Q: I rented our old house to my daughter and her spouse as a rent-to-own property. I told them when they paid in enough money I would sign the property over to
Can you sell a house to your child for 1 dollar?
From a real estate perspective, you can sell your house to your children for any price you please. If your intention is to avoid the gift tax, however, you’re out of luck. The tax man considers the difference between the fair market value of the house and the $1 sale price a gift, for which you must file a federal tax return. The sale may have capital gains tax ramifications for your children as well.
It’s Not An Arm’s Length Transaction
The Inland Revenue Service lets you sell property at a loss — as far as they are concerned, you made a bad deal. However, if you sell property to a child for less than the property’s true value, you’re not making a bad deal, you’re giving a gift. The tax man levies gift tax on the difference between the property’s appraised value and the sale price. For example, if your house is worth $150,000, and you sell it to your children for $1, you face a tax charge on the $149,999 difference.
Federal Gift Tax Exemptions
Under federal law, each individual can gift up to $14,000 — the 2014 threshold — to each child, each year, without incurring a gift tax. In addition, you can make tax-free gifts worth a maximum of $5,340,000 – again, the 2014 threshold — over the course of your lifetime. Any exemption not used during your lifetime can be used to reduce your estate tax liability at death. Thus, if your home is worth less than $5.34 million, and you don’t have a significant history of giving, you likely won’t pay any federal gift taxes. California does not levy a state gift tax.
Taxing the Sale Profit
When your children sell the house, they pay capital gains tax on the profit. Because you gave away your home, your children inherit your tax basis. Generally, this means the original cost of the property. For example, if you bought the property years ago for $50,000 and it is now worth $150,000, your children’s tax basis is $50,000. If they immediately sell the house for full market value — $150,000 — they pay capital gains tax on $100,000. An exemption applies if your children live in the property for at least two years, after which they don’t pay tax on the first $250,000 in gain.
Tax matters aside, if you sell your house to your children for less than its fair market value, you may face a period of ineligibility for Medicaid benefits, because the transfer of the house is considered a gift. You also lose control of the house. Once you hand over the deed, your children can do whatever they please with the property — including selling it — without your consent.
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