Contrary to popular opinion, doing so doesn’t have to stifle their development into a productive member of society, hurt your relationship with them or harm your net worth.
“Buying a home for your child can accomplish a number of things,” says Nancy Hermann, regional trust manager for U.S. Bank Wealth Management. “It can help with the chemistry of the family, and it can be a portfolio diversifier for the parents.”
Below are four reasons why it can be a good idea.
For high net worth families, the cost of a house usually isn’t an issue. However, conflict can arise in how this type of purchase meshes with your values. Does a home for your favorite young adult help develop character or instill dependency?
Hermann says that when handled correctly, it can be a positive move. “If you take the idea of investing in your child a step further by purchasing a home, you can create a sense of responsibility by requiring them to pay rent or utilities to help teach them about managing a household and being accountable,” she says.
Because your family members’ needs change over time, agree upfront on ground rules to avoid future conflict. For example, consider drawing up a lease for your child, to make sure all responsibilities and home agreements are legally recorded and upheld.
You can also consider making a home an outright gift. This can be seen as an advance on a child’s inheritance, allowing you to take advantage of the current federal tax exclusion on gifts and estates. In 2018, each parent may give a gift to a child of up to $5.6 million under the gift tax lifetime exemption before the funds are subject to federal taxation.1 As tax rules are subject to change, you should consult with your tax advisor before making a gift.
If your child is struggling to land on their feet financially or they need a place to live during college or grad school, you might consider buying a property and allowing them to live there rent free, Hermann says. After your child moves on, you can consider keeping the property and take advantage of potential long-term appreciation and opportunities to earn rental income.
If you rent out the property, not only will you get a stream of (taxable) income, but you may also be able to deduct expenses like repairs, mortgage interest, utilities and depreciation. But remember, when you sell a renter-occupied property, you’re less likely to qualify for a capital-gains tax exemption.
You also have another option to invest in your child: Rather than buying a home in your name for your child, you can buy it through a family trust, with parents and child named as designated joint beneficiaries.
This could be done several ways. For instance, a child could receive an outright distribution; trust assets might be used as collateral on a loan to the child outside the trust; or a loan could be made from the trust.
“The trust options might be helpful in situations where the child does not otherwise qualify for a conventional mortgage,” says Terry Ruhe, regional trust manager for U.S. Bank Wealth Management.
Another option is a Qualified Personal Residence Trust (QPRT). This involves transferring or gifting a home into a trust for a limited time and your child owning the home once the QPRT expires.
“A QPRT reduces transfer taxes when compared with an outright gift,” says Ruhe. “The idea is to freeze the value of the residence when it’s originally contributed to the trust, which will hopefully result in significant tax savings over time.”
If you use a QPRT, you have the option of leasing the home back from the child when they receive the home at the end of the trust’s term. You can then live in the home and lease it at fair market value.
Discussing the details of your QPRT before the trust term ends should, ideally, prevent any misunderstandings between you and your child.
Overall, if you’re considering buying a house for your child as an investment, it’s important to think big picture, both financially and personally. Your investment should work financially within the constraints of your portfolio, but it also needs to be in the best interest of your child and your relationship with them.
Contact a wealth advisor to learn more.