Any tax implication for non-arm length real estate sales?

[april4mar]

Hi Community,

How are you?  A question.

My daughter wants to sell me her primary home for $600,000 in cash while her property value worth $850,000.   She sells me a low price because she knows that's all I can afford in cash.   She has no desire to sell it to anyone else because she wants her kids live near her grandma (i.e. me).

Anyhow, my daughter will use a portion of the $600,000 to pay down her current mortgage first, then take the remainder plus her own saving to buy a larger house (worth $1.3M) next door to suit her family needs.  

Is there any tax implication on both sides we need to be aware of or concerned? 

I look forward to hearing your advice and the knowledge very much.

Thank you.

[Mike9241 · Accepted solution]

she'll have to file a gift tax return because she gifting you 1/4 million but there it's unlikely she'll have to pay a gift tax since the lifetime exclusion is in excess of $12 million.

your basis for determining gain or loss if you sell.

Where a transfer of property is in part a sale and in part a gift, the unadjusted basis of the property in your hands is the sum of -

(1) Whichever of the following is the greater:

(i) The amount paid by you for the property, or

(ii) her adjusted basis for the property at the time of the transfer, and

(2) The amount of increase, if any, in basis for gift tax paid (see § 1.1015-5).

For determining loss, the unadjusted basis of the property in your hands shall not be greater than the fair market value of the property at the time of such transfer

she has to report the sale on her tax return following these rules see example

Where a transfer of property is in part a sale and in part a gift, she has a gain to the extent that the amount realized by her exceeds her adjusted basis in the property. However, no loss is deductible on such a transfer if the amount realized is less than the adjusted basis. 

Example 
She transfers property to you for $600,000. assume her basis in the property is $400,000 (and a fair market value of $850,000). her gain is $200,000, the excess of $600,000, the amount realized, over her basis of $400,000. she has made a gift of $250,000, the excess of $850,000, the fair market value, over the amount realized, $600,000. 

if a gain, she will qualify for the home sale exclusion of $250,000 if she owned and occupied the house for any 2 out of up to 5 years before transfer.  

better check with the mortgage company because most mortgages have a due-on-sale clause which means she'll have to pay off the full mortgage.  but it is up to the company. 

while this can be done without a real estate attorney, the use of one is advisable so there are no surprises down the road, 

[april4mar]

Mike0241.  Thank you so much.  I marked as the best answer.  Please correct me below to make sure if I understand you fully.    

Here is more real data:

Her adjusted basis for the property is $615,000 ($565K purchase price in 2016 plus home improvement I estimated about $50K).  She lives there since 2016.  Her mortgage is $375,000.  

The amount paid by me for the property will be $600,000 in 2023.  She will pay off the mortgage of 375,000..

1.  So there would no gain for her and she can't claim loss either if I understand you correctly.

2.  When you mentioned she'll have to file a gift tax return, is it part of 1040 tax return or a separate gift tax return in addition to 1040 return?  Because of lifetime gift tax exclusion, it will not incur tax for her as I understand you.

3.  My unadjusted basis for determining gain or loss if I sell in the future should be $615,000 in this case, correct?  

4.  I actually don't understand the paragraph:  The amount of increase, if any, in basis for gift tax paid (see § 1.1015-5).  Does this apply to my case since no gift tax paid?  I thought not, so I didn't add to my unadjusted basis.

Thank you for your advice for a real estate attorney.  Should we need a tax account also or more so?  Or real estate attorney will cover all?   

Thank you for your patience with me.  I look forward to hearing from you again.

[Mike9241]

1.  So there would no gain for her and she can't claim loss either if I understand you correctly.

correct. 

2.  When you mentioned she'll have to file a gift tax return, is it part of 1040 tax return or a separate gift tax return in addition to 1040 return?  Because of lifetime gift tax exclusion, it will not incur tax for her as I understand you.

That's a separate return (form 709) that Turbotax does not do. I assume she still has most if not all of her lifetime exclusion. it only gets used in years where gifts to a person exceeds the annual exclusion. she would have had to file gift tax returns for those years. 

https://www.irs.gov/site-index-search?search=709&field_pup_historical_1=1&field_pup_historical=1 

3.  My unadjusted basis for determining gain or loss if I sell in the future should be $615,000 in this case, correct?  

correct  IRS reg 1.1015-4 and reg 1.1001-1(e)

4.  I actually don't understand the paragraph:  The amount of increase, if any, in basis for gift tax paid (see § 1.1015-5).  Does this apply to my case since no gift tax paid?  I thought not, so I didn't add to my unadjusted basis.

it's unlikely any gift tax will be paid so that number would be zero. where there is a gift tax it adds to basis but can't increase it above the fair value

[april4mar]

Hi, Mike9241, how are you?

My daughter hasn't used any lifetime gift tax exemption of $12.06M yet.

If I only pay $250K for her & her husband's $850K home.  Then they are gifting me $600K.   Is there a problem to gift that much?  Is there a gift limit for a property?   I assume the same gift tax rule applies, correct?   

That is that they must file a gift tax return (form 709) and subtract $600K from the lifetime gift tax exemption of $12.06M/$24.12M.  Basically, they are reporting the gift amount and subtracting it from lifetime exemption accordingly.  Am I right?

I look forward to hearing from you to validate my thought.

Thanks so much.

[Mike9241]

1) correct

2) Turbotax does not include the gift tax return.  

the scenario you describe would be eligible for the annual exclusion but will also use part of her lifetime exclusion. unless she used up or will use up her lifetime exclusion there will be no gift tax.

other scenarios such as gifts of future interest, generation skipping transfers and others would require filing and could actually result in a gift tax or what is referred to as a generation skipping tax. 

the link includes the instructions should you desire to read it. 

https://www.irs.gov/forms-pubs/about-form-709 

Generally, you must file Form 709 no earlier than January 1, but not later than April 15, of the year after the gift was made. However, in instances when April 15 falls on a Saturday, Sunday, or legal holiday, Form 709 will be due on the next business day.  There are two methods of extending the time to file the gift tax return. Neither method extends the time to pay the gift or GST taxes. 1)  By extending the time to file your income tax return. Any extension of time granted for filing your calendar year 2022 federal income tax return will also
automatically extend the time to file your 2022 federal gift tax return.  2) By filing Form 8892.

3) as of now assuming Fair Market Value at the time of the gift is higher than her tax basis yes. the gain would always be taxable but loss depends on the use of the property. if used as your residence, then any loss on sale is not deductible. tax laws constantly change so if you were to sell in 20 years who knows what the laws would be.  there is also a complication in the tax laws if FMV is less than her tax basis as of the date of the gift. I will omit discussing this. 

4) yes and no since there is unlikely to be a gift tax there would be no gift tax to add. 

[Mike9241]

I'm fine hope you are too.

the amount of a gift is not limited by law if you were as rich as Mr Musk you could give a person a billion $. 

for gifts of present interest, that are not  a transfer of property by gift to a beneficiary who is at least 37½ years younger than the donor, a gift tax return is required if the gift or gifts to any one person in one calendar year is over the annual exclusion  - $16,000 for 2022

the annual exclusion applies before eating into the lifetime exclusion

 a split-gift preserves more of the lifetime exclusion for her and her husband - assuming he consents

  https://www.irs.gov/pub/irs-pdf/i709.pdf 

read page 6 for split gifts.  i really can't provide more info about split gifts than what is in the instructions.

[Anonymous_]

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@april4mar wrote:

Thank you for your advice for a real estate attorney.  Should we need a tax account also or more so?  

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At the prices you stated in your original post (and the other stated facts), you really do need to consult with an estate planning attorney.

See https://www.avvo.com/estate-planning-lawyer.html