Many elderly clients feel the need (and rightfully so) to plan for the protection of their home from creditors, including government interests, during their elder years and after their death. It is too often forgotten the planning tools available that provide benefits now rather than later. In line with our recent posts regarding tax issues and real estate (see Life estates and Kentucky inheritance in estate planning), we would like to share some little known potential federal tax savings for the elderly community. Here are two illustrations of what you can do now to protect what’s likely your biggest asset: your home.
Having a child live with you
The United States Tax Court recently decided a case where a son moved into his mother’s home to take care of her after her divorce from the son’s father. The son could not afford to purchase an interest in the home, but he orally agreed to make the monthly mortgage payments, and in exchange, his equity interest in the home would gradually increase (presumably by the amount of principal on the mortgage that the son paid down). The son filed his IRS Form 1040, claiming a mortgage interest deduction for the tax year that he first began living in the home and caring for his mother. The IRS denied the deduction and imposed a substantial penalty. The Tax Court held that the son’s deduction was proper, and thus generally held that interest paid on another’s mortgage can be deducted. The Court explained that even though the son was not liable on the home loan secured by the mortgage, and that the ”indebtedness generally must be an obligation of the taxpayer and not an obligation of another,” the son could claim a deduction for the mortgage interest he paid because he was an equitable owner of the home (Phan v. Commissioner, Tax Court Summ. Op. 2015-1).This case represents a unique planning tool for the elderly community. A person may planto pass down his or her home to a child or children at death, but would like to remain in the home. However, the person may also have trouble paying the mortgage on the home. A child or children may move into the home, agree to pay the monthly mortgage in exchange for equity in the home, and properly claim a mortgage interest deduction for federal tax purposes.