How Parents Can Help Children Buy a Home: Intrafamily Mortgage Financing Explained
In today’s housing market, many first-time buyers, especially younger buyers, face significant challenges. High interest rates, competitive bidding environments, and limited inventory have made it increasingly difficult to secure a starter home. For parents who have the financial ability to help, the question often becomes: What is the best way to do so?
While gifting cash or transferring ownership of property may seem like the simplest approach, those strategies carry meaningful legal and tax implications that should not be overlooked. Fortunately, there is a lesser-known option that can benefit both parents and children: intrafamily mortgage financing.
Under this approach:
- Parents provide the purchase funds in cash at closing, allowing the child to make a highly competitive cash offer in a tight market;
- The child signs a promissory note and mortgage in favor of the parents; and
- The child repays the loan over time, just as they would with a traditional bank mortgage.
This structure offers several advantages. A cash offer can make a significant difference in a competitive market, increasing the likelihood that a seller will accept the offer. The child can also benefit from a lower interest rate than what is typically available through traditional lenders, reducing monthly payments and overall borrowing costs. For parents, the arrangement creates an investment opportunity, allowing them to earn interest on the funds loaned while holding a secured interest in real estate.
However, these arrangements must be structured carefully to avoid tax issues. The Internal Revenue Service (IRS) requires that loans between family members carry an interest rate at or above the Applicable Federal Rate (AFR) in effect at the time the loan is made. This is important to avoid imputed interest and potential tax liability. While this requirement must be followed, AFR rates are typically lower than commercial mortgage rates, which allows families to retain the economic advantages of the arrangement.
Parents should also be aware that interest received is generally taxable income and that proper documentation, including a promissory note and recorded mortgage, is essential.
With appropriate planning, intrafamily mortgage financing can provide a flexible, tax-compliant way to help children achieve homeownership while preserving and growing family wealth.
If you are interested in structuring the type of private lending described above, please reach out to McKenna Rivers at 616-726-2209 or mrivers@fosterswift.com.
