Understanding the “ins and outs” of inheriting a house and addressing the tough financial and emotional decisions as to what to do with the home can be daunting.
This blog will help explain what happens after you inherit a home and help you travers three primary responsibilities every heir will face if the estate has real property: 1) Your newly imposed legal and financial obligations, 2) Federal estate tax obligations as well as capital gains, 3) Your best options: renting it out, moving in yourself, or selling the home. All three of them relate to each other. Inheriting a home can be a welcome asset, but for many, it becomes an instant burden compounded by the loss of a loved one.
Financial obligations
Does the property have a mortgage or other liens? In most instances, an heir can assume an existing mortgage and take over the monthly payments. The heir also become liable for any other liens that may be placed on the home, such as mechanics liens. However, some mortgages, such as reverse mortgages have a due on sale clause which means the balance must be paid in full at the time of transfer. If the heir can’t manage the payoff, the home is typically sold to cover the obligation.
What state of repair or decline is the property? Usually, the answer to this question greatly influence an heir’s decision as to what to do with the property. It becomes increasingly difficult to maintain one’s home as we age. Moreover, in many instances delays in the probate process can force a property to remain vacant for several months. Consequently, real property working its way through the legal system can sustain time-consuming delays and become increasingly degraded adding costly repairs. Maintaining a home is this situation is particular burdensome when the heir lives out of state as is often the case because so many retiree’s seek retirement communities far from home in their retirement years.
Are you the sole heir? Having multiple family members inherit a home is quite common. For many families this isn’t an issue, but for others it could present a complicated situation. Given the enormity of the situation, no doubt the needs, desires, opinions will differ among the heirs. While one heir may want to move into the house, another may want to rent the house, and yet another may wish to sell the property outright.
The number of people involved, and their ability to communicate effectively will play a large role in how the property is ultimately settled.
Estate tax liability
Fortunately, there is no federal estate tax unless the estate value is $11.4 million or greater. Estates of this size will likely be subject to a 40 percent tax rate. Depending on which state the property is located there may be a state tax obligation as well. Nonetheless, for most of us, inheriting a home doesn’t initiate an automatic tax debt.
Once the property transfers to the heir, the IRS will establish a fair market value, which will become the new evaluation basis for the property. This number will influence future taxes when the property sells.
Capital gains could be an issue. Capital gains are special taxes owed when an asset generates a profit. Luckily, you are only responsible for this tax when you sell the home and only if it sells for more than the IRS’s evaluation. For example, if your newly inherited house is evaluated by the IRS to be worth say, $450,000 and you sell it for $500,000 your capital gain liability will be based on $50,000. However, if you were to sell it at the evaluation or less, you’d have no liability.
Renting, moving in, or selling
The first two options listed here mean that the heir or heirs are planning to keep the home and take sole possession. Whether one moves into the inherited home or rents to another party, it is worth noting that all the responsibilities of ownership become the responsibility of the heirs. This will include repaying any liens and debts associated with the property, paying taxes and maintaining property insurance, and all other legal and financial obligations attached to the property.
Are you considering becoming a landlord? For those with real estate experience this may be appealing, especial if the property is free and clear. The passive income generated could be quite lucrative. However, being a landlord isn’t always as easy as it may seem. If this path is chosen though, it would be wise for the heir to check with City Hall to ensure there are no restrictions on renting, whether it be long-term or short-term. There may also be permit requirements in some municipalities. Lastly, consider hiring a professional property management company. For a percentage of the rent, they will handle tenant screening and maintenance issues as they arise.
Would you like to move in? An heir does have the option to make an inherited property their primary residence. One would need to determine based on their specific situation whether it would make financial sense. Is there an existing mortgage that the heir would have to assume? It could exceed the properties value. What is the state of repair? Costly repairs may make the moving in option less palatable. One should also familiarize themselves with the current city and county tax requirements as well as property tax rates so as to fully understand the financial obligation before moving in.
Have you considered selling the house? This is often the best option despite the emotional difficulty associated with selling the family home. Perhaps one’s childhood home at that. This can be compounded further when multiple heirs are involved. The two most common ways to sell a home is by listing the home with a real estate brokerage or selling it direct to a real estate investor. Assuming the property is in good condition, listing with a broker may yield the most profit, however, one should take into account the costs, fees, and time associated with such a transaction, which may include: outstanding debts and liens associated with the property, the cost of repairs required by buyers, seller closing costs and fees, and real estate commissions which could be 6 percent of the selling price. Depending on the particular real estate market, it could also take several months to sell the house through a brokerage. The heir will be required to maintain the property while it is on the market and cover all fees and taxes throughout the duration of the listing.
Alternatively, dealing with a real estate investor can be fast and less expensive. Typically, other than an outstanding mortgage, investors cover all the transaction fees, and since the sale is direct, the seller isn’t required to pay any commissions. Moreover, professional investors never make a purchase contingent on seller repairs. All transactions are “as-is”. Real estate investors are cash buyers as well, excluding the need for any finance contingency, which makes the purchase and settlement process very smooth and predictable. In some instances, the transaction can be completed in 14 days – start to finish.
Final Thoughts
No doubt inheriting a home unexpectedly can be overwhelming, we at RealtyWithRich, LLC hope that knowing what’s next can provide a bit of comfort at such a time. Take what comes step by step and consult with your attorney and your accountant. At RealtyWithRich, LLC we pride ourselves in finding solutions for real estate problems. Please feel free to contact us with your questions.
This article is intended only for discussion purposes and should not be relied upon as legal advice. Heirs are encouraged to seek the council of an attorney before engaging in any real estate transaction.