Selling an Inherited Home

Inheriting a home — while a generous gift — comes with decisions and responsibilities that can seem overwhelming. If you are receiving this property as a result of a loved one’s death, the financial decisions that come with inheriting property can be stressful and confusing. To make matters worse, “real estate investors” may be harassing and soliciting you to sell the property to them at ridiculous prices.

The best way to move forward is knowing your options, assessing the financial consequences of your choice, and seeking expert assistance in navigating the tax and legal requirements.

Personal Property

When people inherit a home, they often inherit the contents of the home as well. As a service to our clients who elect to lease or sell property through our office, we often assist with coordinating the liquidation of the personal property as well. We have relationships with charities, used furniture stores, and auctioneers who are in the business of liquidating personal property. Depending on the home and the furnishings, sometimes it makes sense to offer the property for rent or sale furnished or “turnkey”. In other cases, the marketability of the property may be better as a vacant home. In either case, we have the knowledge and experience to help you address the issues and maximize your rental income or sales price. We recognize that the process of addressing a loved one’s possessions can be emotional and we do our best to make the process as easy as possible for you.

I just inherited a home. What do I do now?

Initially, become familiar with the property and identify the expenses and obligations associated with owning it. Contact us if you would like help gathering the information. Next, create a budget and establish a fund to pay for the ownership expenses of the property while you decide what to do with it. The budget should include all of the expenses associated with ownership including: utilities, HOA payments (if applicable), maintenance and repairs, property insurance, property taxes, and mortgage payments (if applicable). Your lifestyle, finances and the physical condition of the property will likely be factors in your decision on what to do with it.

Mortgage

If there is a mortgage on the home you’ve inherited, the details of the mortgage might affect how quickly you decide to sell or rent it.

• “Due on Sale”: Many mortgages have a “due on sale” clause, which states that the outstanding loan balance is due and payable if the borrower transfers the property to someone else. This clause may make it necessary for you to either pay off the mortgage in full or sell the property. When family members inherit a property, they often assume the mortgage payments until the property is sold, however, the loan agreement with the lender describes the rights and obligations of the borrower and this should be determined right away.
• Mortgage satisfied by the estate: While the person leaving the home to you may have had a mortgage on the property while they were living, it’s possible that the mortgage was paid off by their estate and the property is now free and clear.
• Reverse mortgage: In a reverse mortgage, which is a way for seniors to access their home’s equity without moving, the original owner receives cash payments for the equity in the home during their lifetime. When they pass away, the heirs often have a limited period of time to repay the outstanding loan balance — (six months is common). To satisfy the loan, heirs often pay the balance with cash in the estate, their own funds, sell the home to satisfy the loan or get a new loan in their name to satisfy the outstanding balance.
• “Underwater” properties: If the property you’re inheriting is “underwater” (meaning the outstanding balance on the mortgage is greater than the fair market value of the property), the mortgage holder may agree to allow a “short sale” on the home and accept less for the property than the outstanding loan amount.

Property Repairs and Preparation

Just like a home that a person chooses to buy, inherited property should be evaluated and inspected. A professional home inspector can provide a detailed report that objectively presents the condition of the home and its building systems. The inspection reports are intended to  help owners understand what they own and assist with forecasting near term maintenance and repair expenses. Identifying safety issues and maintenance concerns with big ticket items such as the roof, plumbing & electrical, foundation, windows and air conditioner will help you mitigate risks and estimate the near-term expenses needed to maintain the property. Contact us for an introduction to knowledgeable, trustworthy inspectors who are skilled at their profession.

• Repairs to Rent: Some types of properties make better rentals than others. If you are considering renting, there are specific repairs and updates that attract tenants. Each home is different and we can provide suggestions on preparing a property to rent along with a marketing plan for leasing it. The homes that rent the fastest and for the most money are typically clean, updated, freshly painted, and have modern appliances. If the home is in poor condition and items need to be replaced, it might be difficult to acquire a quality tenant and when you have one the maintenance requests from tenants can be expensive and may seem to never end. Renters generally have no concern for the financial responsibilities of their landlord and often care less about the long-term condition of a property and more about creature comforts, like appliances, new carpet and fresh paint.
• Repairs to Sell: If you have decided that you want to sell your inherited property, you are not required to make repairs before marketing the property for sale. However, updated homes in excellent condition sell faster and for higher prices than properties that need work. The buyers of homes that need to be updated or require substantial repairs are often professional investors. Real estate investors need to earn a profit for their efforts and build in a margin for construction uncertainties and profit when they offer to buy properties. As a result, “fixer” properties often sell for substantially less than homes in move-in ready condition. Cleaning and painting provide an excellent return relative to their expense and can go a long way in improving a property’s appearance and marketability. Each home is different and we can provide suggestions and guidance on preparing your specific property for a sale.

Tax Implications: Is tax due on an inherited property?

Once you learn that you’ve inherited a house, you’re likely wondering: Do I have to pay an inheritance tax on the property? The act of inheriting a property does not trigger any automatic tax liability, but what you decide to do with the house — use it as a residence, rent it or sell it — will cause you to incur property taxes, capital gains taxes or other expenses (more on that below).

Capital gains taxes

Capital gains taxes are taxes owed to the federal government based on profits earned from the sale of an investment. For example, capital gains taxes are paid on the difference between your cost basis on a property and what you sell it for (there are exemptions that shield many home sellers from capital gains taxes on the sale of a primary residence, as long as the owner has lived in it as their primary residence for two of the last five years).

The capital gains tax rate is based on taxable income. In many cases, sellers of inherited property do not have a substantial capital gains tax obligation if they sell the property soon after inheriting it because of step-up tax basis.

Step-up tax basis

Recipients of an inherited property often benefit from a step-up tax basis, meaning they inherit the home at the fair market value on the date of inheritance. As a result, they are taxed on any gains between the inheritance date and the date the property is sold.

For example, suppose the house you just inherited from your grandfather was originally purchased in 1970 for $25,000. If the house is now valued at $325,000, does that mean that when you sell the home, you’ll be taxed on a $300,000 profit? Fortunately, no. You’ll only be taxed on the gain accumulated during the period of time between inheritance and sale.

Are there multiple stakeholders in the inherited property?

Multiple stakeholders makes ownership more complicated. Consider these options:

• Buyout: If one heir wants to keep the home and others want to sell, one can buy the other’s ownership interest, either in cash or by financing a portion of the home’s value. In a “buyout”, the typical expenses include closing costs, recording fees and an appraisal.

• Promissory note: If one heir wants to keep the property, and the other(s) want to sell and the heir that wants to keep it does not have access to a mortgage, an agreement may be reached resulting in a promissory note that outlines the payment schedule for the loan. The heir holding the property will be buying out the other(s) over time and making payments to them, typically interest and principal payments are made on an agreed upon payment schedule.

• Sell and split the proceeds: Perhaps the most straightforward option, all heirs agree to sell the home, with each receiving their share of the proceeds after expenses.

• Rent and earn rental income: If the real estate market isn’t strong, you may decide it makes more financial sense to rent the property until conditions improve. As landlords, the heirs would receive the net rental income after all expenses have been paid. If you choose this option, it is best to have one owner who is the primary point of contact for the tenant or property manager.

3 Options: Use it as a Residence, Rent it or Sell it

After gathering the necessary financial information, assessing the physical state of the home and communicating with the other heirs, it’s time to decide on what to do with the property. Your decision to use it as a residence, rent or sell the property will depend on many financial, circumstantial and market decisions.

Use it as a Residence

• Financial impact: There are significant expenses and obligations associated with property ownership. Typical expenses include: annual property taxes, insurance, maintenance and repairs, utilities, HOA dues, and mortgage payments. Over time mechanical items wear out and break, so we suggest having a reserve fund established to pay for big ticket items as needed. For condominium properties, the owner should be prepared for “special assessments”, especially if the condominium association does not maintain a significant reserve balance.

Rent it

• Financial impact: Preparing a home to become an investment property often takes time and money. If the property needs to be updated or repaired, the costs can be significant. After the property is in rental condition, the owner/landlord is typically responsible for annual property taxes, HOA dues, repairs and maintenance, insurance, and mortgage payments. If the property is rented seasonally, the owner will have to pay for utilities and collect rent tax as well. In addition to ownership costs, there are leasing and property management fees associated with acquiring tenants and hiring someone to manage the rental property.

Sell it

• Financial impact: If you are going to sell, the goal should be to sell the property for its full and fair price in a timely manner. The longer you hold it, the more you will spend on carrying costs. Sellers are not obligated to make repairs or prepare their property for sale. Many real estate transactions in Florida are done on an “As Is” basis. The only absolutes on sales preparation are that the property should be in safe condition to be shown to the general public and it should be clean. Repairs and updates generally improve the marketability of homes, but they are not always cost effective. Each case is different and we can view the property and provide a no obligation opinion on the sales preparation steps to take. If you elect to sell, the owners will receive the net sales proceeds after brokerage commissions, closing costs, and any outstanding mortgages or liens at closing. If you are subject to backup withholding or FIRPTA, those deductions will be made at closing as well.

If you are considering Selling or Leasing Real Estate, contact us!

Note: The information provided herein is intended for general purposes only and is not intended to be legal or tax advice. If you desire legal or tax advice for a particular situation, you should consult a tax advisor or an attorney.