By Benny L. Kass
Saturday, December 20, 2008
Q: My father died in January, and I have inherited his townhouse. He had a mortgage, on which I am making the payments. I have not notified the mortgage company. I am unable to obtain financing for a home in my name and have been turned down twice by mortgage lenders.
Does Maryland law allow me to assume this loan? If the lender finds out, can it pull the loan? I don't want to lose the house. There was a will (I was the personal representative and sole beneficiary), and I had a lawyer prepare the deed and record it in my name.
If I sell the home and pay off the finance company, are there capital gains taxes or other taxes that I might have to pay? It was my father's wish that the house be mine upon his death, yet I am afraid if I notify the mortgage company, I could lose the home. I am considering selling, but don't know how much would have to go to taxes.
A: Please relax. You are absolutely safe. As long as you continue to pay the monthly mortgage, you can stay in the house and fulfill your father's wishes.
Maryland law isn't a concern. There is a long-standing federal law that protects you. A lender "may not exercise its option pursuant to a due-on-sale clause upon . . . a transfer to a relative resulting from the death of a borrower," according to the Garn-St. Germain Depository Institutions Act of 1982.
You father's mortgage probably contained such a due-on-sale clause. These clauses state that, should the mortgage be sold or transferred to a third party, the lender has the right to declare the entire loan due.
These clauses make sense for lenders. If a lender makes a loan with a low interest rate and rates shoot up, the lender does not want another person to step into the shoes of the original borrower and continue making the low payments.
But the law also recognizes that due-on-sale clauses are unfair to many people, especially in situations such as yours, where you inherited the property and the loan.
Send your lender a copy of your father's death certificate and advise that you will be taking over the mortgage payments. There is nothing the lender can do to hurt you.
Your lawyer did the correct thing by recording a deed in your name. Too many people in your situation ignore the process, only to learn later that the house is still in the name of the deceased person. That can cause complications when the time comes to sell.
You also asked about the tax consequences of a sale. Because you inherited the house, you are entitled to what is known as a "stepped-up basis."
This means that your basis for tax purposes is the value of the property on the date your father died. Make sure that you have this number; you should be able to find it among the probate papers -- or the final tax return -- that your probate lawyer filed with the court. If it's not there, you should hire a professional appraiser to give you this value as soon as possible. The longer you wait, the harder it will be to determine the date-of-death valuation.
Here's an example: On the date of death, the house was appraised at $400,000. This is your tax basis. If you sell the house for that amount, you will not have to pay any capital gains tax. You may have inheritance and estate taxes to pay; your lawyer can explain those to you.
If you have not owned and lived in the property for at least two years, you will have to pay capital gains tax on any profit. For example, if you sell the house for $450,000 (ignoring for this discussion any closing costs or real estate commissions), you will have a profit of $50,000 ($450,000 minus $400,000). At the current 15 percent capital gains tax rate, you will owe the IRS $7,500. You will also have to pay some state tax on the profit.
However, once you have owned and lived in the house two years, you are eligible for another big tax break. That's when you start to be able to take advantage of up-to-$250,000 exclusion of gain from capital gains tax. So you could sell the house then for as much as $650,000 ($400,000 plus $250,000) without owing capital gains tax. (The exclusion goes up to $500,000 if you are married and file a joint income tax return.)
You say you can't qualify to buy another house now, so why not stay where you are? Consider talking with your current lender to see if you can at least qualify to refinance the loan. Interest rates are very low now, and it won't hurt to ask.
Benny L. Kass is a Washington lawyer. For a free copy of the booklet "A Guide to Settlement on Your New Home," send a self-addressed stamped envelope to Benny L. Kass, 1050 17th St. NW, Suite 1100, Washington, D.C. 20036. Readers may also send questions to him at that address or contact him through his Web site, http://www.kmklawyers.com.