Seller financing without hiccups

DEAR BENNY: We are in our late 70s and have moved out of our house. We are selling the house to our daughter for approximately $338,000 and we are taking back the mortgage.

We have been told the minimal interest rate we can charge her is 1.61 percent without getting in trouble with the IRS. And, it must be renewed each year. Is this correct? Please advise. --Louise

DEAR LOUISE: You are referring to what the IRS calls the "applicable federal rate" (AFR). This is the rate that is a safe-harbor. If you go below the stated rate, you will be hit with imputed interest. The IRS breaks this down into three categories: (1) short-term -- loans no longer than three years; (2) mid-term -- loans over three years but not over nine, and (3) long-term -- loans over nine years.

Let me provide you with an example. The long-term rate for February 2009 was 2.96 percent. If this will be the term of your daughter's loan, you can safely lend the money to her at 2.96 percent annual interest. (Of course, she can always pay it off sooner, and you have the right to gift her a portion of the loan on an annual basis).

If you were to lend at 2 percent, the IRS will require you to declare -- and pay -- as if you actually received the full 2.96 percent of interest. This is known as an "imputed interest."

You can find the applicable AFR on the IRS Web site for the month in which you will be making the loan.

DEAR BENNY: In a Bob Bruss article years ago, he stated that if you have an undated IRS Form 4506 in the file with no lender's name on it, that is a virtual invitation to the eventual loan owner to pry into your private tax returns.

I called my loan company and they sent back this response: "As for the 4506 form, I have spoken with our legal department. The reason the 4506 form remains blank is if we sell your loan. If the page is not signed, we would not be able to provide the loan to you. They have told me that the privacy statement (opt-out document) you signed does not extend to providing information to our investors, and the privacy statement explains if and when we will disclose nonpublic personal information. We can disclose information to an investor at any time because it is part of providing the loan for which you applied."

My question: We did sign and date the Form 4506, but they left the lender name off. Is this a normal practice? --Dean

DEAR DEAN: In my opinion, there are just too many legal forms that potential homebuyers (and refinancers) have to sign in order to get a mortgage loan. And, in my opinion, the most objectionable is IRS Form 4506, entitled "Request for Copy of Tax Return."

You -- and Bob Bruss (my predecessor on the Mailbag) -- are correct. By signing this form, you have given a blank check to the holder of the document to have complete access to your federal income tax return(s). ...CONTINUED

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