As a successful business owner, you may have family members turn to you for help with the purchase of a home. Even though mortgage rates are at historical lows, many potential home buyers took a hit on their credit scores during the recession and are turning elsewhere for funding. With both the housing market and the economy picking up speed, you might find yourself in the position to help a family member out with a loan to purchase or improve a residence. If you do plan to help a family member out, there are a few tax implications that you want to be aware of before you cut the check.

Family member loaning

The most important point is this; if the loan is undocumented or documented by an unsecured note, then the borrower can’t claim a tax deduction for the interest paid to you. But the interest you receive is fully taxable.

If you believe you may be in a position to help a family member out this year, it is worth taking a few minutes to understand the details included in the tax code when it comes to lending money to a family member for a home purchase or improvement.

To be deductible, the interest must be ‘Qualified residence interest’. Even when simplified, the definition is a bit of tax code speak but defined as ‘Interest paid or accrued during the tax year on acquisition indebtedness or home equity indebtedness concerning any qualified residence of the taxpayer’.

Acquisition indebtedness is defined as any liability that is incurred in acquiring, constructing, or substantially improving any qualified residence AND is secured by such residence.

The bottom line; the home is put up as collateral. Loans to family members tend to get extra scrutiny from the IRS. It’s best to have a note drawn up and recorded or perfected in agreement with Arizona state law.

If you have questions related to this situation or other matters relating to the deduction of home mortgage interest, please contact me.

Randy Randy J. Elder, CPA, P.C.

With nearly three decades of professional experience in public accounting, Randy provides his tax and accounting expertise to new and small businesses in a casual and friendly environment. Before founding Randy J. Elder, CPA, P.C., he held various positions with an international accounting firm, and with regional and local CPA firms. Randy earned his Arizona CPA license in 1988, and holds a Bachelor of Science degree in Accountancy from Northern Arizona University.

Facebook Twitter Google+