Grieving a loved one isn’t easy, and neither is dealing with inheriting a house. While it’s certainly a generous gift, it can feel stressful to process the logistics of inheriting a property when you’re going through tough emotions or if you’re not in agreement with other heirs on next steps. There are numerous considerations to think about, including the financial repercussions of such a gift, tax consequences and other legal requirements.
Your best bet is to consult an estate planning attorney to help you navigate the rules in your state. In general, though, here’s what you can expect to happen next and your options after inheriting property.
Inheriting a house: What are my options?
Before making any big moves, you’ll first want to determine if you’re inheriting a house that is paid off. If there’s a mortgage on the home, contact the loan servicer to ensure you’re taking the right steps. It’s also a good idea to contact the homeowners insurance company to determine what’ll you need to do, such as what paperwork is necessary to fill out.
When contacting the lender, let them know who you are and what your situation is. If possible, provide the death certificate of the borrower and any other required documents showing that you have a legal right to inherit the house. You may want to consult a real estate attorney to help you with any necessary paperwork.
The terms of the decedent’s mortgage and your state’s probate laws will also affect your decision-making process. The following are some scenarios you may encounter:
- Reverse mortgage: A reverse mortgage is a type of financial product in which homeowners access equity in their home, with no monthly payments. The loan is due when the original owner passes away or moves out. In many cases, you may be able to keep the property if you pay back the loan — refinancing the loan into your name may be possible to achieve this.
- Due-on-sale clause: This clause, which may be on the original owner’s lending documents, states that the entire loan balance is due if the borrower transfers the property. If you’re inheriting the property, you may have to sell the property or pay off the mortgage. However, family members may be able to take over the mortgage payments.
- Mortgage paid off by the estate: Depending on your loved one’s estate plan, it’s possible they’ve made financial provision to pay the mortgage off when they die. That means whoever inherits the property owns the home outright after the mortgage is paid in full.
- Underwater mortgage: If you’re inheriting a property where the mortgage balance is larger than the current value of the home, the lender may be willing to negotiate to accept less than what’s owed through a short sale.
Once you know the situation, the next steps you need to take will depend on what you want to do with the property. Your options include putting the home directly under your ownership, selling it, sharing the property with family, or splitting ownership if the home was co-inherited.
Beyond understanding the financial implications and gathering all of the necessary paperwork, you’ll also want to look at the home (and its condition) and communicate with other heirs to decide what to do with the home.
Do I pay taxes on inherited property?
Inheriting a home doesn’t automatically trigger any tax liability on your part. However, what you decide to do with your inheritance may cause you to pay taxes.
The good news is that if you do owe taxes, you’ll pay according to what’s called a step-up tax basis. This means that when you inherit the home, you’ll do so at the fair market value on the date the property is inherited. Plus, you’ll only pay tax on any gains or profit between the time when you inherited the home and when you sell it.
For instance, let’s say the home you inherited from your aunt is now valued at $350,000. If you decide to sell the home, and the value hasn’t gone up, you’re in the clear tax-wise. However, if by the time you sell the home it’s worth $450,000, you may be taxed on the gains, which amount to $100,000.
The tax you may need to pay is called capital gains tax — a federal tax based on the gains you made from selling property. There are some exceptions for capital gains tax, such as if you’re selling your primary residence that you’ve lived in for at least two out of the last five years. So, if you decide to move into the inherited property and sell it after living in it for three years, for instance, you most likely won’t pay capital gains tax.
However, if you decide to sell the home before that time period is up, or it’s not considered your primary home, you’ll be taxed using the step-up tax basis.
Option 1: Put it in your name
One option you have if you’ve inherited a home is to put it in your name. The freedom of owning the home solely in your name means you can make any decision in regards to the property without needing to consult anyone. You can move in, rent it out, or let it sit there for investment purposes. Before moving in, however, consider paying for a home inspection to ensure it’s safe to live in and to make note of any repairs that may be needed.
Keep in mind that no matter what you choose to do with the property, you’ll be responsible for home maintenance, homeowners insurance, monthly mortgage payments, and any additional expenses such as HOA (homeowners association) fees as long as the home remains in your name. You’ll also be responsible for paying property taxes.
Option 2: Selling inherited property
Selling an inherited house — another option you’ll have when inheriting property — offers the benefit of immediate cash flow, which can come in handy if you have other needs for the funds, such as making repairs to your current home or paying for your child’s college education.
If you do decide on selling the inherited property, you’ll most likely incur some expenses. For instance, there may be repairs or changes to the home that you’ll need to complete before you can put the home on the market. There are also taxes you may need to pay as well as sales commission to real estate agents. If the home sale results in a profit, you may be liable for capital gains tax.
Option 3: Sharing ownership or selling to family
In many cases, there are multiple beneficiaries involved when inheriting property — especially in cases where you’re inheriting a house from your parents. If you’re in this situation, having more than one owner can make choosing the right option more complicated.
For those in this situation, here are some options to consider:
- Sell the home and split the profit: A simple solution is for everyone to agree to sell the house, and split the proceeds after deducting commissions and expenses.
- Buying out the other party: If one person wants to sell and the other wants to keep the home, one person can buy out the other, either by refinancing or paying for their share in cash. There may also be out-of-pocket costs to consider in this scenario, such as for getting an appraisal and covering closing costs for a new loan.
- Drafting a promissory note: If there’s someone who wants to keep the property but doesn’t have access to a mortgage or enough funds, they can draft a promissory note. This will outline how they’ll make payments to the other co-beneficiary for their percentage of the home’s value. That way, whoever wants to sell the home will receive money (plus interest, if that’s what you agreed to) for their share over time. It might be a good idea to hire a real estate attorney to help draft the promissory note and complete any steps necessary for the closing process.
- Rent the home and split the income: If everyone agrees, it might make sense to rent out the property and split the income received. You’ll all need to agree on whether short- or long-term rentals make sense as well as who will be responsible for managing and maintaining the property.
- File a lawsuit for partition: This option should only be used if nobody can agree on what to do with the property and isn’t willing to negotiate. When you file a lawsuit for partition, you’re essentially asking the court to order the sale of the inherited property. Doing so can get expensive and take a long time to settle. Plus, the legal fees could mean you’ll receive much less than what the house sells for.
Inherited a home and need to refinance the mortgage? Contact a local Finance of America Mortgage Advisor today to explore our refi loan options.