cancel
Showing results for 
Search instead for 
Did you mean: 

Second home...need to convert to rental on tax return?

Highlighted
Established Member

Second home...need to convert to rental on tax return?

Need some advice...long story short...DW helped her mom by financing a modest 100k home before we were married. So mortgage is in DW name, MIL though pays the mortgage company directly, so the money never hits our account.

 

We are going to be applying for a home in the near future, but I would assume that this mortgage will be added to our DTI, without us having any documentation on our tax returns regarding it being paid by my MIL. For tax purposes, we have always just filed it as a second home and have deducted normal interest and taxes.

 

What will a LO want us to do? Should I file an ammended return to treats it like rental property? How many years back? Convert it starting now?

 

One good point is she never files for a homestead exeption, so there are no tax implications regarding that.

 

The house payment is about $900, so not back breaking, but it may limit what we are approved for.

 

Many thanks in advance!!

Message 1 of 8
7 REPLIES 7
Highlighted
Valued Contributor

Re: Second home...need to convert to rental on tax return?

It seems as though you are saying that you have been deducting interest and taxes but have not been making the payments. You can't deduct interest on a second home if you don't have the actual expense to deduct. You also aren't claiming the income. I would think that is tax fraud. I would be careful and would suggest you should talk to a CPA soon.

 

 

Message 2 of 8
Highlighted
Community Leader
Super Contributor

Re: Second home...need to convert to rental on tax return?

I agree with Greg - you need to have the tax returns straightened up if you are planning on wanting to use the rental income to qualify.  If you and your wife will both be on the loan, or if you are in a community property state and you are only going to be on the loan and you are using FHA, VA or USDA financing, and your income can qualify for both the new mortgage and the home your MIL is in then you could be fine qualifying now.  From a qualifying standpoint you'd want to have at least the last year's tax return showing income, perhaps even 2 years, and then a copy of the lease agreement too to show that there is a current renter in there.  If you don't have one in writing you can create one and make the effective date when she started paying the mortgage, as just because one didn't exist back then doesn't mean there wasn't an agreement.  However I'd consult with a CPA to make sure you are filing your tax returns properly in either situation.

Helping people with mortgages (FHA, VA, USDA, Fannie, Freddie, Non-Prime, Construction, Renovation/Rehab, Commercial) since 2002
Located in Orange County, CA and lending in all 50 states
Message 3 of 8
Highlighted
Established Member

Re: Second home...need to convert to rental on tax return?

Thanks guys! I have an appt with a CPA later today. I guess i really never thought about it being tax fraud in that way. Honestly, not trying to be defraud the IRS, just lazy I guess in not looking into the transaction and seeing how it should be handled.

 

We arent making any money on the situation other than we are claiming the interest and tax as a deduction, and thats only because the note is in our name and we receive the bank statements and 1099s. So there is no income we are not reporting. I guess I didnt see it as being much different whether my MIL sent the check straight to the bank or she wrote us a check and I payed the bank.

 

I do think I need to get it cleared up with a CPA and make sure we are reporting it correctly for both a mortgage loan, but also for normal tax filing.

 

Thanks for the feedback! Much appreciated!

Message 4 of 8
Highlighted
New Contributor

Re: Second home...need to convert to rental on tax return?

I wouldn't stress too much about the thought that this is fraud.  The tax code is enormous . . . how can anyone be expected to not make any mistakes?  The impressive bit is that you're being proactive to fix them.  I'm betting that you'll just have to file ammended returns.

 

Technically, the money your MIL is paying on the mortage is income.  Since the mortgage is in your name, she is paying on your behalf, not hers.  It is very similar to a rental situation.  You aren't paying your mortgage out of your pocket, so to take the interest deduction without reporting the income from the MIL payments isn't correct. 

 

The worst that will happen is that you'll be dinged a bit for the missing extra income on your past returns and have to pay some back taxes.  Keep in mind that (from what I've read here) those might have to be paid before you apply for a mortgage.  If the amount is substantial, you could start a payment program.  But that would add to your monthly debts and be figured into your DTI.  And there is always the chance that an underwriter would ask for that debt to be settled. 

 

The bonus from making the correction is that you get to include that income from the MIL payments on your mortgage application, which will positively affect your DTI and the size of loan for which you are likely to qualify. 

Message 5 of 8
Highlighted
Established Member

Re: Second home...need to convert to rental on tax return?

met with the CPA...he said not to worry about it...that it wouldnt be considered fraud because I could just say she gifted us the amount every month.

 

because its a passive transaction and I am not making any money off it, he recommended to just continue to do it the way I am, but maybe have the MIL send me the check for roughly the same amount each month to make it cleaner.

 

I think I'm going to play it by ear, because I think we can qualify with having the second mortgage in our DTI, without the oufsetting income. If not, I can always convert it toa rental property but i will need to pay tax on that extra income, which I think would be about $3-4k to do.

 

Thanks all for the feedback and suggestions!

Message 6 of 8
Highlighted
New Contributor

Re: Second home...need to convert to rental on tax return?

Well, you've done your due dilligence by consulting a professional.  That's all anyone could expect.  Good luck then!

Message 7 of 8
Highlighted
Valued Contributor

Re: Second home...need to convert to rental on tax return?

That is excellent news.

 

I'm hoping that this is the same CPA that is preparing your tax returns each year.

 

Might want to get prequalified with the existing tax returns. That way if you need to amend your returns you will have plenty of time.

 

Good Luck!

Message 8 of 8
Advertiser Disclosure: The offers that appear on this site are from third party advertisers from whom FICO receives compensation.