Dad added my name to deed 4 years ago and passed away still living in the home.

[MrKake]

My dad added me and my brother to the deed on his house in 2018 so that we could manage the property in the event that he was unable to. He passed in November 2021 and was still living in the house at the time of his death. We sold the house this week. Is the house considered a gift or inheritance? What are the tax liabilities? I intend to pay off my own mortgage with the proceeds of the sale. Is there a penalty or benefit for doing so? 

[Mike9241]

sorry for your loss. when he added you two to the title a gift tax return probably should have been filed. assuming your dad added you and your brother to the title without restrictions and his share passed directly to you two then you and your brother each would need to report 50% of the sale on your 2022 returns. assuming FMV was greater than his tax basis on the date of the gift you and your brother each have a tax basis of 1/3 of his basis on the date of the gift + 1/6 of the FMV of the house on the date of his death. 

what if no gift tax return was filed or you don't know your dad's basis or you don't know if there were restrictions when he added you to the title - consult with an attorney

 I intend to pay off my own mortgage with the proceeds of the sale.  just make sure you retain enough in proceeds to pay the income taxes. you and your brother may want to meet with a tax advisor. the advisor can look at your returns and discuss your financial situation to give advice on paying off your mortgage.

[Hal_Al]

Q.  Is the house considered a gift or inheritance?

A.  Simple answer: inheritance.

The usual rule, for a gift, is that the recipient's basis is the giver's basis (what you father paid for it). But there is an exception for the gift of his home, where he retained the right to live there ("life estate"). "If you give away an asset and keep a life estate in that asset..... the cost basis of the house is "stepped-up" to the value of the house on date of death [IRC 2036]")

More info: http://www.law.cornell.edu/cfr/text/26/20.2036-1

A life estate does not have to be explicitly established in the deed. Your father probably had an "implied life estate." If so, that would give you the stepped up basis. There is case law on this.

Q.  I intend to pay off my own mortgage with the proceeds of the sale. Is there a penalty or benefit for doing so?

A. No. Paying off the mortgage is irrelevant, for tax purposes. It does not change the amount of the gain.

Considering expenses of sale, most people have a loss, on the sale of their parent's home. 

Q. Is that loss deductible?

A.  Yes, most likely. If the house was "investment property", and sat vacant between the time you inherited it and sold it, you can deduct the loss. If it was personal use property (you or your siblings lived in it), it is not. 

[Opus 17]

Be aware, both of the above answers assume that your father retained a life estate on the property.  With a life estate, even though you are considered a co-owner, you can’t sell or dispose of the property without the permission of the life estate holder as long as they are alive. That means that in the eyes of the IRS, you inherited the property when the previous owner died, even though you were technically a co-owner before that time.

However, if the deed says that you were given part of the home “in fee simple “then you were an equal owner of a share of the home and you had the legal right to sell your share of the home to someone else even if your father didn’t give permission. In that case, you did not inherit the house when he died, and your capital gains situation becomes much more complicated.   

Now, there is at least one expert on this forum who will point out that you may have an implied life estate based on the circumstances even if it wasn’t written down that way on the deed, and an implied life estate would mean that you inherited the entire house on the date of your father‘s death.  But it is maybe something that you will want to run past an attorney or tax expert in your area and have them review the language of the deed where your father transferred part ownership to you.  Most people are not audited, but if you are, the IRS may want to see the deed and you will have to support your argument that you inherited the house rather than being given an equal share 4 years previous.

[tagteam]

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@Opus 17 wrote:

With a life estate, even though you are considered a co-owner, you can’t sell or dispose of the property without the permission of the life estate holder as long as they are alive. 

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With a life estate, the remainder interest is freely alienable (for whomever wants to buy it or receive it as a gift); a remainderman does not need the permission of the life tenant.

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@Opus 17 wrote:

That means that in the eyes of the IRS, you inherited the property when the previous owner died, even though you were technically a co-owner before that time.

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A remainderman does not "inherit" the property when the life tenant dies; the interest passes to the remainderman by operation of law and is considered "acquired from a decedent" by the IRS.

[AmeliesUncle]

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@tagteam wrote:

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With a life estate, the remainder interest is freely alienable (for whomever wants to buy it or receive it as a gift); a remainderman does not need the permission of the life tenant.

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Are you sure?

This is definitely not my area of expertise, but I had thought that a Life Estate included that the person retained full control of the home, including the sole right to sell the property.  But I could be wrong.

[tagteam]

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@AmeliesUncle wrote:
Are you sure?

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Yes, I am sure; positive, in fact, since this was one of my areas of expertise. 

The buyer of a remainder interest, however, would take that interest subject to the life estate (which is one reason the interests, being future interests, are not very marketable and few are sold). Regardless, the person holding the remainder interest does not need the permission of the life tenant in order to sell the remainder.

[tagteam]

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@AmeliesUncle wrote:

This is definitely not my area of expertise, but I had thought that a Life Estate included that the person retained full control of the home, including the sole right to sell the property. 

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Further, the life tenant can sell the life estate to another party, but the actual life estate would be measured by the first life tenant (i.e., the life tenant who sold the interest).

That is known as a life estate pur autre vie and the life estate would terminate upon the death of the first life tenant. The life tenant typically does not need the permission of any remainderman to sell or transfer the life estate.

[AmeliesUncle]

Thanks.