Siblings, friends and unmarried couples often choose to buy property together. This trend may become more pronounced in the current market as renters take advantage of low home prices. Buying with another person or a group can be an advantage since lending standards have tightened and borrowers need better credit and more savings for a down payment.
If one friend can qualify for a mortgage of $125,000 and the other can qualify for a mortgage of $200,000, together they can borrow enough to jump from a one-bedroom condominium into a three-level town home or even a single-family home.
While that may sound like a simple solution for renters who want to become homeowners, there are multiple disadvantages and potential pitfalls for unmarried people buying property together. However, most of these possible problems can be overcome through carefully written legal agreements and consulting with a tax adviser.
“I recommend that any friends or couples or even relations, anyone who is not married, should make sure they have a written agreement before buying property,” says George Hawkins, an attorney with Peterson, Noll & Goodman PLC in Vienna. “The reason for this is that there is no comprehensive body of law related to property ownership. Married people have comprehensive divorce laws, which help dissolve property ownership if they split.”
Mr. Hawkins says that a relatively small cost now for a legal agreement can avoid an expensive legal battle later.
“It’s important to get in writing the details of contributions to the mortgage and what happens if someone can’t pay their share,” says Gary Peterson, an attorney with Peterson, Noll & Goodman in Vienna. “It’s especially crucial to do this while the glow is still there, while everyone is getting along, because it will be much harder to resolve later on when people are unhappy.”
Vince Keegan, an attorney with Keegan & Associates PLC in McLean, says that individuals buying property together should have a written agreement that not only details how they will hold title to the property, but also covers anything they may have to deal with related to the property (such as maintenance issues and how the ownership arrangement will be dissolved).
“The more people that are involved in a purchase, the greater the likelihood of problems,” says Mr. Keegan. “The same issues exist whether they are a couple, a brother and sister, two friends or a group of friends. When someone buys a home individually, they have to qualify for the loan and sign a deed of trust, but if there are five people on the title and only two sign the mortgage, then you need something in writing that obligates the other three people to make their payments.”
Jonathan Bromberg, an attorney with Bromberg Rosenthal LLP in Rockville, says that while the benefits of being able to buy a nicer home (or buy a home at all) are clear, there are lots of reasons not to buy with a friend.
“The No. 1 reason is that you don’t control your friend’s finances, so if they want to sell at a time when you don’t, what will you do?” says Mr. Bromberg. “That’s why a detailed agreement of the management of the property, tenancy and dissolving of the ownership is so important. The agreement needs to spell out that if one person wants to sell, the other owner has the right of first refusal, and it needs to specify that the owners will split an appraisal fee to determine the value of the property at that time. Otherwise, everyone will be in court.”
Mr. Bromberg says that one owner can file a lawsuit for “sale in lieu of partition,” which can be extremely expensive. He says the smarter decision in this case would be to agree to sell in order to avoid excessive fees.
Most married couples own property as “tenants by entirety,” which means that if one spouse dies, the other automatically owns the property - but this form of ownership is only available to married people. Mr. Bromberg says that unmarried co-owners have several options for the form of ownership.
“Owning as ’tenants by entirety’ will automatically take precedence even over a will,” says Mr. Bromberg. “Unmarried people, whether related or not, can own property as ’joint tenants with right of survivorship,’ which has many of the same properties as ’tenants by entirety,’ including the automatic transfer of ownership to the surviving owner if someone dies.”
Mr. Bromberg says that a key difference between “tenants by entirety” and “joint tenants with right of survivorship” is that creditors of one spouse cannot attach the property if they both own it, except for the federal government. However, the creditor of either owner in a ’joint tenant’ ownership agreement can go after the half of the property owned by the debtor.
In addition, a “joint tenant” agreement can be broken by either party without the agreement of the other.
“For instance, if one owner goes out and gets a home equity line on the property, then the joint tenancy agreement is severed, whether the other wants that or not,” says Mr. Bromberg. “In that case, the owners will need to re-deed the property to establish a new method of ownership.”
Many unmarried co-owners opt for a ’tenancy in common’ agreement. Mr. Bromberg says this allows each person to own a share of the property.
“The owners can own equal amounts or they can specify that one owns 20 percent while the other owns 80 percent or any other split,” says Mr. Bromberg. “In this case, if one owner dies, that person’s will controls who will inherit that owner’s share of the property.”
Mr. Bromberg says that choosing which way to own the property depends on the relationship of the owners.
“If the owners are a long-term couple, they probably will want to own as joint tenants with right of survivorship,” says Mr. Bromberg. “At the opposite end of the spectrum would be a group of investors who may want to form a limited liability corporation (LLC) or hold the property as tenants in common. In the middle range of relationships, it all depends on the planning agreement, but holding property as tenants in common is more likely.”
Mr. Keegan says that if a group of friends is buying a home, whether they intend to live in the home or not, they may want to consider forming an LLC or corporation.
“A legal partnership agreement is probably the safer way for a group of people to buy property together because the agreement can be written to specify how the partnership will be dissolved and how the proceeds of a sale will be handled,” says Mr. Keegan. “However, a partnership will limit the sources of funding since a regular mortgage broker may not be able to arrange financing for an LLC. The loan would have to be made directly by a bank.”
Mr. Peterson says an LLC does not make sense for two or three people who are buying property and living in the home because an LLC has additional expenses to arrange and maintain it.
“If you are in a friendly or committed relationship, there’s no reason for an LLC because then you are putting a legal vehicle for establishing a business relationship in the middle of a personal relationship,” says Mr. Peterson.
LLCs and other corporations also lack some consumer protections because they are meant for businesses.
“For example, mortgages usually have a ’due-on-sale’ clause, which means that if you sell the property or transfer it, they can demand that the mortgage be paid in full,” says Mr. Bromberg. “But federal legislation has a list of exemptions so that consumers are not required to pay their loan in full when, for example, they take out a home equity loan or transfer the property to a relative. These exemptions do not apply to property owned by an LLC.”
Mr. Hawkins says lenders are basically unconcerned with the relationship between buyers; they focus purely on who will guarantee the loan and who can qualify for the mortgage.
“Sometimes it is better for just one person to be on the mortgage because the other potential buyer has bad credit,” says Mr. Hawkins. “In this case, both names can be on the title with just one name on the mortgage. This is why it is important to have a written agreement establishing how much each will pay toward the mortgage.”
Mr. Hawkins says that in a case of a default on a mortgage placed in only one name, the damage to the borrower’s credit will be worse than for the co-owner. However, even the co-owner may have credit damage if the deed-in-trust is held in both names.
Mr. Bromberg says that while the mortgage holder is responsible for the debt, a foreclosure is on the property and affects everyone whose name is on the deed.
“The biggest disadvantage to co-owning a home is the risk of abandonment by one of the owners,” says Mr. Hawkins. “Lenders are typically unsympathetic to someone walking away from the home, particularly if that co-owner didn’t have good credit in the first place. So the owner left behind will be forced to sell or to rent the home in order to make the payments.”
Mr. Peterson points out that in many communities with a homeowner’s association, property owners are required to maintain certain standards to the exterior of their homes.
“If a deck has to be re-done and the owners disagree over who should pay for it, the homeowners could end up with a lien from the association until the work is done,” says Mr. Hawkins. “This is why even future repair and maintenance and even utility costs should be addressed in a written agreement.”
Co-owners not only split the expenses of homeownership, but they also need to split the tax deduction for their mortgage interest or for this year’s first-time homebuyer’s tax credit.
“In general, whomever pays it, takes it,” says Mr. Hawkins. “So even if you only own 50 percent of the property, if you are the one paying all the property taxes, then you can take the full deduction for those taxes on your federal income taxes.”
However, co-owners can also write into an agreement how they will handle tax issues. They should also consult a tax adviser or accountant to be sure they are dealing with tax consequences of their agreement appropriately.
While attorneys agree that written agreements are necessary when buying property together, they also see some benefits to co-ownership.
“Even though it can be risky, when you are buying a property with a friend you are already eliminating some risk because you have already vetted your potential co-owner as a person,” says Mr. Hawkins.
Consulting a real estate attorney and a tax adviser before buying property with any nonspouse can go a long way to protecting everyone’s interests.
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