DEAR BOB: About four years ago, my wife and I bought a three-bedroom house for our son to occupy while he was attending college. Although he was only 18 at the time, it was a great learning experience for him to become a landlord. He always had three or four “tenants” living in the house with him and paying rent. On top of the mortgage, insurance, property taxes and other expenses, he managed to clear $700 to $1,200 per month net income. Meanwhile, the house went up in market value by at least $150,000. We’re almost sorry to see him graduate and move on to a “real job” out of town as an accountant with a “big six” firm. Can we claim that $250,000 principal-residence-sale tax exemption even though title was in our names and we didn’t occupy the house but our son did? – Ned W.
DEAR NED: No. Sorry, you lose out on the $250,000 principal-residence-sale tax exemption of Internal Revenue Code 121. Although your son met the 24-out-of-last-60-months-before-sale occupancy test, because his name was not on the home’s title, you and your wife owe capital gains tax on the entire capital-gain profit on your investment property.
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Of course, you could make an IRC 1031 tax-deferred exchange for another investment property of equal or greater cost and equity, but that’s another issue.
Why didn’t you add your son’s name to the title, especially since he was such a great landlord? Also, don’t forget you also owe the special 25 percent federal tax rate on depreciation recapture for all the depreciation deductions you enjoyed. For full details, please consult your tax adviser.
HOW TO TRANSFER TITLE AS A SURVIVING JOINT TENANT
DEAR BOB: My wife and I owned a two-unit residential building. She passed away recently. How can I have the title transferred into my name? My bookkeeper advises me to have the property appraised. Do I need an appraiser? – Jimmie J.
DEAR JIMMIE: The first answer depends how you and your late wife held title. If you held title in joint tenancy with right of survivorship, or equivalent method, it’s usually very simple to transfer title to your name as the surviving co-owner. All that is usually required is to file a certified copy of your late wife’s death certificate and an affidavit of survivorship with the local recorder of deeds.
However, if you and your late wife held title by another method, such as tenants in common, then a probate court proceeding is usually necessary to pass title according to her will.
Your bookkeeper gave you superb advice to have a professional appraiser determine the current market value of the inherited property. The reason is you will receive a new partial or full stepped-up basis to market value on the date of your wife’s death if you held title in joint tenancy or community property.
However, if you held title as tenants in common or other method, then you only receive a partial stepped-up basis. Either way, the appraisal is important. For exact details, please consult your tax adviser.
GIFT DEED TO HOME MIGHT NOT BE TAXABLE
DEAR BOB: My sister and her husband own a free-and-clear home in Boise, Idaho where they have never lived. Their daughter has been living in the house at least 10 years. They want to give the house to her (she is single with a teenage son). What is the best way to do this without any tax implications? After they deed it to her, how long must she live in it before she can sell it without owing any tax? – Harry D.
DEAR HARRY: When your relatives make a gift of that house to their daughter, as donee she takes over the donor’s (presumably low) adjusted cost basis. They must file a federal gift tax return because their gift exceeds the $11,000 per donor per donee annual exemption.
But no federal gift tax will be due unless they have given away more than $1 million per donor in total lifetime non-exempt gifts. However, their gift amount is subtracted from their lifetime estate tax exemption (currently $1.5 million if they die in 2005).
To claim the $250,000 principal-residence-sale exemption of Internal Revenue Code 121, the daughter will need to live in her home at least 24 of the 60 months before its sale. That means she can sell it as soon as 24 months after taking title to claim the $250,000 exemption. For full details, your relatives and their daughter should consult their tax adviser.
HOW TO FIND A RETROSPECTIVE APPRAISER
DEAR BOB: I especially enjoyed your recent article where you fielded a question regarding retrospective real estate appraisals. You advised it is difficult to find an appraiser who can value a property as of a past date, such as the date of inheritance for stepped-up basis purposes. I want to advise you and your readers the Appraisal Institute has a directory of members who specialize in retrospective appraisals. There are at least 1,000 members performing this service nationwide. The Web site is www.appraisalinstitute.org/search.asp – Bill Garber, government affairs director, Appraisal Institute, Chicago.
DEAR BILL: Thanks for your valuable information about how to find a qualified appraiser to determine the past market value of a property. Past market value is especially important for inherited property where the heir needs to establish their new stepped-up basis of market value on the date of the decedent’s death.
DON’T GIVE PROPERTY AWAY IF YOU MIGHT WANT IT BACK
DEAR BOB: About five years ago, my wife and I gave our summer cabin to our daughter and son-in-law. They and their two children really enjoyed it. We used it whenever we wanted several times each summer. But about a year ago, they got a divorce. Now we have been told we are not welcome to use the cabin. The son-in-law recently remarried and he uses the cabin with his new wife. Our daughter occasionally uses the cabin with her two teenagers and their friends. It is obvious we are not welcome. Is there anything we can do to reclaim title to correct our big mistake? – Ben C.
DEAR BEN: No. After you deeded the property to your daughter and son-in-law, you gave up all legal rights to that property. When circumstances change, there is no way to “undo” a deed.
Your situation shows why parents, even with the best intent, should be especially wary of giving away real estate to their adult offspring. Divorce happens.
DON’T CO-SIGN A MORTGAGE FOR A FRIEND
DEAR BOB: My best friend is a single mom with a wonderful teenage son from a bad marriage. She is trying to straighten out her financial life after divorce. She has a great job. But, due to the divorce about 18 months ago, her FICO credit score is only about 615 and she has very little for a down payment on a condo or small house. She is wasting $1,600 per month rent on a tiny apartment in a bad area. A mortgage lender will give her a 100 percent mortgage if she can find a co-signer with good credit. That’s me. My FICO score is 740. But my friend has a bad temper and I am worried she might lose her great job if she loses her temper at work. Do you think I should co-sign? – Josie W.
DEAR JOSIE: If you co-sign on your best friend’s mortgage, and if she loses her job and can’t afford to make the mortgage payments, as a co-signer the lender expects you to make the payments. If the mortgage falls into arrears, your high FICO score will be ruined.
Several times I’ve been asked to co-sign on various obligations for friends. With one exception, which turned out OK after I put extreme pressure on my friend to pay off the debt for which I co-signed, I refused to co-sign. Maybe it was selfish, but I refused to co-sign again and am glad because then I didn’t get involved in my friends’ problems.
IS A “TIC” A GOOD DEAL FOR REALTY INVESTOR?
DEAR BOB: I own a commercial building that a neighboring owner wants to buy for a parking lot. My problem is I would owe a huge capital gain tax. The buyer has put me in contact with a firm offering me a tax-deferred Internal Revenue Code 1031 exchange for a TIC (tenant-in-common) share in an upscale office building leased to major tenants with long-term leases. Is this a good deal? – Jervis H.
DEAR JERVIS: I can’t advise on a specific transaction. But TICs are extremely popular since the IRS approved them in Revenue Procedure 2002-22 for use in tax-deferred exchanges such as the situation you describe.
TICs can be a great way to sell your investment or business property and make a tax-deferred exchange into a management-free property such as you describe. For full details, please consult your tax adviser.
The brand-new special report, “The Whole Truth About Reverse Mortgages for Senior Citizen Homeowners,” is now available for $4 from Robert Bruss, 251 Park Road, Burlingame, CA 94010 or by credit card at 1-800-736-1736 or instant Internet PDF delivery at www.bobbruss.com. Questions for this column are welcome at either address.
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