Our goal is to get them into a new house without a new mortgage payment. Their social security and pension income is enough to keep up the house: property taxes, insurance, utilities, maintenance, and HOA fee, but not enough for additional housing payments, i.e. principal, interest, or rent.
My sister and I are willing and able to put in some money to make this happen. One obvious way to do this is just to gift them the money. However, I understand it's generally not good practice to move money/assets upstream, i.e. to older generations. And I think my sister and I would like some guarantee that we'd eventually get our contribution to the house back.
Let me put some rough numbers to it:
- proceeds from my selling parents current house = $180K
- cost of a house near my sister = $360K
Here are two options that we're considering.
Option 1
- My sister and I loan $120K to my parents, and they buy the house only in their names. It's an "official" loan, at the applicable federal rate and with a mortgage / lien on the house. The term of the loan would be say 30 years, and they would not have to make any principal or interest payments until the end of the loan or until the house is sold. This would achieve our goal of not burdening them with extra housing payments for principal and interest.
- I'm not completely sure whether this arrangement (the deferred interest and principal) would pass muster with the IRS (so that my sister and I don't have to report imputed interest income and pay tax on it).
- However, assuming it does work, this is probably the most straightforward option, preserving our capital, and the tax consequences are pretty clear. After my parents die, the house would pass to me and my sister at a step up in basis. Or if the house is sold earlier, all the capital gain is tax free to my parents since it was their principal residence. One downside is that the eventual interest payment does effectively take some of my parents money that my sister and I would have inherited tax-free and turn it in to taxable income.
- My sister and I put in $60K of cash each, my parents contribution is $240K ($180K from selling their current house plus $60K from cash) and we pay cash for the house. The house is owned by all four of us, probably as Joint Tenants with Right of Survivorship (JTWROS).
- This has the advantage of making our ownership interest in the house clear, and as JTWROS there is the added benefit of avoiding probate when one/both of my parents pass.
- The tax consequences of this arrangement are a little more complicated though. In the state where my sister lives, joint tenants own equal shares of the property. At purchase, since my sister and I put in $60K each but received a 25% share of a $360K house (i.e. $90K), this would be a $30K gift to each of us, but that's within the annual gift exclusion ($15K from each parent). Ultimately (after our parents pass), my sister and I would each own 50%, but 25% of that is at our original basis, and the other 25% is at a stepped up basis (maybe 12.5% at a stepped up basis at the time of the first parent to pass and the other 12.5% at the time of the second parent to pass). Bottom line is that my sister and I will owe some tax on any capital gain.
- We're aware that a disadvantage of joint ownership is that it could expose the house to my or my sister's creditors. However, we are both well enough off that it seems unlikely that we'll have creditors coming after our assets. And even if so, I think one of us could buy out the ownership of the other if it came to that.
For what reasons should we pick one option over the other?
Thanks in advance for your advice.
P.S. Here's a situation that is close to ours but doesn't have the constraint on not making the parents pay for principal/interest or rent:
viewtopic.php?t=246936
To preemptively address some of the suggestions there:
- The homes we are looking at are the cheapest homes within a 10-15 minute drive of my sister. While it's possible to find something cheaper say a 30-60 minute drive away, we all think it's worth it to have them near my sister since they are starting to need occasional help around the house.
- The suggestion of using a LLC was interesting, but I'm not sure it offers any advantages to us worth the cost/trouble of setting it up. Also not sure if an LLC is allowed to own a home in this 55+ community.
- Using a Family Limited Partnership or other trust to own the house -- since my parent's estate is well below the estate tax exemption, we don't need a trust for avoiding estate taxes. While a trust might be nice for avoiding probate, we can achieve that via joint ownership, so not sure it's worth the several thousand dollars to create a trust. Also, I think it's likely/possible that after one parent passes, the other parent might move to a condo.