Purchase House From Family Member

[Nghi Le]

I never thought I'd buy an investment property in Seattle due to the crazy market, crazy laws, and the 0.5% rule (or less) here, but a deal kind of fell into my lap this week.  I'm a newbie when it comes to rentals, but pretty familiar with the fix-n-flip world.  I have talked to a loan officer, escrow/title agent, and CPA about some of this, but wanted to hear from the collective genius of BP.

My brother-in-law wants to sell a property that he doesn't like (personal reasons) and he also wants some cash (needs $100k) to buy a house for his growing family.  He acquired it as a gift (sale price = $50k) from his mom a decade ago and it's free and clear.  Right now it's worth about $300k and currently has tenants living in there (another family member of ours), and they know that they'll need to leave soon because of the sale.  Market rent is about $2,200 right now, and could go as high as $3,000 if I added some sparkle (or an additional bedroom).

My wife and I wants to buy it from him, but we're trying to figure out the best way to do it to reduce taxes (property / assessment, income, excise) and puts us all in a better financial situation (short-term and long-term).

If they were to sell it on the open market for $300k, they'd incur 10% selling costs (closing costs, realtor commissions, excise tax) of $30k and get $270k in cash before taxes.  I'm not familiar with the cap gains tax and how basis is calculated for rentals, but my thought is that it would be ($270k - $50k) * 15% = $33k.  So then he'd net $300k - $30k - $33k = $237k in cash from the sale.  Our plan is buy it from him in several ways:

1)  A regular purchase of $270k.  We don't have the down payment for this, so we're wondering if the bank would let him seller-finance the down payment amount.  Doesn't have to be a conventional bank (and we can refinance later to get into a conventional loan and pay back the note).

2)  Have him "gift" it to us and have a Promissory Note on the side (so no lien on the house) for $237k.  Then I'd refinance six months later to cash out and pay off the note (or at least $100k of it).  I don't know if there's an income or transfer tax exemption on gift from family (brother to sister), or how this is going to affect my financials / tax burden later on.  I know I'd look pretty darn awesome to a lender though having a free and clear house with some nice cash flow :-)

3)  Have him seller finance $270k to us, and then we do a rate-and-term refinance on Day 1 to get him money as soon as possible.

What are your thoughts on my options, and are there some other routes you'd recommend?