You may feel like you have hit the jackpot; you have some real estate that you want to sell and that a family member or loved one can purchase. You get to cut out one or several of the “middlemen” and help out someone you care about while also selling some real estate. What could be better? This transaction has several appealing characteristics and some things to consider while preparing for the sale. We will discuss these in this article.
How Will the IRS View a Real Estate Sale to a Family Member?
You should always consult an experienced attorney that knows the tax laws of your county and state. The need for understanding tax laws becomes especially important with matters of real estate between families, as the IRS will pay close attention to transactions of this nature more so than real estate transactions between strangers.
Arm’s length transactions are what most real estate transactions can be labeled as. The parties typically don’t know one another, and in most cases, go through at least one realtor for the transaction. All parties involved are working towards obtaining the most financially appealing outcome for them.
In a non-arm’s length transaction, all parties involved have a shared financial interest and typically know each other. Due to the nature of these transactions, the IRS is much more interested in the details and will want to ensure that neither party involved is making the transaction to avoid paying taxes. What was once a strategy used in families to prevent gift or inheritance taxes is now structured differently by the IRS and may not be as appealing as it once was.
What is Gift Tax?
Depending on how the transaction is structured, you may need to consider what paying a gift tax may look like.
You can choose to sell the property at fair market value, or you can decide to make a gift of equity and sell the property below the value. If you choose to make a gift of equity, typically, anything over $15,000 is what you would be taxed on. Gift equity typically requires a legal document meaning there may be additional fees involved in going this route as well.
What if I Take a Loss by Selling Real Estate?
As mentioned, the IRS will look at any relative real estate transaction through a microscope.
Due to this, if you are taking a loss on the sale, you may not deduct the value of that loss from your taxes. Some may find this route more appealing as they can manipulate their overall taxes, so it is important to note that you may have to pay a gift tax on the difference.
For example, if you sell a property valued at $200,000 to your brother at $150,000, you may not deduct the $50,000 as a loss on your taxes.
Is the Process the Same?
In most cases, you can forego the inspection on real estate that you sold to a family member. Choosing to forego the inspection can save you a small fee. Including it may alleviate any questions or issues in the future, so it may still be something you choose to do to help the process be more streamlined.
However, you will still need to get an appraisal if the house is being financed. The buyer’s lender will need to ensure that the home’s value is enough to sustain the mortgage taken out for it.
Disadvantages to Selling Real Estate to a Family Member
If done well, and with the right assistance of a trusted lawyer, the process can be appealing to all parties involved. However, some disadvantages to consider are listed below.
- The relationship with the relative could be strained or damaged. If either party finds that during the sales process or after the house has sold, that there are issues, this could create strain within the relationship.
- You could place yourself under a microscope with the IRS, depending on how the transaction was documented and handled throughout.
- You may not make as much money as you would had you sold the property to a stranger.
- Due to the nature of the relationship, you may approach the sale too casually, leaving room for errors that could cause significant financial strain on either party moving forward.
Why is a Lawyer Important?
In many real estate transactions between family members, the option to forego a realtor is appealing. It can be crucial to invest in an experienced lawyer to help walk you through the process and ensure that you have followed the appropriate steps to appease the IRS. Essentially, investing in an experienced lawyer rather than a real estate agent, to help oversee the process and the transaction professionally.
They can also help with negotiations help to make sure you have all the paperwork and the entire process completed accurately. Legal, professional, and confidential guidance can be invaluable when setting up a family real estate transaction. They can also act as a buffer to navigate tough conversations between family members. Discussing a high level of money can make anyone uncomfortable, you can rely on them to help with this process and avoid emotions getting intertwined and potentially making the process stressful.
Contact our office today at (407) 426-7222 to learn more about how our office can best assist you and your family through the process. We look forward to serving you.