pronker Asked April 2019
Sale of home to child and then lease it back. Anyone have experience with this?
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I would be interested to know if you've heard of a sale to a child of a mortgage-burdened home of the parents. In this cozy arrangement, parents sell property to an adult child or to a specially designed trust for the long-term benefit of the younger generation and then lease the property back.
The parents get:
Tax-free cash or out from under the mortgage.
A place to live.
The purchasers get rental income that, for tax purposes, is generally offset by related business expenses.
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I use to be a landlord, so I know the pros and cons of having investment property. I think there would be emotional issues involved renting back to one's parents that could become difficult over time. Would the adult child be able to pay the mortgage if the parents for some reason cannot pay the rent?
Legally, there's nothing wrong with the plan to sell to then lease back from a relative (at fair market value of course.) However, from experience, my own personal rule now is to never do business with family or friends. Many things can go wrong that can cause problems and possibly a drift in the relationship that once was good.
In the case above, what if the parents still think it's their house and do whatever they want to it such as not taking care of the house? What can their child now turned their landlord say to them?
What if the parents forget to pay rent or pay rent late? Their child will be hard pressed to give them a 3 day notice to pay or quit.
What if there's a plumbing problem caused by the parents? Who will pay?
Too many what ifs.
With strangers, once you sell the house, you're done.
With strangers, if you don't like the rental, you can move, no hard feeling.
With strangers, if you don't like a problem tenant, you can give a 30 day notice, or evict if the tenant won't move.
Can't do any of those easily to family without damaging the relationship.
But in some cases, things work out just fine. For me, I'd stay away from such arrangement.
Not in my family, I wouldn’t but it’s your decision and I would put specific clauses in writing. Get some kind of document signed in case you have to take them to court.
Topic Number 701 - Sale of Your Home
If you have a capital gain from the sale of your main home, you may qualify to exclude up to $250,000 of that gain from your income, or up to $500,000 of that gain if you file a joint return with your spouse.
Here is the link to read more about it.
https://www.irs.gov/taxtopics/tc701
Pronker, the parents if filed joint return will not have to pay tax on the first $500,000 in gain.
As mollymouse said, as long as the sale price and rental cost are at fair market value, there should not be any problem. It's the same as if they sell the house to a stranger and then rent from another stranger, except in this case, they sell and then rent back the same house from the same buyer/landlord.
My son bought my mom’s home at full market value. He allowed her to continue living in the home, but she had to pay him rent to continue living there. She used the cash to pay her caregivers. The elder care attorney said it was a great plan, as long as the sale was full market value & rent was market value.
Tax free cash only applies if you are living in a country with a capital gains exemption on a principal residence.
I see many red flags, but the one from family experience says do not do this. Co-mingling assets cash, property etc is not a good idea.
Aunt R lost her home when her son and his wife got divorced. The house had to be sold to divide the family assets.