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‘The Big Move’ is a MarketWatch column looking at the ins and outs of real estate, from navigating the search for a new home to applying for a mortgage.
Dear Big Move,
My 30-year-old daughter and her partner live in a very high-cost housing market.
They are getting married soon, and they are funding retirement accounts. My daughter’s city government job actually has a 401(k) and a pension if she stays more than five years. They also have about $65,000 in liquid assets outside of retirement accounts.
But their market puts a housing purchase in a decent neighborhood out of reach.
My wife and I are in our early 60s, are retired and in good health. We have plenty of money to spare, two pensions and roughly $300,000 a year in passive income, plus high-quality health insurance provided by my former employer.
We have no debt other than a 30-year mortgage with a 2.75% interest rate, which I am reluctant to pay off, given that our money-market account (which has more than the mortgage balance) pays out nearly twice that.
A six-figure sum would trigger a gift tax for us. Is there a legal way for us to take an equity stake in a hypothetical dwelling with our daughter — valued at, say, $500,000 — so they can have a smaller mortgage and we retain our equity interest in their home?
We have a detailed estate plan and a fine attorney. It would come out of her share of our estate, which is about 95% liquid.
Our preference would be to not to co-sign a mortgage; but if any financial trouble arises for them, we would deal with it or not at our discretion.
Is this legal? Is it a dumb idea?
Well-Meaning Parents
Do you have a question about buying or selling a home? Do you want to know where your next move should be? Email Aarthi Swaminathan at TheBigMove@marketwatch.com.
Dear Parents,
Decide how much risk you want to take, because it’s not a simple decision.
You don’t want to co-sign a mortgage, which means you’re off the hook if they don’t pay their loan back, which is wise. But you still want to co-own a property with them through an equity stake, which is a big undertaking. We’ll get to that in a bit.
By giving them $500,000, you’re also shrinking how much money you have for your retirement. Even if you have all your finances in order with $300,000 in income a year, budget carefully to ensure you can cover any sudden and unexpected expenses.
“Work through some of the more extreme retirement scenarios to make sure you don’t need these assets to provide income. What if there is a long-term nursing-home stay, and early death of either you or your spouse?” said Matt Sotir, a financial professional with Equitable Advisors.
Consider if your other children — assuming you have other children — would find any such arrangement fair, or feel entitled to ask for the same amount of money if they are buying a house.
And finally, ask your daughter for her preference, as well as her partner’s opinion on whether they are fine accepting help from their in-laws. Would they be OK with accepting a “six-figure sum” regardless of what form it comes in? Some partners may find it difficult and feel overly indebted towards you.
Taking out an intra-family loan
Putting aside the potential drama that could ensue, here are two practical ideas for you to consider: Offer a loan to your daughter and her partner, or co-own the home with the couple.
Intra-family loans occur when you finance a home for your child or grandchild, which can save on estate taxes. It’s a formal loan, so stick to a repayment schedule, and charge her an interest rate, so that it’s strictly a loan and not a gift.
With an intra-family loan, follow the guidelines set by the Internal Revenue Service for the applicable federal rate, which is the minimum interest rate that must be charged on intra-family loans to avoid income tax or gift tax.
Talk to your financial adviser about how to properly document this loan and set up the arrangement with your daughter.
“A private mortgage can have flexible terms compared to a bank mortgage. This way, your daughter is responsible for all home costs, but also gets 100% of the home appreciation in the future,” Sotir explained. “You use your excess capital to help but receive a return on investments at the same time.”
Make sure you have a plan in place if she stops paying the mortgage. Sotir outlines other scenarios: What if they divorce and your daughter has to bear the brunt of the payments? What if the home experiences significant damage from natural disasters? Do you have the capacity to cover such an emergency? And more importantly, would you be willing to foreclose on the property?
Partial ownership or co-ownership
The other option, as you indicate, is partial or co-ownership. This could involve you giving your daughter that $500,000 to use towards buying the home with the mortgage.
At this point, you’re basically co-owning the home, but are not technically on the mortgage. Your name will be on the deed, but not on the mortgage. To pull this off, “be sure the mortgage company will agree to lending on the property with only one of the owners being on the mortgage,” Sotir said.
And draw up an agreement outlining who pays all the other costs — taxes, repairs, and so on.
As a parent, as well as renter in a high-cost real-estate market, I understand the desire to help your child afford a home, especially since you’re in a position to do so. You may feel like all the money you’ve accumulated throughout your life is meaningless, if not to help others like your dear daughter and her future spouse.
Just make sure that you have enough left over to fund any potential financial crises. Be 100% sure that you have enough money saved. That way, in the hopefully unlikely event that she loses the home, you can still afford to support yourself — and your daughter, if necessary.
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