Selling a house below market value is legal, and you can set the price at any figure you and the buyer agree on, even one dollar. But the IRS treats the discount as a gift, the buyer inherits your original cost basis instead of getting a fresh one, and if you might need Medicaid within five years the sale can lock you out of benefits. Those consequences catch families off guard because the transaction feels like a simple favor. It isn’t.
You Can Set Any Price
Property owners can transfer real estate for whatever amount they and the buyer agree on. Fair market value is the price a willing buyer would pay a willing seller on the open market when neither is under pressure. When you sell to a family member or friend at a discount, the transaction is called a non-arm’s-length sale because the price reflects the relationship rather than the market. The deed is just as legally valid as a full-price sale, provided it’s properly signed, notarized, and recorded with the county.
The freedom to pick the number is where the simplicity ends. Every dollar of discount below fair market value is a fact the IRS, a state Medicaid agency, a mortgage lender, or a creditor may later care about.
The Gift Tax Return You’ll Need to File
When you sell property for less than its fair market value, the IRS treats the discount as a gift. If your home is worth $400,000 and you sell it to your daughter for $250,000, you’ve made a $150,000 gift in the eyes of the tax code, even if you didn’t think of it that way and even if the buyer paid real money.1Internal Revenue Service. Gift Tax
The seller reports the gift on IRS Form 709. The return requires identifying information for both parties, a description of the property, the fair market value, the actual sale price, and the seller’s original cost basis.2Internal Revenue Service. Instructions for Form 709 (2025) You’ll also need either a qualified appraisal or a detailed written explanation of how you determined fair market value. Without one, the statute of limitations on the gift may never start running, leaving the IRS free to question the valuation indefinitely.
Annual Exclusion and Lifetime Exemption
For 2026, the first $19,000 of gifts to any one person is excluded from gift tax entirely.3Internal Revenue Service. What’s New — Estate and Gift Tax A married couple can combine their exclusions and give $38,000 to a single recipient without any reporting obligation. When the gift portion of a below-market home sale exceeds that amount, which it almost always does, Form 709 is required.
The amount above the annual exclusion counts against your lifetime basic exclusion amount, which for 2026 is $15,000,000 per individual.4Internal Revenue Service. Revenue Procedure 2025-32 You don’t actually owe gift tax until you’ve exhausted that entire lifetime exemption, so for most people Form 709 is a paperwork obligation, not a tax bill. The form creates a running record of exemption used. Skipping it can still lead to penalties and complications when your estate is settled.
The Tax Bill the Buyer Inherits
This is where families get blindsided. When someone buys property at a bargain price from a relative, the buyer doesn’t get to use the purchase price or the current market value as their tax basis. The buyer inherits the seller’s original cost basis, adjusted for improvements and depreciation.5Office of the Law Revision Counsel. 26 U.S. Code 1015 – Basis of Property Acquired by Gifts and Transfers in Trust
Say your parents bought their house in 1990 for $80,000 and it’s now worth $400,000. They sell it to you for $200,000. You might assume your tax basis is $200,000, the amount you actually paid. It isn’t. Your basis is $80,000, your parents’ original cost. If you later sell the home for $450,000, you’ll owe capital gains tax on $370,000 of gain, not $250,000.
Compare that to inheriting the same house. An inherited home receives a stepped-up basis equal to its fair market value at the date of death. If the home is worth $400,000 when your parents die, your basis becomes $400,000, and you’d owe capital gains tax on only $50,000 if you sold for $450,000. The difference between carryover basis on a lifetime discount sale and stepped-up basis on an inheritance can run into tens of thousands of dollars. For families thinking about a below-market sale primarily to simplify estate planning, that tax cost sometimes wipes out the benefit.
Medicaid’s Five-Year Look-Back
If you might need Medicaid-funded long-term care in the next several years, this section may matter more than the tax rules. Federal law requires states to examine all asset transfers made within 60 months before a Medicaid application.6Office of the Law Revision Counsel. 42 U.S.C. 1396p – Liens, Adjustments and Recoveries, and Transfers of Assets If you sold property for less than fair market value during that window, the state treats the uncompensated portion, the gap between market value and what you received, as a disqualifying transfer.
The penalty math is straightforward. The state divides the uncompensated value by the average monthly cost of nursing home care in your area. Sell a home for $200,000 less than its appraised value in a region where nursing home care averages $10,000 per month, and you face a 20-month period of Medicaid ineligibility. The penalty period doesn’t start running until you’ve applied for Medicaid and would otherwise be eligible, so the pain typically hits after you’ve already spent down most of your assets.
Transfers That Don’t Trigger a Penalty
Federal law exempts several home transfers from the look-back penalty entirely. You can transfer your home without affecting Medicaid eligibility to:
- Your spouse.
- A child under 21.
- A blind or disabled child of any age.
- A sibling who has an equity interest in the home and lived there for at least one year before you entered a nursing facility.
- An adult son or daughter who lived in your home for at least two years before you were institutionalized and provided care that allowed you to stay home rather than move to a facility.
Proving you qualify, particularly for the caretaker child exception, requires solid documentation.7Office of the Law Revision Counsel. 42 U.S. Code 1396p – Liens, Adjustments and Recoveries, and Transfers of Assets A physician’s statement confirming the level of care provided, records of the child’s residence at the address, and tax returns listing the home as the child’s primary address all help.
Undue Hardship Waivers
If a transfer penalty would leave you unable to pay for medical care or basic necessities like food and shelter, federal law requires every state to offer an undue hardship waiver process.7Office of the Law Revision Counsel. 42 U.S. Code 1396p – Liens, Adjustments and Recoveries, and Transfers of Assets The nursing facility where you reside can file the waiver application on your behalf. States set a high bar for approval, but the waiver exists as a safety net for people whose health or life would be endangered by the penalty.
The Mortgage Lender’s Role
If the home still has a mortgage, the lender has a say. Most mortgage contracts include a due-on-sale clause that lets the lender demand full repayment when the property changes hands, and selling at a discount doesn’t exempt you from that provision.
Federal law does carve out family situations. For residential properties with fewer than five units, the lender is prohibited from accelerating the loan when the borrower transfers ownership to a spouse or children.8Office of the Law Revision Counsel. 12 U.S. Code 1701j-3 – Preemption of Due-on-Sale Prohibitions The same protection applies to transfers into a living trust where the borrower remains a beneficiary, transfers resulting from divorce or legal separation, and transfers to a relative after the borrower’s death. The exemption blocks acceleration only. The original borrower stays personally responsible for the payments, and if payments stop, the lender can still foreclose.
A separate problem arises when the sale price is lower than the outstanding mortgage balance. The proceeds won’t cover the debt, and you’ll need the lender’s approval for a short sale, meaning the lender accepts less than the full payoff and releases its lien so the buyer gets clear title. Without that approval, the lien stays on the property regardless of what the deed says. Lenders typically require a market analysis or appraisal and may reject the deal if they believe the property could sell for more on the open market.
Creditor Challenges
Selling property below market value while you owe money to creditors opens a different legal risk. Nearly every state has adopted some version of the Uniform Voidable Transactions Act, which allows creditors to challenge transfers where the seller didn’t receive reasonably equivalent value. If a court finds you sold your home at a steep discount while insolvent, or that the sale left you unable to pay your debts, a creditor can ask the court to reverse the transfer.
Two factors drive the analysis: whether you received a price reasonably close to market value, and whether you were financially distressed when you sold. A $50,000 discount to a family member when you have no outstanding debts is unlikely to draw a challenge. Selling for half of market value while facing a lawsuit or carrying significant unpaid debts looks like an attempt to put assets beyond the reach of creditors, and courts treat it that way. Creditors typically have four to seven years to bring these claims depending on the state, so the exposure lingers well past closing.
Get a Real Appraisal
An accurate fair market value figure anchors nearly every issue above. The IRS needs it for Form 709. The state Medicaid agency needs it to calculate the uncompensated value. Creditors look at it when evaluating whether you received reasonably equivalent value.
For gift tax purposes, the IRS requires either a qualified appraisal or a thorough written explanation of how you arrived at fair market value.2Internal Revenue Service. Instructions for Form 709 (2025) A qualified appraisal must be conducted by someone who meets the IRS definition of a qualified appraiser, generally a state-licensed or certified real estate appraiser. The appraisal should be dated close to the sale, not months before or after. A few hundred dollars for a licensed appraiser is cheap protection: without a proper appraisal, the IRS can substitute its own valuation, and the statute of limitations on the gift may never begin to run.