Can I Sell My House to a Family Member at Below Market Value?

There may be additional mortgage requirements and paperwork involved

If your family member will use a mortgage to finance their purchase, the lender may enforce more stringent rules than they would for an arm’s length transaction. The potential for fraud is generally higher when the buyer and seller know each other, and lenders will want to mitigate that added level of risk.

Below are a few special mortgage requirements that may apply:

• Paperwork that documents the appraised value of the home versus the purchase price (the difference is considered the gift of equity)
• For FHA loans, a down payment of at least 3.5% if the buyer’s credit score is 580 or higher, or 10% if their credit score falls between 500 and 579
• Completion of “gift of equity” paperwork if the home sold below market value
• Note within the settlement statement to record the equity gift

A cash sale will eliminate lender involvement, but it’s still highly recommended that the seller get an appraisal and save that paperwork for tax purposes. If you sold at market value or below the gift reporting threshold, you may eventually need to show proof of that if the transaction is ever examined by the IRS. You’ll also likely need it as part of the gift of equity paperwork so that the gift amount can be subtracted from your lifetime limit of $13.61 million, if applicable.

6 steps to selling your home to a family member

You’ve considered the financial and tax implications of selling your home to a family member and are ready to move forward. Follow these steps to complete the deal while managing the challenges of mixing business with family.

1. Consider hiring a real estate agent for impartiality

If you have a buyer in mind for your home and plan to sell it to them at a fair price, it’s understandable that you wouldn’t see the need to involve a real estate agent. You already found a buyer, so the agent’s typical workload of marketing and showing the home has already been greatly reduced.

But there are some pretty compelling reasons you may still want to hire one:

• In a sale among family members, a real estate agent can still serve a critical role as a transaction coordinator.
• The agent as a go-between creates a safeguard to help prevent familial strain and adds a level of formality and professionalism to an important transaction.
• By acting as a buffer between you and your loved one, for instance, the agent can make sure everyone’s satisfied with the terms of the sale — and will still be on speaking terms once the dust settles.
• A savvy real estate agent can also help make sure every detail of the transaction is handled correctly to prevent the appearance of anything fishy to the IRS if the transaction is examined.
• You’ll likely receive the benefits of an agent’s expertise at a lower cost. In a sale between family members, you should be able to negotiate a fee that’s lower than the usual 3% commission an agent charges since you won’t need help with marketing or showings.

“Everybody has to be on the same page at all times for the transaction to close successfully,” says Mike Tchobanian, a top real estate agent in Las Vegas. “A Realtor® can help coordinate the different steps and keep the ball moving forward. And if issues come up, they can guide both the seller and buyer on how to handle them.”

Example:

In selling her home to her son Tyler and his wife Maryanne, Diane enlists the assistance of a real estate agent. At first, she wasn’t sure if it was worth the extra money, though she was able to reduce the commission fee to 2.5% of the sale price.

But discussions start to get a bit frustrating when Tyler asks Diane to leave certain furniture items that she’d planned to take with her as part of the sale. Suddenly, Diane is glad to have someone outside the family who she can turn to for advice.

Diane engages the agent to express to Tyler on her behalf that she’s unwilling to part with her dining room table and family heirloom rug to add a buffer to an awkward conversation.

For the furnishings Diane is willing to gift, the agent reminds her to make note of those items and their approximate value since they could be subject to the gift tax. This helps to keep Diane’s documentation in order should the deal come under IRS scrutiny.

2. Determine a fair price for the home

You and your family member may already have a ballpark figure in mind for what the home should sell for. But if for nothing other than tax purposes, it’s still important to have an accurate gauge of the home’s fair market value at the time of sale. You can identify the market value of your home in a few different ways.

Begin with an online estimate:

While it doesn’t replace an agent’s comparative market analysis (CMA) or appraisal, our free Home Value Estimator is a great place to start in your determination of home value. Answer a few quick questions about your home, such as how much work it needs and whether it’s a single-family or townhouse. We’ll then comb through public data and relevant property sale histories, providing you with an estimate of home value in under two minutes.

Review your agent’s comparative market analysis (CMA):

One major benefit of bringing in a real estate agent during a family sale is that they will provide you with a CMA for the property. A CMA is a packet of paperwork, in some cases spanning 30 to 40 pages long. The CMA will list nearby, recently sold homes similar in size and condition to yours to determine what a buyer would be willing to pay for your home today.

This method of analysis allows the agent to develop a price range for your property and then add or subtract value based on its individual characteristics. A CMA will also take into account local market factors like the area’s average price per square foot and recent inventory levels. It’s considered a best-in-class tool for valuing homes and is what most sellers use to price their property for the market.

Get an appraisal: 

The appraised value isn’t quite the same as the fair market value. The amount a buyer is willing to pay for a home may diverge from the appraiser’s assigned value based on market trends. Nevertheless, the appraised value is considered to be the most official form of home valuation, and obtaining the opinion of value from a licensed appraiser is almost always a critical step in a family sale.

As a CPA and tax specialist, Wang notes that if your sale involves a gift of equity, you must get an official appraisal, so the IRS can determine the actual amount of that equity. “The IRS generally has three years to challenge a return after a gift tax return is filed,” she explains. “Having an appraisal will help substantiate the value of the gift should the IRS challenge it.”

An appraisal is a method of valuation that typically requires a licensed appraiser to perform an onsite visit and review relevant comparable sales. According to Angi, the process typically costs $357 on average for a single-family home.

In addition, if your relative needs a mortgage to buy your home, their lender will likely require a separate appraisal to determine how large of a loan they’re willing to provide to the borrower.

3. Be transparent about the family sale, for your neighbors’ sake

One ripple effect of selling a house below market value to a family member is that it can skew local comps. Therefore, records of the sale must be clear as to why your property sold for less. Appraisers, for example, need to know that your home is an outlier among the comps and that its sale price is not an accurate reflection of home values for the area.

Example:

Let’s say Diane sells her home worth $400,000 to her son Tyler for $100,000 less than fair market value. After he moves in, the next-door neighbors decide to sell their home.

The neighbor might have trouble getting their asking price of $400,000 since records show that Tyler bought the neighboring home for well below market value. Thankfully, though, the home was listed as a family sale in the public property records. Appraisers can see that it was a non-arm’s length transaction, and exclude what is now Tyler’s home from their analysis of local home values.

4. Sign the purchase agreement

Like any home sale, one between family members requires a purchase agreement. The information covered in both types of agreements is typically the same.

Among other details, the contract will:

• Identify the buyer and seller
• Provide a physical description of the property
• Outline the financial details of the transaction
• Document the conditions, terms, and specifics of the sale, such as the closing date and when the buyer will take possession

Even among family members, the tax and legal implications involved with the exchange of a house or property are often too complex to transfer with a handshake and a smile.

5. Don’t skip the inspection

A home inspection is a critical step in any home sale. To perform the inspection, a professional inspector will visit the home to identify safety issues and any major problems with the home’s core systems, including the roof, plumbing, HVAC, electrical, appliances, and foundation.

When selling to a family member, the inspection may feel like overkill. Perhaps you and the relative feel an underlying sense of trust that you’re aware of the home’s condition and nothing could go wrong. Maybe your relative has even visited the home frequently and is well familiar with it.

It’s almost always a good idea to get the inspection anyway. A formal evaluation will help avoid any suggestions of impropriety about the deal, while you can have the peace of mind that your family member is moving into a safe and functioning home. If significant repairs are needed, you’ll have the opportunity to adjust the price to be more fair or work with your real estate agent on crafting a revised contract.

6. Hire separate attorneys

In addition to hiring a real estate agent, some people hire attorneys for extra legal support during a family sale. If you do, be sure you and your relative each have separate attorneys. Going with a solo attorney can cause friction if one party feels their advice favors the other party. Hiring separate attorneys ensures that each of your interests are being protected. Plus, the two attorneys can work together to come up with solutions to problems that satisfy everyone and minimize legal risk.