One of the greatest advantages intra family loan has is that it can be a simple and effective wealth transfer strategy. It helps parents provide a financial resource to their children for a specific purpose or create a trust beneficial to them. Another great thing about intra family loans is that the rates used on it are usually more attractive than what may be available commercially and are significantly beneficial in a low-interest rate setting. The strategy has recently made headlines because of the actors, Brad Pitt and Angelina’s quite public and dramatic divorce.
Now you may ask, how does intra family loans affect divorce and how does it benefit the family? In this article, we will further discuss the role of intra family loans to manage divorce by using Brad and Angelina’s case as an example.
Breaking Down Brad Pitt and Angelina’s Case
The divorce of Brad and Angelina became a heavy drama that played out in the press for two years now. In the middle of all the public skirmishes, something came out that left most people confused: Pit loaned Jolie for $8 million dollars to purchase a home after their separation. Brad was requested to help out in paying for Angelina and their six children’s new home but he loaned Angelina money instead. The money has an interest that is being paid through a payment plan.
Was Pitt being too cold to his soon to be ex-wife and their six children? The answer is not really. The loan is considered to one of the most clever financial planning strategies an individual can use especially in a divorce. Pitt is taking advantage of intra planning in navigating the divorce proceeding. He’s actually being careful about making any unintended gifts to his soon to be ex-wife since the divorce settlement is not their hands yet.
A loan, when properly structured, can be a great tool to maintain control over the use of the proceeds. It also paves a way for a person to fund a business transaction or a marital dissolution.
The house that Jolie purchased using the money Pitt loaned her maintains clarity while the divorce is still going on. Intra family or “below market” loans have been very useful for family members in buying a home or providing liquidity in estate planning. It’s a classic strategy commonly applied in the world of tax planning.
The Risks Involved in Intra Family Planning During a Divorce
The main rule one must keep in mind before doing a below-market loan is that it must always be in good faith. In Pitt’s situation, it clear that he is only trying to provide a place for his family that is appropriate for their situation.
The IRS is asking basic loan requirements when structuring the loan to make sure the loan is not a gift. They are the following:
There must be a signed written loan agreement containing a fixed repayment schedule with the interest rate specifically stated.
The loan holder must include the payments in their tax return
If the loan was secured against real property, the payor can deduct it as a mortgage interest up to the legal limit
There must be correct documentation and structure with the coordination of an attorney and CPA. These factors must be properly addressed for the lender to avoid ending up having non-collectible debt.
The interest rate, on the other hand, must be set not below the market. In the tax context this means, the interest rate must be below a statutory rate called the Applicable Federal Rate (AFR) which has always been lower than commercial rates throughout the history. The AFR rates released by the IRS every month depends on the loan’s term; whether it’s 3 years or less (short-term), 3 to 9 years (mid-term), or more than 9 years (long-term).
How Can You Benefit From Below Market Loans?
A below-market loan can also be something people should consider; it’s not only useful in divorce situations. Those who are in highly inflated real estate markets in the U.S, parents, and grandparents who want to help their children to get into the market can take advantage of below-market loans making the process less challenging. It can also be used within a family to provide help on student loans instead of using private lenders.
Intra family loan is, therefore, a valuable technique that helps family members financially with a knowledgeable attorney and CPA who can make the process a bit easier as well.
