Can You Inherit a House with a Mortgage?

Inheriting a home with a mortgage adds another layer of complexity to settling the estate, as explained in a recent article from Investopedia titled “Inheriting a House With a Mortgage.” The lender needs to be notified right away of the owner’s passing and the estate must continue to make regular payments on the existing mortgage. Depending on how the estate was set up, it may be a struggle to make monthly payments, especially if the estate must first go through probate.

Probate is the process where the court reviews the will to ensure that it is valid and establish the executor as the person empowered to manage the estate. The executor will need to provide the mortgage holder with a copy of the death certificate and a document affirming their role as executor to be able to speak with the lending company on behalf of the estate.

If multiple people have inherited a portion of the house, some tough decisions will need to be made. The simplest solution is often to sell the home, pay off the mortgage and split the proceeds evenly.

If some of the heirs wish to keep the home as a residence or a rental property, those who wish to keep the home need to buy out the interest of those who don’t want the house. When the house has a mortgage, the math can get complicated. An estate planning attorney will be able to map out a way forward to keep the sale of the shares from getting tangled up in the emotions of grieving family members.

If one heir has invested time and resources into the property and others have not, it gets even more complex. Family members may take the position that the person who invested so much in the property was also living there rent free, and things can get ugly. The involvement of an estate planning attorney can keep the transfer focused as a business transaction.

What if the house has a reverse mortgage? In this case, the reverse mortgage company needs to be notified. You’ll need to find out the existing balance due on the reverse mortgage. If the estate does not have the funds to pay the balance, there is the option of refinancing the property to pay off the balance due, if the wish is to keep the house. If there’s not enough equity or the heirs can’t refinance, they typically sell the house to pay off the reverse mortgage.

Can heirs take over the existing loan? Your estate planning attorney will be able to advise the family of their rights, which are different than rights of homeowners. Lenders in some circumstances may allow heirs to be added to the existing mortgage without going through a full loan application and verifying credit history, income, etc. However, if you chose to refinance or take out a home equity loan, you’ll have to go through the usual process.

Inheriting a house with a mortgage or a reverse mortgage can be a stressful process during an already difficult time. An experienced estate planning attorney will be able to guide the family through their options and help with the rest of the estate.

Reference: Investopedia (April 12, 2022) “Inheriting a House With a Mortgage”

Do You Pay Income Tax when You Sell Inherited Property?

From the description above, it’s clear the family had a plan for their land. However, from the question posed in a recent article titled “I inherited land that recently sold. What will I owe in taxes?” from The Washington Post, it’s clear the plan ended with the sale of the property.

For an heir who is expecting to receive a share of the proceeds, as directed in the mother’s last will, the question of taxes is a good one. What value of the land is used to determine the heir’s tax liability?

The good news: when the great grandfather died, the land passed to the mother and her siblings. To keep this example simple, let’s assume the great-grandfather’s estate was well under the federal estate tax limits of his time and there were no federal estate taxes due.

Next, the mother and her siblings inherit the land. When a person inherits an asset, they usually inherit both the asset and the step-up in the value of the asset at the time of the person’s death. If the great-grandfather bought the land for $10,000 and when he died the land was worth $100,000, the mother and her siblings inherited it at that value.

When the uncles sold the land after the death of their sister, the mother, her heirs inherited her interest in the land. If the person asking about taxes is an only child and an only beneficiary, then he should receive his mother’s one-third share of the land or one-third share in the proceeds. With the stepped-up basis rules, the son inherits the land at its value at the time of the mother’s death.

Assuming the land was worth $300,000 at the time of her death, the son’s share of the land would be worth $100,000. That’s his cost or basis in the land. If he sold the land around the time she died or up to a year after her death, receiving his share of $100,000, he would not have any federal income or capital gains to pay.

If the family sold the land for $390,000 recently, the son’s basis in the land is $100,000 and his sales proceeds would be $130,000, or a $30,000 profit. He would be responsible for paying taxes on the $30,000.

If the land was sold within a year of the mother’s death, there would be no tax to pay. However, after one year, any profit is taxed at the capital gains rate.

There will also be state taxes due on the profit and there’s an additional 3.8 percent tax on the sale of investment property. If the son used the home on the land as a primary residence, there would not be an investment property sales tax.

In this kind of situation where there are multiple heirs, it’s best to consult with an estate planning attorney to ensure that the transaction and taxes are handled correctly.

Reference: The Washington Post (July 26, 2021) “I inherited land that recently sold. What will I owe in taxes?”