Use of a deed and a mortgage in combination is a common method of transferring the ownership of real estate between unrelated persons. The seller deeds title to the property to the buyer. The buyer makes a down payment and gives the seller a mortgage on the property to ensure payment of the balance of the purchase price.
Where this method is used in estate planning, the parents may for example deed title of the farm to the child and the child could encumber title by giving a mortgage back to the parents. This method should be encouraged, provided the child can make sufficient down payment. Often the child cannot; and, from the parents’ viewpoint, there are serious disadvantages when little or no down payment is required. Passing the title to a person who might have little incentive to increase equity involves some risk. In this type of situation, some authorities believe the child should pay at least one- fourth of the purchase price before the parents pass title. This amount could reasonably vary due to a number of factors.
Advantages
• Outright sale permits the purchasers to make permanent improvements on the land.
• A sale with a mortgage is a businesslike way of making the transfer. It is usually best to have the farm appraised to prevent family misunderstanding as to its value, especially if there is more than one heir.
• Equitable treatment of all the heirs can be separated from the problem of transferring the farm.
• The transfer may prevent the farm from becoming run down when owners become too old to maintain it properly.
• In instances where an estate tax problem exists, sale of the farm will set the value to be included in the estate for estate tax purposes.
• A sale to children makes it possible for the buying children to operate the farm during their most productive years.
Disadvantages
• The parents lose control over the property.
• The capital gains tax may be greater than the estate taxes would be. Selling by the installment sales method can be used to reduce the taxes. Installment sales must conform to certain restrictions.
• The parents may not receive enough for the farm. The parents often are tempted to sell for less than the market price; and, if their wealth is limited, this may later cause them hardships.
• If parents sell to one child for less than market price, conflicts may result with their other children.
• The estate cannot take advantage of current use valuation.