Global Tax Insights
Help Your Child Purchase a Home with an Equity Share AgreementOctober 05, 2015
An agreement to share in the equity allows you to assist your grown child to purchase his/her home.
An equity share agreement allows adult children to own a home they might otherwise be unable to afford. By sharing in the purchase, the parent can obtain the tax benefits of owning rental property.
More about the arrangement
Under an equity share agreement:
- The parent must own a qualified ownership interest in the property. The child (resident owner) must pay rent to the parent and use the property as his/her primary residence.
- The child becomes the parent’s tenant to the portion of the home he/she does not own and rents it at a fair market rental rate.
For example: If the parent owns 50% of the property, the child would rent 50% of the property and the parent would report income for the rent he/she receives from the child. This income can be offset by his/her share of deductions such as: mortgage interest, taxes (50%), costs for property maintenance, and depreciation of his/her share of the cost of the residence.
When involving yourself in an equity share agreement with your child, there are some areas of caution that you will want to pay attention to:
- Deductions are limited- Since the child’s deductions for mortgage interest and real estate taxes are based on his/her ownership percentage, your child might not necessarily receive the anticipated income tax benefits of home ownership.
- Section 121 gain exclusion prohibited- Upon sale of the property, the parent will not qualify for the Section 121 gain exclusion that is allowed for personal residence. There will be a resulting taxable gain from the portion of the gain connected to the rental, and the gain might be tacked with the 3.8% net investment income tax (NIIT).
- Long term plans could change everything- Caution must be taken when the lease terms are agreed upon if the child expects to eventually purchase the equity of the parent or relative and the rental will produce suspended passive losses. Suspended passive losses ordinarily allowed at disposition are not allowed when the interest is sold to a related party.
Helping your child purchase a home that he/she would otherwise be unable to buy is a generous investment, but you will want to be sure you understand all the risks and considerations involved in the process before committing yourself to such an arrangement.
Questions? Contact any member of our Private Client Services Group.