When a loved one passes away, the grieving process can be difficult enough without factoring in any of the financial responsibilities that an inheritance can create. And when that inheritance includes a house, there are several decisions to make — many of which will need to be made in a timely manner. Coupled with the emotion of grief, the sense of urgency and new responsibilities can make it more difficult to make the best decision with regards to the inherited property.
Inheriting a house becomes more complicated when the property has multiple beneficiaries. And assuming each heir has equal ownership rights, if any or all of them has a conflicting opinion on the best use of the property, the situation gets even more complicated. To maintain order and good family dynamics, it may be a good idea to involve a third-party mediator who does not have a vested interest in the outcome of the decision.
If, on the other hand, everyone agrees to keep the house in the family, the next step is to decide how the property will be used. Depending on the location of the residence, beneficiaries could all decide to partner and turn the home into either a long-term rental or a vacation property. If the decision is to go the rental route, all heirs will need to clearly define each person’s roles and responsibilities when deciding on landlord duties.
Whether the decision is to keep the property as a rental or renovate it to sell, home improvements may need to be made. And since these improvements can range from small, decorative touches to larger, code-compliance and safety projects, it is important to have a plan for who will fund these changes and how.
A relative or family friend may be permitted to live in the home and pay rent at the discretion of the beneficiary(ies). In this instance, heirs should decide who will be responsible for collecting rent, taking care of any maintenance or repairs, and paying appropriate property taxes. In this instance, it is a good practice to hire a professional property manager as a means to preserve good dynamics among family members and maintain order.
If the inherited property is attached to a mortgage, there are a few additional details to consider. In this case, reach out to the loan servicer to obtain a clear understanding of the terms of the mortgage as well as any legal ramifications regarding transfer to a new owner. The loan servicer will undoubtedly require the decedent’s death certificate and will verify the property’s rightful heir(s) prior to sharing any information about the loan.
Regardless of the home’s existing mortgage, there is always the option to pay off the loan in full. If paying off the mortgage in its entirety is not an option — depending on personal financial conditions and credit profiles — refinancing the remaining balance might be. If unable to refinance, the lender may take possession of the property and attempt to pay off the remaining loan balance by selling the house. And if the sale price is not enough to satisfy the outstanding mortgage amount, the lender may be able to seize other assets from the estate of the decedent to cover the remaining balance.
In any case, it is important to consult with an estate attorney to examine the rights of beneficiaries, based on the state where the inherited property is located, and their relationship to the decedent. For example, if the surviving spouse of the decedent still occupies the property as their primary residence, they could be allowed to simply continue to make the mortgage payments as scheduled, regardless of whether they were initially listed on the loan. This arrangement is referred to as an assumable mortgage. Under this provision, the new owner would “assume” the existing mortgage, its terms, and its current monthly payment cadence.
In other cases, the loan’s fine print may include a detail called a due-on-sale clause. This type of provision states that in the event of a transfer of ownership, the existing mortgage must be paid in full. In this instance, if neither refinancing nor paying off the existing loan is possible, selling the property might be the only other option.
Another key component in this situation relates to taxes. The choice of whether to sell the property immediately, keep it to live in, or convert it to a rental will determine the amount of taxes owed and when they are assessed. An inherited property is not considered income for Federal tax purposes. However, when a person dies and leaves their home to a non-spousal heir, the recipient of the property will be required to pay taxes if they sell for a profit down the road.
Thankfully, the step-up in basis rule allows the inheritor of the property to pay capital gains taxes on only the difference between the property’s value on the date of the decedent’s death and the price at which they sell the property. And since determining a property’s value and subsequent cost basis is a subjective process, consulting a qualified tax professional is strongly advised.
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Malcolm Ethridge, CFP®, CRPC® is an Executive Vice President and fiduciary Financial Advisor with CIC Wealth, based in the Washington, DC area. He is also the host of the Tech Money Podcast. For more information or to schedule a consultation with Malcolm, click here.
Malcolm’s areas of expertise include retirement planning, executive benefits, investment portfolio development, and insurance. To subscribe to Malcolm’s monthly newsletter and receive more content like this, click here.
CIC Wealth, LLC does not provide legal or tax advice. Be sure to consult with your tax and legal advisors before taking any action that could have tax consequences.
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