100% owner financing at 0% interest... is it possible??

Question

Hello BP!

There are (2) 4-unit buildings right in the middle of where I like to invest that are part of an estate sale.  This estate has liquidated several other larger multifamily buildings in places outside of my area and these are the last 2.  They are asking way too much money at $480k.  My initial offer was rejected, so after 2 weeks of trying to figure out a better approach, I simply came up with this:

$500,000

100% owner financing

0% interest, 30yr term

I pay all closing costs

Sellers cut buyer a check for $20k at closing

They are open to this and at these numbers, the cashflow is great at approx. $160 per door. However, they are saying the “the estate most likely wont accept this.”  I haven't responded, so i’m hoping to try and figure out a way to simplify this offer.  I'm aware of imputed interest, however that is taxed to the seller and not the borrower.

Any idea why the estate would care?

Thank you very much in advance!

As a side note, I will also will have to split the sales price somehow as I don’t want the tax basis to jump $100k on each building.

Linda Weygant · Answer

@Justin C. - When you say "...being taxed on a large chunk of money...", make sure you've got all the facts and circumstances correct.

If the owner died within the last 6 months, there really is no issue with capital gains taxes.  The heirs receive a stepped up basis as of date of death or an alternative valuation date of 6 months later.  So taxes are unlikely to be a concern since the heirs' basis and the selling price are usually very close to the same number.

However, if the owner died more than 6 months ago AND the property has appreciated considerably since then, then there may be a tax issue the heirs would want/need to negotiate around.

The Estate Tax only comes into play for very large estates and, if this estate is subject to that, then your $20,000 difference in asking price is negligible to the overall value and estate tax paid out.

So essentially, if you're counting on them really needing to do some tax planning on this, you might be barking up the wrong tree.

Mike H. · Answer

Here's the reason people are questioning it. They won't budge on their numbers of getting 480k. Yet they are going to take 500k over 30 years with 0% interest?  Your payment would be -- 1,388/mo....

Thats like getting it for 260k! If they were to sell it to someone else at 100% seller financing with 5% interest amortized over 30, their payment would be just about the same thing.

They can probably list it for 100k more (i.e. 360k) and offer to do 100% seller financing with 5% interest amort over 30 and I'd bet they'd have people lined up and down the block to do that.

So that is why noone with any reasonable financial understanding of loans/terms would ever accept that kind of offer. Not only would the estate tell you no, but they may even tell you not to contact them again as you're trying to rip them off. :-)

Tommy F. · Answer

@Justin C. Be sure to cleary document the purpose of the 0% interest contact is not for tax avoidance reasons. Below-Market loans fall under an IRS catchall provision for tax avoidance loans and other arrangements that have an effect on the tax liability of the seller or the buyer.  In the case of the 0% loan you specify in the original post, the seller of the property may very well be subject to imputed interest. If a deferred payment contract with the selling price greater than $3,000 does not contain a reasonable interest rate then the IRS will impute a reasonable interest rate. The imputed interest rate rules prevent sellers of capital assets from increasing the selling price to reflect the equivalent of unstated interest on deferred payments which converts ordinary "interest" income into long-term capital gains. For the most part, the buyer and seller must account for interest on an accrual basis. The accrual basis is required to assure the seller's interest income and the buyer's interest expense are reported in the same tax year.  Check with your tax adviser.  Good luck.

Richard C. · Answer

This is almost certainly incorrect.

It is really, really important that you recognize that the estate is a legal entity entirely separate from the eventual heirs.

It is the ESTATE that would receive the money, which would then be distributed to the heirs.

The "tax burden" and "long-term income stream" arguments that people often deploy when seeking owner financing will very seldom (never say never, but very seldom) apply when dealing with an estate.

It is extremely likely that the executor is going to be trying to convert everything to cash, as expeditiously as possible, so that that cash can be distribute to the heirs.

I agree with the other posters:  any owner finance offer is very unlikely to be accepted by an estate.  And a zero interest offer that involves cutting a check to the buyer at closing?  Forget about it.  Unless the executor is drunk that day, or you have pictures of him in a compromising position, it ain't gunna happen.

Justin C. · Answer

Well.. you didnt contribute in any way to my question, but I'll answer yours.  This is an estate.  There are 2 remaining children with families of their own.  By holding a note, instead of receiving and being taxed on  a large chunk of money, they spread out this tax burden throughout the duration of the term.  Additionally, it creates an income stream for them and their families.  They also get to say they got an "amazing" sale price while sitting around Christmas dinner table.

There are several reasons why someone would want to do this.

Brian Schmelzlen · Answer

Its possible that they are just saying that "the estate most likely wont accept this" because they want to leave themselves an opening to renegotiate or back out if they look at it closer and decide they don't like the deal.

Another possibility is that the executor of the estate might not like it because the executor is trying to distribute all of the assets out of the estate, and a note might be difficult to get out of the estate depending on the number of beneficiaries (someone will have to send the beneficiaries their share of the note payments every month, unless it is staying in the estate which means that the estate would stay open for 30 years- if they cannot move it over to a trust).

I also don't know why the estate would like a deal in which there is no interest being paid.  If they are willing to do that it is great for you, but I don't understand why they would.  I don't see the benefit to the estate, unless they know that they property is actually worth a lot less so they are viewing a portion of the purchase price as interest but structuring it to be taxed at capital gains rates over 30 years.

Aaron K. · Answer

I have no idea why anybody in their right mind would do owner financing for 0% interest, that makes no sense at all to me, there must be more to the story for them to even consider doing something like that.

Joe Splitrock · Answer

@Justin C. I would stay away from a 0% loan for the IRS implications. You walking away with a $20K (tax free) check at closing makes this even more of a red flag for the IRS. You said that you don't see risk to yourself, but what if the IRS put a tax lien on your property or worse yet a levy. Hire a lawyer and CPA with experience doing this type of transaction.

As far as why the estate would care, generally estates like to be settled within a reasonable period of time. For example in some states you have three years. Asking the estate to hold a 30 year loan doesn't seem practical.

Tom Gimer · Answer

The PR could simply transfer the subject property to the 2 heirs and then the terms being discussed (although odd) would work just fine.

If they've already liquidated all the other properties this may just be an attempt to wrap things up and be done with it.

100% owner financing at 0% interest... is it possible??

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