Indeed, many owners elect to gift or partially gift their homes to their children now, for many reasons, including current favorable gift tax allowances / exemptions.
Watch our video here; scroll down for the complete article…
Hand-and-hand with this question is an understanding of the current gift tax allowances and exemptions, which are higher than ever for 2023. Read our full article on gift and inheritance tax exemptions here.
Can I gift my house, Can I sell it below market value, Can I Sell My House For $1 dollar, and what are the tax implications of selling a house below market value???
Yes, you can sell your home below fair market value, legally, and likely with no tax implications beyond a gift reporting (if under the exemption amounts).
Quit simply, the difference between the fair market value and the sales price is a gift. Easy.
Frequently, a sale below fair market value can be easily (and legally) achieved to assist the child and/or allow ease of obtaining a new loan using a “gift of equity” to avoid any down payment.
(What is a gift of equity: A gift of equity is a remarkably easy way to allow your child to obtain a traditional loan without any down payment. Simply put, instead of a typical downpayment (often 20%), you are “gifting” that amount of the house to the child – thus, in the bank/lender’s eyes, it’s the same as a down payment, since the bank/lender is only lending, for example, 80% of the value of the home, they do not care if the 20% comes from a traditional down payment or a gift of actual cash from the parent, or a “gift of equity”. All banks/lenders can do this, but you might have to get someone with a little more experience that understands the concept. If your bank/lender doesn’t understand or know the concept, simply ask to speak to someone more seasoned.)
Example 1) A home valued at $5mm is sold to a child for $1.5mm. The difference, $3.5mm, is a gift from the parent to the child. Since $3.5mm is well below the current exemption amounts, there is no tax due (but must be reported). Note – the remainder of the sale must also be reported and may have tax consequences.
Example 2) A home valued at $1mm is sold to a child for $400,000, then the difference, $600,000, is a gift from the parent to the child. Since $600,000 is well below the current exemption amounts, there is no tax due (but must be reported). Note – the remainder of the sale must also be reported and may have tax consequences.
Example 3) A home valued at $500,000 is sold to a child for $300,000, then the difference, $200,000, is a gift from the parent to the child. Since $200,000 is well below the current exemption amounts, there is no tax due (but must be reported). Note – the remainder of the sale must also be reported and may have tax consequences.
Gift of Equity Example 1): A home valued at $5mm is sold to a child for $5mm, but using a $1mm “gift of equity” – then the gift of equity, $1mm, is a gift from the parent to the child. Since $1mm is well below the current exemption amounts, there is no tax due on the gift (but must be reported). Note – the remainder of the sale must also be reported and may have tax consequences.
Gift of Equity Example 2): A home valued at $1mm is sold to a child for $1mm, but using a $200,000 “gift of equity” – then the gift of equity, $200,000, is a gift from the parent to the child. Since $200,000 is well below the current exemption amounts, there is no tax due (but must be reported). Note – the remainder of the sale must also be reported and may have tax consequences.
This strategy can also be used to avoid capital gains on the sale of the home. For example, if the parents purchased the home for $100,000, and it is now worth $3mm, there would be a substantial capital gains exposure on the sale of that home. However, if the parents sold the home to their child for $600,000, there would be no capital gains whatsoever (presuming they lived in the home and owned the home for the prior two years, they can deduct the IRS 121 applicable $500,000 from the profits and report the remainder as a gift). See our article on capital gains and the IRS Section 121 exclusion here for more details.
It is worth a discussion however as to the potential impact on the property taxes. Due to California’s new(er) Proposition 19, the property taxes for the new owner (i.e. the child) are likely to go up absent compliance with the new Prop 19 tests. We have in-depth articles and videos on Proposition 19 throughout our website and blog.
– Devin Lucas
Author Devin R. Lucas is a Real Estate Attorney, Broker and REALTOR®, specializing in Newport Beach, Costa Mesa and Orange County coastal communities, serving individual and investors in residential real estate.
Lucas Real Estate – Attorney Devin Lucas and CPA Courtney Lucas – are experts in residential real estate transactions, tax considerations, Trustee representation, family sales, and California’s Proposition 19.
Questions? – Paid one-hour confidential legal consultations are conducted daily via Zoom and address virtually all questions, options, tax implications and strategies. (Book a consultation here.)
SOURCES:
https://www.irs.gov/businesses/small-businesses-self-employed/whats-new-estate-and-gift-tax
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