Don't Be Afraid to Use 'Bargaining Power'

By Robert J. Bruss
Saturday, March 3, 2007

Q: DEAR BOB: I recently found a first-floor condo that I was ready to make an offer on. However, after my buyer's agent took me for a second viewing, we found water dripping from the ceiling in one of the bedrooms and a small pool of water in the second bedroom. The condo, in a renovated building, comes with a two-year builder's warranty. The unit has not been lived in since the recent renovation. I would expect the builder to repair the leaks and replace the hardwood floors where the water damage occurred. With the slow buyer's market, I planned to make a lowball offer, but I worry the builder won't want to lose any money and will refuse to replace the floors. I want to make a strong offer, but am afraid I will lose bargaining power if I make repair requests. -- Alexa S.

A: DEAR ALEXA: You can always raise your purchase offer, but you can't lower it. Make a low offer with the repair conditions you want. If the renovator says no, you can then either raise your offer or choose not to buy.

If your first offer is high and the developer accepts, that means you probably overpaid. Especially if the condo unit has been on the market for quite some time, the seller might be thrilled to receive any offer. Always remember his profit is in the sale of the last few units.

Be sure your purchase offer includes all the contingencies you want, including repair of the floors before you close the purchase. That two-year warranty is nice if you are dealing with a reputable seller, but your best protection is to get all known defects repaired before purchase.

DEAR BOB: My mother has been hospitalized for three months. As the only remaining direct family member, there are some financial challenges I will face after she dies because of her lack of planning. She has no written will, and she owns real estate, investments and bank accounts, as well as owning her house free and clear. What is the most efficient means of title transfer without interference by the state? -- Brad S.

DEAR BRAD: If your mother is mentally competent and able to understand, you should arrange for her to transfer her major assets such as her home and investments into a revocable living trust to avoid probate costs and delays after her passing. Presumably she will leave you those assets and name you as her successor trustee.

After she dies, as successor trustee you can then pay any debts and transfer those assets to yourself, as provided by the living-trust terms. If you are the sole heir, this should not be a problem. You will need a lawyer who specializes in living trusts to prepare one according to your mother's wishes. The lawyer should also prepare a "pour-over will" for any assets she overlooked.

DEAR BOB: We are in the process of buying a larger home and aren't sure what to do with the home we own because we can't afford both. If we sell our current home, we will lose about $50,000 based on similar nearby home sales, compared with what we owe. If we rent it for about $2,000 per month, that isn't enough for the $3,300 monthly mortgage payment. We have about $15,000 in savings, but that won't last long with a loss each month. I've been told about a "short sale," which is a step above foreclosure. But I'm not sure what that would do to our credit. Would a rent-to-own work so we could increase the monthly rent? What should we do? -- Hillary A.

DEAR HILLARY: Why would you contract to buy another house before selling your old home if you can't afford both houses? Unless you are in default on your mortgage payments, which would greatly harm your credit and probably disqualify you from getting a mortgage on the new home, your current mortgage lender won't even consider a "short sale" for less than the mortgage balance.

A lease with option to buy, also called "rent to own," could help if you can get a tenant to pay enough rent to come close to paying that $3,300 monthly mortgage payment. However, the tenant will expect part of that high rent to go toward the down payment when the purchase option is exercised.

If the home is worth $50,000 less than your mortgage balance, a lease option probably isn't your best solution.

I suggest you cancel the purchase of that larger home. Stay in your current residence. Your situation shows why it's always best to sell your old home before buying another one. I would like to be more sympathetic, but you got yourself into this mess and there is no easy way out.

DEAR BOB: We own a property bought in 1976, which has been rented since 1985 and is now fully depreciated. We want to do a Starker tax-deferred exchange to avoid profit tax. Can we exchange this investment property for an investment in a franchise? We have an opportunity to become an investor, with others, in a flourishing hamburger chain. Will this be tax-free? -- Gene S.

DEAR GENE: Acquisition of a franchise is personal property, so it is not eligible for a real estate Internal Revenue Code 1031 tax-deferred real estate exchange. That would be a fully taxable "unlike kind" trade of real property for personal property.

However, you could make an IRC 1031 tax-deferred trade of your investment property for another investment property of equal or greater cost, such as the real estate that is leased to the hamburger store. Consult a lawyer for details.

DEAR BOB: My grandmother sold her land to a friend and carried back the mortgage. After grandmother died, I inherited the promissory note and mortgage. Must I pay income tax on the interest I receive? -- David C.

DEAR DAVID: Yes. Interest income is taxable as ordinary income.

DEAR BOB: We just finished building a house on our lot and paid the builder cash. Do we need to obtain a deed to the house? The builder says we do not get a deed because we already have clear title to the land and the house is just an improvement to our lot. We have releases of liens from all the subcontractors. Our builder says it will cost us $2,000 to $3,000 to get a title clearance for a deed. Our custom home builder lives in the neighborhood and has been in business for several years, following in his father's footsteps. He enjoys a wonderful reputation. -- John and Mary H.

DEAR JOHN AND MARY: If you have an owner's title insurance policy for your land, that is the best assurance that you really own the property, including the new house built on it. If you don't have an owner's title policy, buy one from a title insurer. The fact that you received lien releases from the home builder, subcontractors and material suppliers is the best you can do to protect yourselves against mechanics' liens.

I hate to say, "Never trust a home builder," because I have known so many who are 100 percent honest. But there are also a few dishonest builders. Builders are notorious for filing bankruptcy to get out of paying debts. "Trust, but verify" should be your motto when doing business with contractors.

DEAR BOB: You often discuss "stepped-up basis" for a surviving spouse. When I married my husband almost two years ago, he already owned a house where we have been happily living ever since. He tells me his will leaves the house to me if he dies first. But he won't show me his will, so I am not sure. Should I insist he add my name to the title as "joint tenants with right of survivorship" just in case? -- Sarah T.

DEAR SARAH: Although I recommend both spouses have their names on the title to their residence, if your husband is reluctant to add your name to his title, you might not want to fight that battle.

Presuming his will leaves the house to you, upon his demise you would receive a new "stepped-up basis" to the house's market value on the date of his death. However, if you die first, he will not receive any stepped-up basis because he did not inherit any interest in the house from you.

Even if you are named in his current will to receive title to his house after his death, he can change that will at any time. Consult a lawyer for details.

DEAR BOB: My girlfriend and I bought a house together in 2006 in her name because she has perfect credit. But I want to get the tax benefits. Do I need to add my name to the title, or can I get the write-off without doing that first? What is the cost? -- Mat R.

DEAR MAT: Even presuming you pay all or part of the mortgage interest and property tax payments and have proof such as canceled checks, to claim the itemized income tax deduction your name still must be on the title to the residence. The reason is that then you are legally obligated to make those payments or lose the property.

If your name is not on the title, you are a "volunteer" who is not required to make those payments. Therefore, you are not entitled to any tax deduction for the 2006 payments you made.

However, if you have been behaving yourself, you can ask your girlfriend to execute a quitclaim deed to you for a 50 percent ownership interest. The settlement firm or lawyer who handled your closing can prepare the document at minimal cost, plus the recording fee, so you will be entitled to claim the deductions for your payments.

DEAR BOB: I am in the process of selling my home, and I will have a huge capital gains tax. Someone told me the cost basis of the house will be the market value of the house when I got divorced several years after the purchase. Is that true? -- Helga B.

DEAR HELGA: Divorce does not provide a new stepped-up basis to market value. The only way to achieve a new stepped-up basis to market value is to inherit property from a deceased owner. If your spouse had died and left the house to you, then you would have received a stepped-up basis. Consult a tax adviser to establish your adjusted cost basis.

DEAR BOB: My mother and I bought our home together. Title is in joint tenancy with right of survivorship. I wanted to put the title in a revocable living trust, but was told joint tenancy is just as good because the survivor automatically gets the house after a joint tenant dies without going through probate court. Is this true? -- Ann M.

DEAR ANN: Yes. Joint tenancy with right of survivorship is fine if neither of you ever becomes incapacitated.

But what would you do if your mother has a severe stroke or Alzheimer's disease and you had to sell the home? Without her signature on the deed, you can't sell until you have the court appoint a conservator for her.

Such problems can be avoided by holding title to the house and other major assets in a revocable living trust.

DEAR BOB: Is it necessary to make an Internal Revenue Code 1031 tax-deferred exchange before converting a rental house to my personal residence? Is there some way I can avoid that dreaded 25 percent depreciation recapture tax when I sell it? If I want to claim the $250,000 principal-residence-sale tax exemption, must I occupy it for 24 months and own it for 60 months? -- Robert B.

DEAR ROBERT: If I understand your question correctly, you already own a rental house that you want to convert into your principal residence. Presuming it was not acquired in an IRC 1031 tax-deferred exchange, you can make it your personal residence at any time by kicking the tenants out (subject to their lease terms, of course) and moving in.

To qualify for the Internal Revenue Code 121 principal-residence-sale exemption up to $250,000 (up to $500,000 for a qualified married couple), you must then occupy it at least 24 out of the last 60 months before its sale. There is no need to own the property 60 months unless it was acquired in an IRC 1031 exchange.

However, when you sell the property converted from a rental into your personal residence, the amount of depreciation you deducted after May 1997 will be taxed at the special 25 percent federal depreciation recapture tax rate. Consult a tax adviser for details.

DEAR BOB: Can I invest the funds in my individual retirement account in real estate? -- Tim H.

DEAR TIM: You can acquire investment real estate with funds in your IRA, as long as it is a self-directed IRA. However, you cannot use such funds to acquire your personal residence.

DEAR BOB: I own farm acreage in South Carolina, and it is now in coastal Bermuda grass. I obtained this property from my parents' estate. If I sell it for $10,000 per acre for the 15 acres, what will be my capital gains tax? -- Rau D.

DEAR RAU: Your adjusted cost basis is the fair market value of the property on the date you inherited the property. If you don't know this vital valuation, hire a professional appraiser to establish your "stepped-up basis" of market value on the date of the death.

Your taxable capital gain will be the difference between your stepped-up basis and your adjusted sales price (gross sales price minus sales costs). The capital gains tax will be the current maximum federal capital gains tax of 15 percent, plus applicable state tax. Consult a tax adviser for details.

DEAR BOB: Do I need to get a state certificate or license to become a real estate investor? Where can I get the license? -- Myrna A.

DEAR MYRNA: You do not need a real estate license or certificate to be a real estate investor. Millions of real estate investors do not have any license or certificate. Unless you want to sell real estate full time to earn sales commissions as an agent for property sellers and buyers, it will be a handicap for you to have a state real estate sales license.

The reason is that if you are a licensee, as a buyer or seller you might create a fiduciary duty to the other party to the sales or lease transaction.

However, I highly recommend you take all the real estate courses at your local community college so you can learn the fundamentals of real estate investing. The tuition cost is low, but the value of the knowledge is high.

DEAR BOB: My father died in July 2005 in Louisville and left behind, as part of his estate, two houses valued at about $150,000 each. To properly dispose of and sell these houses, are the heirs -- three adult children -- required to file papers in the probate court in the county where the property is? -- James T.

DEAR JAMES: Unless your father held title to his properties in his revocable living trust, or held title in joint tenancy with right of survivorship, probate of his estate in the local probate court where he was a resident will be required. There is an exception for small estates, but your dad's total assets seem to have been above that low limit, which is different in each state.

If your father left a written will, the probate court will distribute his assets according to that will. However, if he left no written will, then state law where he was a resident at the time of his death will determine who inherits his assets by the law of intestate succession.

Until the title to the real estate is transferred to the heirs, they cannot sell the properties.

For details, consult a probate lawyer where your father was a resident.

DEAR BOB: Before we bought our house in late 2005, we hired a professional home inspector. The $300 fee was well spent, as he found several significant defects that the seller agreed to have repaired before we closed our purchase.

However, in late 2006 we noticed a significant smell coming from the laundry room area. As it got worse, my wife could not go into that area because she started sneezing and coughing there.

One day I was talking with my neighbor about this unusual happening. He said our seller had noticed a similar smell but he didn't do anything about it before selling the house to us.

As the seller has moved out of state and probably has no liability to us, I'm wondering if our home inspector should have noticed this problem. My brother and I knocked out the laundry room wall on a weekend and discovered extensive mold, which was coming from a leak in the roof.

Because the roof was in bad shape, we replaced the entire roof and removed the mold-infested wallboard.

My out-of-pocket costs, excluding the new roof, were about $1,600. Do you think the home inspector should have discovered this mold and is liable to us for our costs? -- Alan W.

DEAR ALAN: Professional home inspectors are trained to discover defects that can be visually observed -- they can't see mold through walls. Even if you hire the world's greatest home inspector, he or she can't detect hidden defects.

Readers with questions should write Robert J. Bruss at 251 Park Rd., Burlingame, Calif. 94010, or contact him via his Web page, http://www.bobbruss.com.

© 2007, Inman News Service