How do I use cash to cover my partner's equity?

Question

I'm planning to partner with my son when he turns his current house into a rental. We'll be 50/50 partners. If he has 50k in equity, how do I legally get 25k to him to cover half the equity and not trigger a gift tax situation?

We'll probably start as a general partnership but may end up as LLC.

Any ideas would be appreciated.

We'll probably start as a general partnership but may end up as LLC.

Any ideas would be appreciated.

Kevin Brown · Answer

@Andrew Reyes

Thanks for the ideas. Gives me a bit to think about.

Andrew Reyes · Answer

Hi @Kevin Brown,

I do not see the gift tax issue. Based on the information you provided, it sounds like you plan to acquire a 50% interest in the property. This would most likely be a taxable sale for your son. If he will have a gain (i.e. proceeds in excess of basis) there are ways for him to defer or exclude this gain in the year of sale.

Gain on sale of residences may be excluded from income.

1031 exchange and QOZ may allow him to defer the income to a later year.

Engage a tax professional as there are many details that need to be worked out in order to qualify for any deferral or exclusion transaction.

Kevin Brown · Answer

@Eamonn McElroy

Thanks for such a quick answer. I figured this wasn't going to be an easy deal.

With the LLC you mentioned, I guess he would contribute the property and I would contribute 50k to be 50/50 on equity. I was hoping there was some way for him to contribute the equity and I could pay 25k to him to balance the equity.

Eamonn McElroy · Answer

@Kevin Brown

There's several ways to go about it.  If you intend to be mere investors and TICs, then a gift from your son to you or a sale might be appropriate.  If you want to avoid a gift or sale, it might be advantageous to form an LLC taxed as a partnership and your son contributes the rental property while you contribute cash.  The cash can then be used for improvements or to acquire more property.

The latter gets a little complicated especially if there are liabilities associated with the rental real estate asset as well as built-in gains.  For this reason, and because the ultimate path will depend on both your and your son's facts, circumstances and goals, you should engage a tax professional for a sit down.  Most tax pros are extremely busy right now during fall "busy season" but there will be a 2.5 month window for planning and consulting from October 15th to January 1st.