Inheriting a house, any way to make this work?

Question

My father passed away last October. He left his house to me, my brother and sister, equally. We decided to put it on the market, since co-renting it would be a hassle.

I've considered buying out my brother and sister's share and renting it, but dismissed the idea as I didn't think I could make the numbers work though without having to totally lowball them. The house is in decent condition in a low to middle income neighborhood. When I spoke with some property managers, they said it would rent for around $650-750/month.

It is on the market though for $65,000 and the agents we interviewed all said they thought it would sell for arounf $59-64K.

I've essentially got 33% "down" in it already because that's my inheritance. That being said, I'd probably have to do a cash deal now as I don't think i'd qualify for a mortgage now as I'm not employed (on purpose, financially I'm fine as I saved money so I could spend the last year with my Dad, who had cancer, and then I relocated). I own two rentals, but one I've just started renting and don't have a lease to show yet.

I'm fine with doing the cash deal if it makes sense, but here I don't know it would. I'm used to buying short sales, fixers or foreclosures, fixing them and then selling or renting. I think my brother and sister would take lower than market since we wouldn't really pay closing costs, etc and it would help to end probate, which we are waiting on.

The other option is to wait until it sells and invest in a different house, but the house is in Indiana, and right now I'm in Seattle and for 50-60K I'd probably be able to buy a hole in the ground!

John Mireles · Answer

Okay... so let's say your siblings own a share of the house. Now the roof needs to be repaired at a cost of $8,000. Where does that money come from? What if at some point you rehab the house and decide to resell it. Who gets the benefit of the added value? You've put in the work and the money, why should they get a percentage of the extra profit?

What I see so often is that properties held by estates such as you're planning just end up getting ground down into the dirt from deferred maintenance because none of the owners want to spend the money. There's no incentive there - either they're not interested in the property other than it's a money stream or their effort won't be properly rewarded.

If you go down this road, plan ahead otherwise there's going to be plenty of headache and possibly, given that you've got family involved, heartache.

Bill Gulley · Answer

Amie, first, I'm sorry to hear of your loss and hope you're doing well.

Since this is through an estate, it's a little different, all three of you take title and brother and sister sell thier 1/3 undivided interest with a warranty deed. If they will finance that, that would be best.

Your estate attorney I'd bet can do this for you. Here are some issues for all of you to address with your attorney;

1. I would have the property appraised or at least get a BPO to establish the market value, if that has not already been done by your attorney.

a. The valuation will establish a sale price for the interests sold. There may be events where your brother or sister may need to show this transaction being at arm's length and a note was made to finance the transaction.

b. Showing the valuation at market value and the cost will establish your depreciation.

2. The best way to finance it is with one deed of trust and one note. Since you have two others, doing a note and deed of trust to each means someone will get a second mortgage. One DOT puts them on equal footing.

a. People get divorced, die, become incapacitated, take bankruptcy, get sued as well as other events in life that can have an effect on thier position as a note holder, being in a first and second position can casue further problems, and in turn may cause a problem for you as well.

b. This is an equity financed obligation. In the event your brother or sister would ever have to have thier assets valued, the note will need to meet tests as to having been originated at arm's length since it is between related parties. The appraisal or BPO as well as the interests conveyed will establish the validity of the note.

c. As to the note, one note may be written with two principal parts, a principal part of the first part in the amount (of say) twenty thousand. The note is written to describe the principal amount, interest rate and payment required to each principal part. The same is done for the principal part of the second part. Then other note terms can be written as being applicable to both principal parts, for example, agreements to keep the property maintained in good condition.

d. Setting aside principal amounts to two note holders divides the total principal amount financed which is secured by the deed of trust. This also makes each note share more marketable in the event one party wanted to sell thier interest or payments under the note.

e. Having seperate principal amounts means that if one party desired a quicker payoff, for any reason, you could work out additional payments of principal to one party and not the other.

f. This split simplifies thier estate or any assignments they may do in the future if they elected to do so, like assigning the note to thier trust without encumbering the other parties interests.

g. Accounting for interest and principal reduction is accomplished with two amortizations, one to each holder. The application of payments is done on an equal basis with any odd amount being applied to either principal part. (This is necessary to disclose in the event of any loss proceeds for an insured loss or other settlement required)

3. Initially, you will have 33% equity in the property and that is more than sufficient for refinancing requirements after one year. To refinance both "partners" holding the note will agree to the payoff (as they would anyway with two seperate notes).

Since this is a small amount, about 20K to each, I'd suggest you fully amortize the loan over say 15 years, at 6% about 337 a month, with taxes and insurance, maintenance and vacancy you should get 100/150 per month, guessing, but probably. I'd suggest you offer a balloon payment in 5 to 7 years. You could do that sooner as you all may agree and one could be paid off before the other as well. Understand that your refinancing this property will likely need to be a cash out refinance as the principal owing will less than what most lenders have as thier minimum loan amounts. Probably rolling loan costs in the loan.

All of this depends on your family as well, if they will accept about $168 a month from you. You'll never know unless you ask.

If they are willing, I suggest you take the points I mentioned above to your attorney and consider the aspects I described. Good luck!

John Mireles · Answer

My suggestion is to just sell the house. Keep it simple. Avoid family entanglements. Then use the cash to find the best possible deal that you can. Once you have cash, you'll be in a much better position to get a deal that makes sense.

Nuhan Demirkan · Answer

Amie, have you thought about having your brother and sister hold a note for their share of the house. This would create a monthly income for both of them without you having to come up with the cash for the purchase. Offer them a decent interest rate, maybe a small down payment and take the rest of the payments out of the rent income. That way your tenant will purchase the house for you. Make sure to cash flow.

Jack Bobeck · Answer

Amie, you can also sell the note to a local REIA investor to get cash. Go to the local REIA and find investors who buy notes.

Who knows, you may have just built a new investment portfolio, buying and selling notes!

Amie D. · Answer

Just wanted to say thanks again to everyone who contributed to this thread. I wanted to update on the decision I made on it.

I considered that I would already have almost $17K in the house (due to having inherited part of it) and then give my sister and brother $5K down each on their portions. That would mean that I would have about $27K into the house, and then the notes I would owe above that to get to 50K.

I did some more research. One of my existing rentals is in a college town - no way I could get anything in a similar price range. However my other rental is in the SW Ohio area, where there is a selection of houses I could pick up and have rented for under $30K with a similar cash flow - but no other notes/mortgages. As well, I already have a management team in place there.

Around the area in which the inherited house sits, there are also less expensive houses that could provide similar cash flow, but I would have to set up another management company in that town and I don't think the area will come up in value as much, as it's a smaller town.

I considered other things to improve the cashflow on it, such as developing or renting out the oversized garage separately, but I don't think that would work.

So, while I don't think this would be a bad deal, and it is tempting because it would be fairly uncomplicated, since it would just basically involve a transfer of title and then renting it out, I think there are probably better deals to be had.

Nuhan Demirkan · Answer

Bill is correct. Private loans are rarely reported to credit agencies. I have several mortgages and they haven't lowered my credit rating. They will affect your debt to income (DTI) ratio and that may make it difficult to obtain a loan. If you acquire properties under an LLC make sure to keep up your paperwork with the government. And it does create more paperwork during tax time.

Bill Gulley · Answer

Private loans are not reported to credit agencies unless done by a loan servicer with consent of the note holder to do so. The agencies have no way of knowing what you owe your family members.

Your ability to get a future loan has no bearing on who holds the existing mortgage, other than showing it having been done at arm's length, as I outlined above. :)

Amie D. · Answer

Ok, I talked to a PM today that I had talked to back in November to verify rental values. He said $650-700, probably $700, due to the time of year (cold and snowy there now, not much rental activity). If this were May or June, $750 to possibly $800/mo. I am going to use the $700 number in my calculations. The $150 a month seemed close to what the tax and insurance would be.

Two more questions:

If I took these notes out, would they show on my credit report to affect my credit scores? The reason I ask is that there was another post in which the owner was acquiring properties under his own name rather than an LLC and it was lowering his credit due to the amount of debt. I own two other houses but one does not have a mortgage on it.

I am still considering it because even though things have worked in the past I do realize the risk of doing business with a family member. If I just bought it straight out from them, is it difficult to finance the cash back out at a later date?

THANKS for all the help!

Steven Hamilton II · Answer

Amie D.,

Of course the interest paid is an expense. You would deduct it just as normal.

-Steven

Inheriting a house, any way to make this work?

Inheriting a house, any way to make this work?

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