Q. We needed to move just when the housing market crashed so we have been renting our old home in Connecticut for several years and we finally sold it for a decent price. After taxes and realtor fees, we should have a little over $200,000. We think we know what we should do with the bulk of this money but we’d like your opinion. We need a new car so that will take care of $30,000, remodel a bathroom for $10,000 and put down a $10,000 deposit to get on a waiting list for a continuing care retirement community. That leaves us with enough to pay off our mortgage which is fixed at 3.25 percent. Our son is currently living in an apartment and the plan is for him to move into our current home when we move into the CCRC. He wants to buy it from us but he can’t qualify for a mortgage right now because his credit isn’t very good due to a recent divorce. We’ve thought about giving him the home and letting him pay us back when he can. Another thought we had was to loan him the money needed to buy the house at a low interest rate or even zero interest. If we can’t do this, could we just let him take over our mortgage or should we just co-sign a loan with him so he can get a low interest rate mortgage based on our credit scores?
A. Sounds like you have fine plans for the first $50,000. Before you pay off your mortgage and enter into any agreement with your son you should consult with a lawyer and/or tax preparer. The following are some thoughts for you two discuss prior to your consultation.
If you gift the house to him you will need to file a gift tax return. Amounts gifted in excess of the gift tax exclusion limit need to be reported to the IRS. In 2016 a person can gift $14,000 to any other person without gift tax or any consequences from the IRS. A married couple could gift $28,000 in one year to the same person without any IRS scrutiny.
I would not co-sign a loan. By co-signing you take on all of the risk with very little up-side. Should your son default on the loan the lender will sue you first. Chances of getting the money from the co-signer with the better credit rating are much better than the one with the lower rating. One missed or late payment will impact your credit score. Monitoring payments and learning of missed or late payments can easily result in a strained relationship between you and your son.
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If you want to help him out, you’d be better off being his lender. At least this way you’ll be the first to know if he misses a payment. Hopefully it won’t come to this but if needed, you will be first in line to take possession of the house and your credit will not be in jeopardy. The IRS has established minimum interest rates called applicable federal rates, (AFR) which must be charged on loans to related parties. For June 2016, the annualized rate for loans over 9 years is 2.24 percent. If you enter into an agreement this month, this is the minimum interest rate you can charge. The interest income will be taxable to you and deductible for your son. The loan agreement must provide that in case of default, the home will satisfy the debt. The agreement must also be recorded or perfected under state and local law. If you decide to pursue this, you may want to hire a firm that specializes in intra-family mortgages.
Holly Nicholson is a certified financial planner in Raleigh. She cannot answer every question. Reach her at askholly.com or P.O. Box 97128, Raleigh, NC 27624