Can You Buy Your Parents’ House? What to Consider

Buying a house from your parents is a unique transaction, blending personal connection with formal real estate processes. It involves specific legal and financial considerations, such as fair market valuation, gifting rules, and tax implications for both parties. Understanding these nuances is important for a smooth transfer of ownership.

Setting the Sale Price and Structuring the Transaction

Determining the sale price requires establishing a fair market value (FMV) for the property. An independent appraisal is the most reliable method, providing an unbiased estimate based on the home’s condition, features, and comparable sales. This appraisal is important for legal and tax purposes, especially if the sale price deviates from the market value.

Selling the property at its fair market value is a common approach, treating it like any other arms-length real estate transaction. This method simplifies many aspects, aligning with standard lending and tax practices. However, family sales often involve a desire to assist the buyer financially, leading to a sale price below FMV.

When a home sells for less than its fair market value, the difference between the FMV and the sale price is a “gift of equity” from parents to child. For example, if a home appraised at $400,000 sells for $300,000, the $100,000 difference is a gift of equity. This gift can help with a down payment, reduce the mortgage amount, or provide financial assistance.

Beyond traditional sales, other less common arrangements exist. An installment sale allows the buyer to make payments over time directly to the parents. A private annuity involves the buyer making payments to the parents for their lifetime, which can have specific estate planning implications. These alternative structures require legal drafting to define payment schedules, interest rates, and other terms.

Funding the Purchase

Once the sale price and transaction structure are decided, the buyer must secure funds. The most common method is a traditional mortgage from a bank. Lenders assess the buyer’s financial standing, including credit score, income, and debt-to-income ratio, to determine eligibility and loan terms. If a gift of equity is part of the transaction, the lender will require documentation to meet their guidelines for down payment sources.

Alternatively, parents can act as the lender through a private mortgage, also known as seller financing. In this arrangement, parents provide the loan to the child, eliminating the need for a third-party bank. A private mortgage requires a formal promissory note outlining the loan amount, interest rate, and repayment schedule, along with a deed of trust or mortgage document to secure the loan against the property. This option places the responsibility of loan servicing and potential foreclosure on the parents if payments are not made.

The simplest funding method is a cash purchase, where the buyer pays the full price upfront. This eliminates the need for a mortgage and streamlines the transaction by avoiding lender requirements. However, it requires the buyer to have substantial liquid assets.

Understanding Tax Implications

Selling a home between family members carries specific tax implications for both parents and child. For parents, capital gains tax applies if the home has appreciated in value. However, if it was their primary residence, they may qualify for an exclusion: up to $250,000 of gain for single filers and up to $500,000 for married couples filing jointly, provided they owned and lived in the home for at least two of the five years preceding the sale. Parents cannot claim a capital loss for tax purposes if they sell the home for less than its fair market value.

When the sale price is below fair market value, the difference is a gift from parents to child, triggering gift tax rules. For 2024, individuals can gift up to $18,000 per recipient annually without it counting against their lifetime exemption or requiring a gift tax return. For 2025, this annual exclusion increases to $19,000. If the gift of equity exceeds this annual exclusion, parents must file Form 709, the U.S. Gift Tax Return.

Even if Form 709 is required, gift tax may not be owed. Each individual has a lifetime gift tax exemption, which for 2024 is $13.61 million and for 2025 is $13.99 million. Gifts exceeding the annual exclusion reduce this lifetime exemption, but actual gift tax is only paid if total lifetime gifts surpass this amount. Parents are responsible for tracking and reporting these gifts to the IRS.

As the buyer, the child assumes several tax responsibilities. They are responsible for ongoing property taxes, which vary by location. If the child obtains a mortgage, they may deduct the interest paid on their income taxes. The home’s purchase price, along with any gift of equity, establishes the child’s “cost basis.” This basis is important for calculating capital gains or losses when the child eventually sells the home.

Completing the Sale Process

After decisions on pricing, funding, and tax considerations, the formal process of transferring ownership begins. The first step involves drafting a purchase agreement. This legal document outlines the sale’s terms and conditions, including price, closing date, and any contingencies.

A home inspection, while optional, is a recommended step to uncover potential property issues. This helps the buyer understand the home’s condition and necessary repairs. If a traditional mortgage is involved, the lender will require their own appraisal to confirm the property’s value supports the loan amount.

Before closing, a title search ensures the property’s title is clear of liens or disputes. Title insurance protects both buyer and lender against future ownership claims. These steps ensure a sound transfer of ownership.

The sale concludes with the closing process, where all parties sign necessary documents. This includes the deed, which officially transfers ownership from parents to child, and any mortgage or loan documents. Funds are exchanged, and closing costs are paid. The final step is recording the deed with the local county recorder’s office, making the change of ownership public record. Engaging real estate attorneys is advisable to draft and review documents, ensure compliance, and facilitate a smooth transfer.