A loan

[NotEasy]

Client said his father is going to give her a loan to buy a house and she is worried about the tax consequence. I explained to her a loan is not considered income and so there is no tax on getting a loan. But I suggest her to keep the proof that it is really a loan.

So my question is: What documents does she need to keep in order to prove that it is a legitimate loan?

The obvious one came to my mind is a promissory note. What else does she need other than a promissory note?

[DaveO]

Recording the mortgage at the Register of Deeds office is a good step.

[NotEasy]

Recording the mortgage at the Register of Deeds office is a good step.

Thank you. But I forgot to say her father is a non-resident. So the loan will be from oversea.

Can she record a loan from oversea in the Deeds office here?

[Lion]

Is she paying interest? Is her father filing a 1040-NR to report interest received. Does her mortgage company know it was a loan and not a gift? Did she file the form for receiving a gift from overseas? (don't know the number by memory)

[WhiteOleander]

Well, if it is a loan, it is not a gift. It might become one if she doesn't pay it back.

[NotEasy]

(1) Is she paying interest?
(2) Is her father filing a 1040-NR to report interest received.
(3) Does her mortgage company know it was a loan and not a gift?
(4) Did she file the form for receiving a gift from overseas? (don't know the number by memory)

(1) I need to ask her if she will pay interest. Would it be a problem if it is an interest-free loan?

(2) Her father is not a US resident. Is he required to file a 1040-NR if he receives interest from the taxpayer?

(3) I will let her know the importance of telling the mortgage company about it (in case she still needs to get a mortgage).

(4) Since it is a loan (based on what she said), I am thinking she does not need to file an oversea gift return. Please correct me if I am wrong here.

[ChEAr$]

Well, I don't see she has any problem at all, unless ultimately proving to IRS in case of audit that it was indeed not income.

[Gretel]

I am wondering if you client pays interest if she is also looking for a Schedule A deduction.

[geekgirldany]

I had a client who loaned their daughter money to purchase a house. They went to a lawyer to draw up the paperwork and made sure that it was not a below market interest loan. Daughter paid for several years but later got a loan from the bank. She paid her parents back through that loan.

[Burke]

Well, I don't see she has any problem at all, unless ultimately proving to IRS in case of audit that it was indeed not income.

Me, either. If it is an interest-free "loan," then it is a gift. The one who needs to be concerned here is the father. If he wants to be paid back, then constructing a proper promissory note and recording it at the courthouse as a lien against the property is the correct way to do it. If it is not for the full purchase price of the house, then I assume she is getting a mortgage for the balance. In that case, his claim will be secondary to the 1st mortgagor. I don't see any problem with the fact that he is overseas, but the promissory note, if any, should have his signature witnessed or notarized, and should clearly state the interest rate and term. An amortization schedule can be run for both parties to use if they wish.

[NotEasy]

Me, either. If it is an interest-free "loan," then it is a gift. The one who needs to be concerned here is the father. If he wants to be paid back, then constructing a proper promissory note and recording it at the courthouse as a lien against the property is the correct way to do it. If it is not for the full purchase price of the house, then I assume she is getting a mortgage for the balance. In that case, his claim will be secondary to the 1st mortgagor. I don't see any problem with the fact that he is overseas, but the promissory note, if any, should have his signature witnessed or notarized, and should clearly state the interest rate and term. An amortization schedule can be run for both parties to use if they wish.

Sorry, you lost me there. If it is a loan that the principal has to be paid back in the future, how can it be considered a "gift" even if it is interest-free?

Or did you mean the imputed interest (estimated based on the prevailing market rate of interest I believe) should be considered "gift"? I can understand it if that's what you meant.

[mactoolsix]

Form 3520

Did she file the form for receiving a gift from overseas? (don't know the number by memory)

The form Lion is referring to is Form 3520 - required for any transfers to or from foreign persons (related or not), trusts, etc that are of $100,000 or more. If this is truly an interest paying loan (or will have imputed interest) this form would not be required.

However, if it becomes a gift and is over $100,000 then the form would be required.

Mike

[Burke]

Sorry, you lost me there. If it is a loan that the principal has to be paid back in the future, how can it be considered a "gift" even if it is interest-free? Or did you mean the imputed interest (estimated based on the prevailing market rate of interest I believe) should be considered "gift"? I can understand it if that's what you meant.

Not exactly. Poor wording, I admit. I put the word "loan" in quotation marks to illustrate that it is not really a loan if there is no legally enforceable way such as a promissory note or something in writing to require repayment. It would be treated as a gift.

[NotEasy]

Not exactly. Poor wording, I admit. I put the word "loan" in quotation marks to illustrate that it is not really a loan if there is no legally enforceable way such as a promissory note or something in writing to require repayment. It would be treated as a gift.

Thank you for the explanation, Burke.