Should I buy my parents house?

Question

Need advice.  Here's the scenario..... My elderly parents want to stay in their home as long as possible.  They are struggling to make ends meet from month to month because they owe $250,000 on their house and have a 6.7% interest rate from many years ago. This is a $2100 a month payment.  Market value of the home is $650,000. They have four children but I am the only one in a position to give them the money to pay off the house. I want to give them enough money to pay off the house, then earn interest on the money I loaned them to be paid back when the house is sold. I think they could transfer the deed into my name and my siblings names after it's paid off so we won't have to pay any taxes after they die. Also, they pay very little property taxes now so I think if we do it this way, we can keep the property taxes the same without a reassessment because of prop 58. After I am paid back my loan and interest, then the profit would be split equally among all of us.  What would be a fair amount of interest to charge?  Any thoughts on this? Is this a good idea for me to consider?

Chris Mason · Answer

Hi @Ashley S.

Two options that I'll let you know about that you might not have thought of, assuming there is equity:

• Rate and term refinance into your name. What you just posted is doable, but even though you aren't on title yet you could also do a rate/term refinance, without them on the mortgage at all. They could remain on title, or not, at the end of it (optional: Fannie Mae will loan to revocable living trusts, so you could knock out two birds with one stone here). You could certainly continue to allow your parents to live there, and because you are providing housing for mom/dad we can set it up so you get an owner occupant interest rate. Cash to close, less than a grand. This is how we'd set it up if your parents just wanted out, without netting any proceeds. Rate/term refinances generally have lower closing costs than purchase mortgages, and can all be financed assuming there is sufficient equity in the deal.
• Gift of equity + seller credit for closing costs. This time it would be structured as a home sale, with a purchase contract. More equity required for this one to work. Cash to close, about a grand. This is how we'd set it up if you and your parents have some number they'd like to net at the end. We start with that number (instead of starting with a sales price), and "back into" the purchase price (must be supportable by an appraisal), loan amount, gift of equity, etc, that yields that net proceeds number for your parents. Real estate agent minds always blow up here when I ask them "what's the most this place could plausibly appraise for?" and tell them to stop thinking about purchase price, and let me work that up -- "WHAT DO YOU MEAN STOP THINKING OF PURCHASE PRICE WHAT IS THIS WITCHCRAFT YOU ARE DOING HERE WHAT DO YOU MEAN FOCUS ON THE NET NUMBER TO MOM AND DAD BLEEP BLOOP ERROR ERROR DOES NOT COMPUTE."

Either way, you should also be able to take advantage of a provision of Prop 13 that allows parent/child transfers to be excluded from getting a new property tax assessment (eg, you should be able to inherit your parents' property tax basis for the purposes of prop taxes).

Both made possible because this is your parents' home, so the rest of you REI calm down and stop jumping up and down with excitement. It turns out that Fannie Mae smiles on sweetheart kids/parents deals.

Hey "almost a CPA" @Michael Koncaba, can you think of any differential tax consequences between the two above options?

Thomas S. · Answer

They could easily take out a HELOC on the property for 250K and pay off the mortgage. The interest rate would be lower but the real benefit is they would only need to pay the interest, not the principal amount. Combined they could probably cut their monthly costs to less than half what they are now paying.

Michael Koncaba · Answer

Oh and its an option for them to refi at today's much lower rates. Don't cash out refi just refinance the current amount due. This would lower their payment significantly and you could keep your money for more investments. The downside would be it drags the loan back out 15-30 years whatever you choose.

Anthony G · Answer

@Ashley S.  Something else to consider is if you pay off the mortgage for them and they gift you the house, are you responsible for paying capital gains taxes when the property is sold?

Rick H. · Answer

If you transfer title now, that is a taxable event.

If you were to do early gifting, you may be able to engineer and prudent plan. This is where CFP and CPA fees can make or save you money.

You have a number of objectives here. It sounds like the primary objective is to reduce the financial burden on parents now so that they can live comfortably in the house in their later years. So, focus on that first.

If you can do a R&T refi as @Chris Mason suggests, focus on low payments not interest rate. Yes, each parent can progressively gift property to you. However, there are four (4) heirs, not one so the secondary issue of post-death distribution is now complicated by your primary action.

If you made a loan from your pension, for example, you could manipulate the payments such that the interest accrues at 5-10% with no installments.

As to reverse mortgages, many folks never get the full benefit as they either oasis away prior or require relocation sooner than anticipated. I happen to be the owner of The Suburbsn Group trust and estate mortgage bankers and suggest that you want to avoid the expense of borrowing after transferring into any estate planning device like a trust because the loans are pricey.

Suggest you contact your local Estate Planning Council and ask for a few CFP referrals. I think there is a great association in La Jolla or Carlsbad area.

Ashley S. · Answer

My new scenario now I'm considering is just helping them refinance ( I would cosign).  Keep the house in their name so we can keep our money, then all the kids just give them money each month if they need it.  Kind of like our own reverse mortgage.  We will be repaid after they pass away and the house is sold.  With this scenario the taxes stay low but since it's in their name, I think we would need some sort of trust to avoid all the probate and death taxes?

Ashley S. · Answer

Thank you so much for all of your wisdom, I love being able to get advice from smart people!

Wayne Brooks · Answer

Simplest and cleanest, without any potential sibling issues, would be to simply lend them the money, pay off the mtg, leave title as is, do the normal trust or probate process when applicable.  As for an interest rate, that's a personal decision, 3% or so would be the best they could get in the market, interest only.

Michael Koncaba · Answer

As a (almost) CPA I have an interesting angle for this. They could give you the house as a gift while they are alive. Depending on the size of their estate when they pass, they will have a lifetime exclusion that will be much more than the market value of the house and they would not have to pay gift taxes on the home. The only problem is that uncle same gets his money from someone, so you would pay more in taxes upon sale of the home in the future due to inheriting their basis in the home. The other option is to let them pass it to you upon their death. You would get the stepped up basis and a much smaller taxable gain when you sell the home. No estate tax would apply unless their total estate is about $5.5 MM. At least at the current laws. This is probably the best tax scenario for everyone unless they have a large estate.  But definitely consult another licensed experienced CPA in your area about these issues. As for paying their mortgage of course that's a personal choice. I would help then pay it off if I had the money and I could have it once they're gone. PS Sorry if any if that sounded cold. Good luck with your investing and finance decisions. -Michael Koncaba

Ashley S. · Answer

Didn't think about Capital Gains, Anthony. This is why I posted to get some feedback. Thank you.  It is possible that we would keep the property as a family home.  David, I'm scared to death of reverse mortgages. It seems like most of the equity will be taken up in fees.  Also, we predict that this house will continue to appreciate in value over the years.  Any idea on a fair interest rate?  One thing that is very important to me is maintaining a good relationship with my siblings.  I don't want anyone to think I'm cheating them out of their profit.

Should I buy my parents house?

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