Q: I am one of three daughters who will inherit our home when our parents pass away. They have a mortgage on the home and some credit card debt. Would it be wise for us to purchase their home before their death, so their mortgage debt is paid off?
I recently sold my home and have money from that sale. I don’t want my parents to die with all of this mortgage debt on their shoulders and I’m not sure how we would be taxed on it once the probate process happens.
I was thinking since my older sister wants to potentially keep the home it might be better for us to get everything done now and to pay off the mortgage. We don’t want to be forced to sell by the lender when they die and their estate is probated.
A: Plenty of older Americans have mortgage and credit card debt and, like you, their relatives worry about what will happen after they die. We frequently get questions about how to handle that debt, especially if there aren’t a lot of other assets.
Let’s start by saying that lenders generally won’t demand the repayment of a residential mortgage loan when the owner dies. Lenders will call the loan when the borrower or the borrower’s heirs fail to make the mortgage payments. If you keep making the payments, then the loan will stay in good standing. So, if you and your sisters have enough resources, this shouldn’t be an issue.
Unless your parents die together, when the first of your parents passes, the surviving parent should become the sole owner of the home if your parents hold title as joint tenants with rights of survivorship. The surviving parent does not need to worry about the lender as long as he or she continues to make all the mortgage payments on time. When your other parent dies, the three of you would inherit the home.
Many years ago, the federal government passed the Garn-St. Germain Depository Institutions Act. This act protects spouses and children when the owner of a home adds spouses or children to the property’s title. In other situations, the act prevents a lender from calling the loan when the owner puts the title into a living trust.
Since the mortgage can continue to be paid, there’s no reason to pay off the mortgage loan now or to buy the home from your parents so that they are debt free. When they die, if you want to pay off the remaining loan, you can.
Of course, your parents have credit card debt as well. If they die with credit card debt and do not have enough assets to pay off the debt, the debt will die with them. But if they own a house at the time of death and there is equity in the property, the creditor will expect the estate to liquidate the assets and pay off the debt. If your sister wants to stay in the property, at that point in time, she could take over the property, make the monthly mortgage payments and find a way to pay off the credit card debt separately. Or, if you have cash and your sisters do not, you could pay off your parents’ credit cards.
From a tax perspective, buying the property to free them from their debt doesn’t make sense either. If you want to use the extra cash you have to pay off the loan and credit card debt, you could but we don’t recommend it.
We prefer that you inherit the home. When your parents die, tax law allows them to pass down quite a bit of wealth. Currently the amount is $11,700,000 for an individual and $23,400,000 for a married couple, although this could change under the current administration. That’s a huge chunk of change to pass down. Even if their estate isn’t even close to that, when they die, the home would get a stepped-up basis. This means that you and your sisters would inherit the home at its value at the time once both of your parents are gone.
If your parents bought their home for $25,000 many years ago and at the time of their death it’s worth $250,000, you and your sisters would inherit the home at the increased value. Your parents estate would pay no tax on the home and you and your sisters would pay no tax on the sale of the home if you were to sell it for $250,000 around the time of their death.
With where the law is today, it’s basically a win-win situation for you and your sisters. When your parents die, you and your siblings can decide how to divide your parents’ estate if you weren’t left with clear instructions. You can use any extra cash your parents have to pay off the mortgage and credit card debt, then split up whatever is left. If one sibling wants the house, the other two could end up with cash instead of the home.
The sister that keeps the home should refinance the loan on the home and use those proceeds to buy out the other two sisters. You and your sisters can sit down with your parents and figure out what their intent is regarding the property and then you and your siblings should discuss who wants what and what would need to happen to make that work. When it comes to death and taxes, planning is essential. Good luck.
(Ilyce Glink is the author of “100 Questions Every First-Time Home Buyer Should Ask” (4th Edition). She is also the CEO of Best Money Moves, an app that employers provide to employees to measure and dial down financial stress. Samuel J. Tamkin is a Chicago-based real estate attorney. Contact Ilyce and Sam through their website, bestmoneymoves.com.)