renting to a child

[Ed_The_Gypsy]

We are considering helping DD buy a house in Tucson where she now works in a stable teaching job. Her rent is going to jump shortly and she wil have to move unless we give her some help. There are some credit problems stemming from a failed marriage and we are considering gifting about 30% of the cost to her. We cannot have any agreement that she pay us back but she has offered to give us 30% of the sale when she does sell it.

We don't have a lot in our retirement funds but we do have some cash from a very lucrative foreign assignment this year.

I am wondering if it would be better for us to simply buy the house ourselves and rent it to her at roughly market rates. It would benefit her in that it would be cheaper than her coming raised rent and it we would have no need to raise the rent ever. We would retain control of our capital and have a place to stay when we visit her. Because of her situation and our situation, we could close the deal a lot faster if we bought it outright. It might be the only way to get a house for her as well. She is in the process of trying to qualify to buy.

We could conceivably buy a slightly bigger, more re-saleable house than she could buy. We could camp there in the winter to get away from the cold and rain.

I am wondering if this can be considered a business or an investment? Could we deduct trips twice a year to monitor the property? I am planning to open a small, unrelated business anyway. Would it be better to buy the house through the business? I imagine that as a proper business, we could report a good payment record to the credit bureaus and help her damaged credit.

I know retirement funds cannot be used this way. This would be purchased by cash and use of our now-paid-off HELOC. We could pay off the loan when we sell our house to downsize in a couple of years.

I do not even know where to start looking for these answers. Is someone here knowledgeable about such things? I know that some people have bought condos where their kids can live while going to college, but I don't know if this sort of thing qualifies as an investment or a business.

Thanks.

[leftymd]

I believe the IRS requires that properties which are leased to family/friends must be leased at a minimum of 80% of FMV. We currently lease a 2nd home to our daughter at less than the going rate, hence, we have inquired about applicable laws.

Rental income is carried on SCH E. Applicable deductions to offset rental income include mortgage interest, insurance, depreciation, repairs, and management fees.

Our situation is different from what you have described in that we purchased the home in the late 80's. A month after the closing we were transferred out of state and decided to hold onto the property and convert it to a rental utilizing a property manager. Upon returning to the area in the late 90's, we purchased a larger home and kept the original home as a rental property. Recently our daughter moved into the home and we subsequently eliminated the property manager. We have found it much easier to schedule repairs and upgrades to the rental property once our daughter moved in.

[Ed_The_Gypsy]

Thanks very much, lefty!

Can you suggest a web site where i can learn more about this? I always have trouble finding things on the IRS site.

[W2R]

Your daughter is so lucky to have generous parents like you! Sounds like a dream come true.

Quote:

There are some credit problems stemming from a failed marriage

Immediately after my divorce, my credit was awful. I couldn't even get an unsecured credit card (tried for several), couldn't get a store card, couldn't even get a loan from a mattress store for a mattress. Nobody would lend me nuttin'. I got a secured credit card but didn't use it so that didn't help much.

The way I fixed my credit, believe it or not, was to buy a house and get a mortgage. I couldn't borrow $300 for a mattress set, but I could borrow $128,000 for a house. Go figure! Anyway, it might be worthwhile for her to contact a good mortgage broker and see what he/she can come up with before you proceed to work on these other solutions.

[Ed_The_Gypsy]

She is working with one, a good one if the recommendation is correct. We will see what comes of it. We don't see how she can do it on her own, though. We are working these ideas all at the same time.

She says she will let us live in her basement when we get old.

[MichaelB]

Gypsy Ed, you don't have much set aside for retirement, you have some spare cash, and you're not going to fund a retirement account. Are you going to work 'til you die?

Nothing wrong with helping out a relative, as long as you don't need the money. Now or ever. If you'll need it you need to keep it. Your daughter might get married again and her new partner might have other ideas. This stuff can get complicated very easily. The voice of experience.

The downside to lending her the cash is if something goes wrong and she loses the house, you are SOL. The downside to you buying the house is if she falls behind on the rent you are on the hook. The worst case is you need the money, she doesn't want the house, but there is someone else in the picture who doesn't care what either of you want.

I think one less risky way to do this is rent with a purchase option and agreement to apply some of the rent to the purchase price. You'll need to charge market rates, but there is a lot of flexibility in how you determine what those are. Recovering the upfront money over a fixed time period lowers your risk and once that is accomplished you can find a way to make the house hers.

[Hermit]

That is such a difficult problem. I would like to think that I would not enter into financial arrangements with my kids, but here I am a cosigner on a rental agreement with DD (recent college grad) and I will help her with rent for a couple of months while she is in between roommates. A year lease I will cosign because the cost is within my means. I would not want to do anything for a longer period. I would be more inclined to do a gift if needed just to preclude any possible hard feelings later on.

[Free To Canoe]

Just a thought. If you cosign her loan, you might as well be buying it because if she can't make the payments, you will own it anyway.

[Ready]

Quote:

Originally Posted by MichaelB Gypsy Ed, you don't have much set aside for retirement, you have some spare cash, and you're not going to fund a retirement account. Are you going to work 'til you die?

I have to agree with MichaelB on this one. You have no business giving away your money to your daughter if you don't have enough for yourself. She has a lot longer to earn income for her future than you do, and the best gift you can give your children is to not be a burden on them financially later in life. And if giving her money now will cause you to live a lifestyle that is less than you are hoping for, that can't make her feel good. She needs to learn how to take care of herself, and enabling her now by giving her money will only make it more difficult. Take it from someone has has a 50 year old sister who still relies on our parents to pay her bills. It just doesn't work.

[MatatuPuncher]

To the OP,

I did nearly the exact same thing as you're considering for my MIL. My wife and I purchased a REO house in Phoenix that needed minimal repairs and we rented it out to my MIL for slightly less than the market rate. I has been a win-win for both sides. We have an easy, low maintenance income earning property and a rent free semi-vacation house to flee to during the miserable east coast winters (and summers). MIL gets a nice house at favorable terms.

[nanannjen]

Quote:

Originally Posted by MatatuPuncher To the OP, I did nearly the exact same thing as you're considering for my MIL. My wife and I purchased a REO house in Phoenix that needed minimal repairs and we rented it out to my MIL for slightly less than the market rate. I has been a win-win for both sides. We have an easy, low maintenance income earning property and a rent free semi-vacation house to flee to during the miserable east coast winters (and summers). MIL gets a nice house at favorable terms.

We did the same thing for my mom. We went in with my brother - we have little/no income, so needed him to help get the mortgage! We both benefit from the tax write-offs - it helps him now, and it will help us when DH turns 59 1/2 and we get to hit the retirement accounts! My mom "complains" about the landlords - but it's great for everyone.

That being said, we would never have considered this if we hadn't had the cash available, and no long term need for it.

[wmc1000]

We sort of did this last year. I, along with my daughter financed the purchase of a house which she lives in and which she claims as her primary residence. She makes the mortgage payment and takes the deductions for taxes, etc on her tax return. When she moves/ buys something else, etc. either my wife and I will "downsize" to that home and sell ours or sell that house and she no longer has the mortgage payments on that abode. She earns no equity but her "cost" is less than renting for a much larger space than an apartment.

Of course I got to decide on the house and neighborhood since it might be the place my wife and I move to!

[38Chevy454]

Quote:

Originally Posted by MichaelB The downside to lending her the cash is if something goes wrong and she loses the house, you are SOL. The downside to you buying the house is if she falls behind on the rent you are on the hook. The worst case is you need the money, she doesn't want the house, but there is someone else in the picture who doesn't care what either of you want. I think one less risky way to do this is rent with a purchase option and agreement to apply some of the rent to the purchase price. You'll need to charge market rates, but there is a lot of flexibility in how you determine what those are. Recovering the upfront money over a fixed time period lowers your risk and once that is accomplished you can find a way to make the house hers.

Quote:

Originally Posted by Free To Canoe Just a thought. If you cosign her loan, you might as well be buying it because if she can't make the payments, you will own it anyway.

I have had a couple of rentals in the past. Sch E is the tax form as stated. Read up on that and you will understand what you can deduct. Yes you can deduct a trip to the house for example. Also any maintenance costs and repairs. I think the rule is you can use up to 2 weeks per year for personal use while still being considered a full time rental, but in your case this does not apply since you are visiting your daughter at her house. You just happen to be the landlord for that house.

I would just buy it with 20% down of your cash, then mortgage the balance. Your daughter can have a lease purchase agreement where she pays rent and a portion of that rent goes to savings for eventual purchase of the house. You get the benefits of the rental on your taxes, she gets a nice place to live at a rent she can afford. How much you want to put to her savings is up to you. Say rent is $1000 and mortgage is $700, taxes and insurance another $150. You can put the remaining $150 to her savings account for the house and you have no out-of-pocket costs (not getting into tax savings and technicalities of finance).

There is nothing that says when you sell that it has to be at current value. You can sell to daughter for less if you want. The amount you net after the sale is your choice. Being a rental you will have to pay long term capital gains on any increase. Also remember that depreciation on the rental property lowers your basis value, so even if you sell at same price you purchased, if you have any depreciation that amount will results in some capital gains. The nice thing is once you do sell to her, you can do it without full realtor commission, just a title company and possibly attorney fees.

I think you owning it completely is better than joint ownership, just in case things go bad or problems. The lease purchase gives her some skin in the game, and incentive to keep up her part of the deal without any significant risk for your invested assets.

[wmc1000]

Not sure how it works in other states but in Indiana the property tax on a rental is 2X the property tax of residence property not to mention the added tax due to not being able to file for homestead exemption. These 2 factors would have meant an extra $200 per month in taxes in our case.

[Fishingmn]

Quote:

Originally Posted by wmc1000 Not sure how it works in other states but in Indiana the property tax on a rental is 2X the property tax of residence property not to mention the added tax due to not being able to file for homestead exemption. These 2 factors would have meant an extra $200 per month in taxes in our case.

You'd need to check local laws - in Minnesota you can Homestead if the rental has a close relative living there.

I have 10 rental properties and my daughter lives in one of them with a roommate. We do give her a $100/mo discount on rent. For that she is expected to be on top of all issues there and make sure we never have a vacancy - she gets to pick roommate but they have to go through full background check, sign a lease and pay market rent.

I definitely agree that you should buy it yourself and rent back, especially if your retirement isn't secure.

You'd probably want to check with accountant about whether writing off travel is a good idea.

[Ed_The_Gypsy]

Quote:

Originally Posted by MichaelB Gypsy Ed, you don't have much set aside for retirement, you have some spare cash, and you're not going to fund a retirement account. Are you going to work 'til you die? Nothing wrong with helping out a relative, as long as you don't need the money. Now or ever. If you'll need it you need to keep it. Your daughter might get married again and her new partner might have other ideas. This stuff can get complicated very easily. The voice of experience. The downside to lending her the cash is if something goes wrong and she loses the house, you are SOL. The downside to you buying the house is if she falls behind on the rent you are on the hook. The worst case is you need the money, she doesn't want the house, but there is someone else in the picture who doesn't care what either of you want. I think one less risky way to do this is rent with a purchase option and agreement to apply some of the rent to the purchase price. You'll need to charge market rates, but there is a lot of flexibility in how you determine what those are. Recovering the upfront money over a fixed time period lowers your risk and once that is accomplished you can find a way to make the house hers.

Thanks, Mike. I have been thinking about your comments. I have misgivings about giving her the down payment as well, but DW favors this.

Yes, we have extra cash this year. I had forgotten that traditional IRAs do not have an upper income limit. I make too much this year to fund a Roth. I can establish an after-tax trad IRA instantly with Vanguard and put in $6,500 for me and spouse in 2013 if we act quickly, and again for 2014. This commits the money. The only wrinkle is the complexity of taxes on a pro-rata conversion.

It sounds like you favor that we own it outright with a rent with a purchase option. I like that. It will stabilize her housing costs and give her a home. We should be able to buy it outright with our HELOC. If she leaves the house, we can still make the payments, sell it, or pay off the HELOC when we sell our house and move there. I have to get buy-in from DW, however.

Thanks again for input.

[Ed_The_Gypsy]

Hmmm. Maybe a tIRA is not a good idea. Especially since we are so close to the end.

It would be simpler just to put it in savings and leave it there.

See this thread: http://www.early-retirement.org/foru...dea-71476.html

[MichaelB]

Quote:

Originally Posted by Ed_The_Gypsy T It sounds like you favor that we own it outright with a rent with a purchase option. I like that. It will stabilize her housing costs and give her a home. We should be able to buy it outright with our HELOC. If she leaves the house, we can still make the payments, sell it, or pay off the HELOC when we sell our house and move there. I have to get buy-in from DW, however.

I do favor this, it still has risk, but creates a path to her ownership that allows you to recover your contribution and keeps the asset in your name until that happens.

Quote:

Originally Posted by Ed_The_Gypsy Hmmm. Maybe a tIRA is not a good idea. Especially since we are so close to the end. It would be simpler just to put it in savings and leave it there. See this thread: http://www.early-retirement.org/foru...dea-71476.html

Well, you could do a back door ROTH. Nothing wrong with taxable retirement accounts, though, as long as you have the discipline to leave the money alone.

[Ed_The_Gypsy]

I make too much to do a Roth or deductible IRA this year. I would wind up with a tax mess based on the pro-rata business. We are so close to the end of this job that it would be simplest to tuck it away for later. I think I can sell that.

I plan to do a huge back-door Roth conversion when we get back. I figure to do the whole thing in 3 years. In my best-worst case, this will save my survivor ~$130,000 in taxes over her lifetime and she will never even have to file again. Less of a bonus if I survive (best-best case--still never have to file again ), but I am planning for the best-worst case. I went through this in detail with Turbotax and a spreadsheet. I am pretty confident that I have the trend right, at least.

Your comments were very helpful. Helped me to focus. Thanks.

[haha]

Quote:

Originally Posted by wmc1000 We sort of did this last year. I, along with my daughter financed the purchase of a house which she lives in and which she claims as her primary residence. She makes the mortgage payment and takes the deductions for taxes, etc on her tax return. When she moves/ buys something else, etc. either my wife and I will "downsize" to that home and sell ours or sell that house and she no longer has the mortgage payments on that abode. She earns no equity but her "cost" is less than renting for a much larger space than an apartment. Of course I got to decide on the house and neighborhood since it might be the place my wife and I move to!

Is she 1/2 owner of the house, or is it all yours, effectively a rental to her?

Ha