What Happens If You Inherit A House With A Mortgage

Grieving is a process that can't be rushed — it takes time to rewire your brain to life's new reality. Clinical psychologist Frances O'Connor, who studies the brain's response to grief, told NPR that the science shows "if you have a grief experience and you have support so that you have a little bit of time to learn, and confidence from the people around you, that you will in fact adapt." Unfortunately, this need for time doesn't gel with the cold and calculated immediate practicalities of inheritance and real estate.

However, being systematic and fully exploring your new options is crucial to putting the property that you have inherited to its best use. According to Mint, the first thing to do is to confirm the formal property transfer with all the required paperwork. This will then allow you to learn about any liabilities that you have inherited alongside the property — usually some unpaid property taxes, and outstanding mortgage/home loan liabilities.

Firstly, you need to make sure no mortgage payments get missed while you decide what to do with the house. Next, contact other stakeholders and confirm if the property needs repairs to sell or rent. At this point, per Zillow, you have access to all the information you need to make the key decision facing anyone who has inherited a house with a mortgage — whether to move in, rent out, or sell the house.

Sell the property

When newly saddled with an inherited house and attached mortgage, a fast sale feels like the simplest option. Because ridding yourself of the house will also absolve you of the extra monthly mortgage payment you just inherited overnight, it can sometimes seem like the only option.

However, according to Steadily, you get less value from an immediate sale than from holding onto the property. Renting for a while before selling will allow time for property values to increase, but even just holding onto the property for a few months while you make renovations can greatly increase how much cash can be unlocked.

Inherited properties are often split between several heirs (three siblings inheriting a family home, for example). According to Smart Asset, often the crux of selling properties like this is getting multiple heirs to agree on the best course of action. Heirs can agree to work together, buy each other out of the property, or, in extreme cases, force the sale of the property by probate action (via Trust & Will).

Whatever the sales mechanism, profits from the property sale will be subject to capital gains tax. Rates vary, but the amount due is based on the sale price, minus any renovation costs and the value of the property on the day you inherited it (via Realtor). This is why it is so important to get accurate quotes for both house value and renovation costs right from the outset to gauge the viability of a sale.

Keep the property

If you don't want to sell, then you have the right to continue the mortgage you've inherited on the pre-existing terms, per All Law. This benefits younger and less financially secure inheritors, as their benefactor's terms are likely better than they'd be able to get — plus it saves time and hassle. However, depending on the mortgage specifics, refinancing could end up getting you better terms, so remember to explore all of your options.

Once financing is secured, you can either move in or rent the property out. If you move in, the property will be subject to capital gains tax when it is sold, as above. If you rent it out the same is generally true, but your rental income will also be counted as earned income by the IRS, and you have the option to defer capital gains if you transfer the money toward buying another investment property, according to Roofstock.

Renting out your inherited property can be a great way to start a property portfolio, as long as the rental income can cover the liabilities. The crucial rules for the financial viability of a rental property are the 1% rule and the 50% rule. Monthly rental income from the house needs to be at least 1% of the total value of the house, and expenses will account for 25-50% of the rental income (via The Real Estate Solutions Guy). If your house can pass these tests, your inheritance might be a fantastic investment opportunity.