Q: Would you please take a moment and give me your opinion on the following question. I have received several different answers. My wife and I recently sold a second residence to our daughter. At the sale we reduced the sales price, in essence giving her $24,500 in equity, so that she would not have to make a down payment and also to avoid private mortgage insurance. Is the $24,500 subject to federal gift taxes?

Charles R.
Lynchburg, VA

A: You’re asking a tax question, so let me remind you I’m not an accountant. You should get a final answer from your tax professional or attorney. Nevertheless, the IRS rules on how to deal with gifts are quite clear – you just have to know where to look.

If a purchaser wrote a contract on your home for $150,000 and it was worth $175,000 – as the seller, you can sell it to him for that price. The discounted price could be considered a gift or it couldn’t, depending on what’s happening in the market place.

Many sellers discount their properties or provide subsidies in the tens of thousands of dollars to make the deal happen – however, that’s usually when the seller is faced with a buyers market and can’t sell the property in any other way. Even in a healthy market, many buyers I know find out after the house has been appraised that they have negotiated a good deal and are walking in with extra equity. In these cases, the intent was to sell the house for the highest price possible for the seller, not to “give” equity to the buyer.

If the $24,500 your “giving” to your daughter makes the property sell well under the fair market value, then this could raise a red flag to the IRS. However, at the agency’s web site, if you and your wife are giving the equity together, then you can gift up to $22,000 to your daughter.

The web site further explains that the gift tax is “a tax on the transfer of property by one individual to another while receiving nothing, or less than full value, in return. The tax applies whether the donor intends the transfer to be a gift or not.

“The gift tax applies to the transfer by gift of any property. You make a gift if you give property (including money), or the use of or income from property, without expecting to receive something of at least equal value in return. If you sell something at less than its full value or if you make an interest-free or reduced-interest loan, you may be making a gift,” according to the site. It’s due on April 15 following the year after the gift is made.

What you’re proposing, however, is a discounted sale to your daughter. The big question is, how much of a discount can you give her before Uncle Sam wants taxes from you.

Purchasers buying a house for under market value will have adverse tax ramifications later, however. The equity you handed over to the buyer may affect the home’s basis, since the determining factor for basis is the sales price when you purchase or build a house.

For instance, using the above example, when the buyer decides to sell the house 20 years later at, say, $500,000 (the projected worth of the house if its value grew at 6 percent per year), the basis (the original purchase sales price of $150,000) would first be subtracted to help determine the gain. The reduction of the basis would reduce the gross capital gain to $350,000. If the buyer is single, the deductible exclusion is $250,000, leaving $100,000 as the taxable gain. Depending on the tax rate (5 or 15 percent), the seller would owe at least $5,000 and up to $15,000.

If he had bought the property for the fair market value 20 years earlier, that extra $25,000 in basis would save the tax payer between $1,250 and $3,750 in taxes, depending on the tax rate at the time.

There are various ways to determine basis for a property. For those who receive a house as a gift, determining basis follows a few extra rules as demonstrated in the following chart from IRS Publication 528:

For those who inherit the property, however, the basis would be determined by the fair market value at the time of possession.

Published: September 26, 2003

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