Paying Someone Outside of Closing - Cost Basis Question

[John C.]

Hello everyone,

I'd like your opinions on this one, accountant or non-accountant.

I am about to purchase a stalled construction site. The seller, let's call him Bob, previously received a $100,000 loan from his friend, Sally, in the form of a check from her home equity line of credit to help pay for renovations. These loan checks were written directly to Bob's personal name, and in the memo was the address of the property. The loan was never recorded on the property and is a private loan. 

Now I'm about to purchase this property. At closing, the seller, Bob, wants me to write a $100,000 check to Sally to pay off her home equity (She has proof of the $100,000 check she previously wrote to Bob). This $100,000 will not show up on the closing statement since it is an unrecorded lien. If I write a $100,000 check to Sally, will this be applied to my cost basis for the purchase of the property? 

[Linda Weygant]

So let me make sure I understand...

The title work shows that you're buying the property for $175,000 and at closing, Bob gets $75,000 and Sally gets $100,000?  If so, then your basis is $175,000.

or

The title work shows that you're buying the property for $75,000 and at closing Bob gets $75,000 and then he wants you to write a separate check on the side to Sally for $100,000?  This is a bit trickier and I would think it would be tough to prove that extra $100,000 of basis since you really didn't get anything for it.  You already got clear title for $75,000.  The $100,000 is you paying off a loan for Bob and really has nothing to do with the house at that point.

Even if Sally has not recorded her lien, you (or Bob, actually) can still direct the title company to pay her $100,000 at closing, so long as that money would have normally gone to Bob in the regular course of events.  I would recommend handling it that way in order to keep things clear.