Non Arm’s Length Transactions

Buying a Home From a Relative: Common Misconceptions

When looking to purchase a home, you may have a family member whose home is on the market. While it may seem like a good idea, purchasing a home from a relative usually brings with it a lot of unintended consequences. Many people believe that working with a family member should be quick and easy, and that it might even be possible without a real estate agent or lawyer. This is not the case.

Non-Arm’s Length Transactions

When a transaction takes place between two strangers, this is considered an arm’s length transaction. When the transaction is between two people who do have some connection to one another (friends, family, co-workers, etc.), this is considered a non arm’s length transaction. Non arm’s length transactions can be risky, however, as the connection between both parties could undermine the buyer’s mortgage application in various ways. One of the biggest concerns is the risk of committing fraud – even unknowingly. Because both parties know each other, the seller may want to cut the buyer some slack and give them a better deal. Any manipulation of rates or list prices as a favor could be interpreted as mortgage fraud.

Worried? Consider Arm’s Length Principle of Transfer Pricing:

Arm’s length principle of transfer pricing ensures that the amount charged for a home is the same price regardless of whether the transaction is between strangers or close friends. Lenders exhibit increased scrutiny during these transactions in order to make sure that both parties are engaging in a fair transaction. Such careful attention to detail helps prevent or detect mortgage fraud.

Other Restrictions

There are other restrictions that one should be aware of when buying a home from a relative that may make it harder to get a loan. You may, for example, have to pay extra taxes on your home or pay a larger interest payment, since the IRS will be watching your home-purchasing process closely. You will also be penalized with higher capital gains taxes if you decide to sell your new home shortly after purchasing it.

Things to Keep in Mind

Another thing to watch out for is jealousy. Buying a home from a family member may cause tensions between you and other family members. This typically occurs if you’re purchasing a home that has been in the family for a long time, like a beach house.

If you do decide not to use a real estate agent, work with a title company to protect yourself from other liens that may be on the property. Additionally, don’t be afraid to get legal advice at any step of the way, even if you have complete faith in the home’s seller. Also, make sure the current owner is up to date on all mortgage payments. Feel free to get a second opinion on your mortgage offer, too. When it comes to purchasing a home, it is always better to be safe than sorry!