? What if they sell their house to us for less than market value? What if they gave us the house? We plan to sell the house once it is renovated.
Thank you for your time.
The in-laws want to go out
“The Big Move” is a MarketWatch column that examines the ins and outs of real estate, from finding a new home to applying for a mortgage.
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It is good that your in-laws are able to recognize that they have to downsize and move. Too often we see the elderly retaining the family home well beyond the time when they can manage such property, in the hope of passing the property on to their children. The problem is, in many cases, the younger generation doesn’t want to move into the house – and at this point, all the accumulated neglect of parents, unable to handle the upkeep, leaves the house in such disrepair that whatever inheritance to pass on to the next generation is reduced by the costs of bringing the house into salable condition.
Your in-laws are doing the right thing by being proactive and moving to a home that is more manageable for them now, rather than making it your problem later. Besides, who wouldn’t rather sit back, relax and finally let someone else mow the lawn when they’re retired and living their heyday?
There are two major tax considerations your family should think about before going ahead with the plan that looks the most appealing to your in-laws. it would be considered a gift in the eyes of the Internal Revenue Service. But that doesn’t mean they would pay taxes on that giveaway.
So let’s say the house is really worth $ 200,000, and they only pay you $ 100,000 for it. This would be equivalent to giving you a gift of $ 100,000. Beginning in 2021, the annual exclusion, per person, for gifts to each recipient is $ 15,000. If your parents jointly own the house and sell it to your husband, then up to $ 30,000 could be excluded, meaning the total taxable amount would be $ 70,000.
If a parent sells a home to a child for less than its appraised value, the difference is considered a gift in the eyes of the IRS.
Even then, they would not need to pay taxes on this donation. Instead, they could count it against their $ 11.7 million lifetime exemption for gifts and estates, which is the amount anyone can pass on to others before gifts are taxed. Assuming your in-laws aren’t millionaires, you should be clear.
That said, you need to make sure you do the transaction by the book to avoid raising unnecessary red flags with the IRS. At the very least, hire a real estate lawyer to walk you through the necessary documents involved in a sale by owner situation. You should also consider hiring a real estate agent to do a so-called comparative market analysis, which would give you an idea of the home’s valuation.
Separately, you and your husband will need to consider your own potential financial liability if you buy the house, renovate it and then sell it. Even if you buy a house for your family, it is essentially no different than what domestic fins are doing across the country.
While shows on HGTV may make it seem like it’s foolproof, it’s really a gamble. From the time you buy the house until the time you are ready to sell it, the housing market could experience major upheavals. And suddenly you might have a hard time unloading the property and getting a return.
Interest rates are low now, so looking for a cash refinance to free up some money to buy the house is not a bad idea in and of itself. Keep in mind that refinancing isn’t free – you’ll have to pay closing costs for new loans, which can run into the thousands of dollars.
My biggest worry is whether you and your husband have enough cash on hand to cover the cost of any major repairs the house will need to make it salable. The last thing you would want to do is borrow even more money to complete the renovations and sell the house, as that will eat away at any possible return on your investment. Not to mention that you would be putting your own home in jeopardy if you fell into dire straits and found yourself unable to pay your monthly mortgage payments.
And let’s say you manage to make a profit at the end of it all, then you’ll be faced with a potentially huge tax bill. “Taxpayers who decide to take their chances in reversing a home and reselling a single-family home would likely be viewed as a broker rather than an investor,” Albert Allen, tax research analyst at the Tax Institute at H&R Block HRB ,
wrote in a blog post.
The tax rate for flipping houses could be between 25.3% and 52.3%.
For starters, since you won’t be holding the house for the long term, you will have to pay taxes on short-term capital gains (i.e. the profit from the sale). These are taxed at your normal tax rate. Additionally, since you are a “reseller” for tax purposes, you will have to pay double the Federal Insurance Contributions Act, or FICA, in taxes. In total, your tax rate could vary between 25.3% and 52.3%, according to We Lend LLC.
If you were to turn home conversion into a side business, you could avoid capital gains tax by investing the earned money in other investment property through what’s called a 1031 exchange. And you could take deductions for property taxes, cost of labor, cost of materials, etc.
However, returning homes is not for the faint of heart. Before you and your in-laws make any concrete decisions, I would hire a real estate appraiser or other real estate professional to appraise the property and give you a better idea of the costs involved in selling the house. You may find that you are better off selling the house as is to a professional and have your in-laws give you the product if they still want to do a kind gesture.