In Home Care: House Sharing and the Tax Man

I was reading Stanton Lawson’s  blog (Senior Care: Golden Girl Homes - A New Lifestyle) the other day.  He was discussing a new trend- seniors joining together to obtain a house.  By splitting the costs, affordability is achieved- as well as companionship for all the partners.

But, the scenario cooked up by the lawyer involved (not Stanton) left a lot to be desired.  He had set up a partnership, helped the three women obtain a $ 300K mortgage on the house ($395K price tag) and a set monthly budget for household expenses.  All that sounded great- except for the partnership.

Here are the issues as I see them:

1. It is imperative that death of any one member (of the house partnership) does not put the loan at risk.
2. Provisions should one of the members need total nursing care- which can’t be afforded in this “group home” need to be accommodated.
3. It would behoove the partners to insure that each of them obtain the best financial benefits.
4. Provisions should be made to afford potential inheritors to retain the value of the home of the partner to whom they are related.

That’s why a partnership doesn’t work.  The general rule of a partnership is the death of a partner forces the dissolution of the partnership.  Which means, in this case, that the housing arrangements are at risk for the other partners.

Here is what I suggest:

This is why I would have set up a Limited Liability Corporation (LLC) for these three ladies (or any group looking to set up a similar relationship).  An LLC is similar to a partnership, EXCEPT it can survive the death of a partner, plus a few very special benefits that I will explain below.   Now, in an LLC, as opposed to a partnership, the other partners are not liable for the debts or obligations of any given partner.  Don’t get too excited- there is no way that the mortgage company is not going to know this and demand personal guarantees for the mortgage from each of the members.

But, there are other benefits.  Let’s start with item 2 above.  Should one of the partners need round-the-clock nursing care, their ownership can be sold to another.  And, that means the capital can be returned to the partner to cover her (his) nursing care costs and new abode.  Without putting the home and the arrangements at risk.

Moreover, should one of the partners die, the LLC can continue, obtain a new partner and then have that capital be added to the estate of the deceased.  All without putting the joint home at risk.

Meet Becky, Bertha and Bobby:

Now, we are into the “bonus” round.  All the other benefits that accrue to the members because they formed an LLC and not a partnership.  Let’s assume that Becky, Bertha, and Bobby (the three hypothetical women partners) have slightly different life situations.  .  . Together, all three women contribute $ 2100 a month for their home, with $ 1400 for the mortgage (taxes and insurance, included), $ 400 for utilities (electric, water, gas, and cable), and $ 300 for food.  (I would also suggest that they shell out $ 90 more a month for term life insurance - $ 100K for each of them- to protect the mortgage.)

Bertha gets all of her monthly income from tax-free investments, plus her social security check.  Becky, on the other hand, gets all her income from pensions and a 401(k), plus her social security check.  And, Bobby lost the money in her retirement funds with the 2009 fiasco, works part-time and gets a social security check.

Given this situation, it’s pretty clear that Bertha is not going to need the mortgage deduction to lower her taxes.  Because she won’t owe any.

Becky is going to pay taxes on her pension and 401(k) income- and a good portion of her social security will be taxable as well.

Bobby will be paying taxes on her employment income- and at least a portion of her social security check.

Watch LLC Formulation Shine

Here’s where the LLC formulation really shines.  There is no need to divide expenses of the LLC equally among the partners.  So, Bertha won’t need any of the mortgage interest or taxes listed on her Schedule A (Itemized deductions) and can leave them for use by Becky and Bobby. Becky can get 2/3 of the mortgage interest, and Bobby gets 1/3 of the mortgage interest and the real estate taxes.  Now, none of them owe any income taxes.   This means each of them can continue the partnership without worrying about their finances.

Back to my recommendation to have life insurance (closer to “credit” life insurance).  If G-d forbid one of them dies, the insurance can be used to pay the share of the dead partner, while the other two seek out a new member.  And, that new member will be buying a home that is now worth $ 420K, a gain of $ 25K since they bought it, which means the new partner will be shelling out $ 140K to become a member.  Of which, the dead partner’s estate obtains $ 134.4K ($131.7K of the initial investment, and $2.7K of the gain), plus the remainder of the insurance proceeds. The other two partners get to invest (or spend) the $ 2.7K gain they both made- which will be taxable to them.   Best of all, it’s just a sale of “stock”- no new mortgage, no new loan, just a simple deal.

The key point of the insurance was to make sure that the monthly payments can continue- without fail- even with the death of a member.

Now, that’s the right way to get this group home deal working.