Interest rates on residential mortgage loans remain elevated, making homeownership more expensive for many prospective buyers. As of October 22, 2026, the average 30-year fixed mortgage rate was 7.32%, according to Freddie Mac. Higher borrowing costs, combined with home prices and housing inventory challenges, continue to present obstacles for prospective home buyers.
If your adult child or another family member needs a mortgage to buy a home, you might be considering helping them by making a low-interest-rate family loan. Also known as an intrafamily loan, this arrangement can provide affordable financing while potentially offering tax advantages. Before offering your assistance, however, it's important to understand the tax implications and set up your loan so that it will pass IRS scrutiny. Here are some tips to use this strategy in a tax-smart manner.
Regardless of the interest rate you intend to charge your family member, you need to be able to prove that you intended for the transaction to be a loan rather than an outright gift. That way, if the loan goes bad, you may have the option of claiming a nonbusiness bad debt deduction on your federal income tax return for the year the debt becomes completely worthless.
The Internal Revenue Code classifies losses from uncollectible personal loans as short-term capital losses. You can use the loss to offset capital gains. After that, any remaining net capital loss can offset up to $3,000 of ordinary income ($1,500 if you use married-filing-separately status).
The remaining net capital loss generally can be carried forward to future tax years, subject to applicable limitations.
Without proper documentation, an intended loan to a family member could be characterized as a gift by the IRS if you get audited. Then, if the loan goes bad, you won't be able to claim a nonbusiness bad debt deduction. To qualify for the deduction, the loan must represent a genuine, enforceable debt, and you must be able to establish that it became completely worthless.
To avoid this pitfall, your loan should be evidenced by a written promissory note that includes the following details:
You should also document why it seemed reasonable to believe you'd be repaid at the time you made the loan. Maintaining records of actual payments and collection efforts can further demonstrate that the transaction was intended to be a loan rather than a gift.
Many loans to family members are so-called "below-market" loans. Below-market generally means a loan that charges no interest or charges a rate below the applicable federal rate (AFR). AFRs are minimum interest rate benchmarks established by the IRS for various tax purposes, including determining whether certain loans create imputed interest or gift tax consequences.
AFRs are published monthly by the IRS and are often lower than the rates charged by commercial mortgage lenders. Making a family loan that charges at least the applicable AFR can provide your loved one with a manageable interest rate while helping you avoid unintended tax complications.
For a term loan (meaning one with a specified final repayment date), the relevant AFR is generally the rate in effect for the month you make the loan.
The following table shows the AFRs for term loans made in October and November 2026, assuming semiannual compounding:
Source: IRS Revenue Rulings 2026-19 and 2026-21. Rates vary according to the compounding period. The table uses semiannual compounding, as specified under the tax rules for below-market family loans.
These rates can be significantly lower than the interest rates charged by traditional mortgage lenders. For example, a long-term family loan made in October 2026 could use an AFR of 5.15% with semiannual compounding, compared with the average 30-year commercial mortgage rate of 7.32% reported by Freddie Mac on October 22, 2026.
Important: For a fixed-term loan, the applicable AFR generally continues to apply over the life of the loan, regardless of how interest rates fluctuate in the future. However, if commercial mortgage rates go down, your loved one may be able to refinance with a traditional lender and pay off the family loan.
Different rules apply to demand loans (those that must be repaid whenever you choose to ask for your money back). The applicable rate for a demand loan is generally tied to short-term AFRs, which change over time. In certain circumstances, a blended annual rate applies. This can create interest-rate uncertainty that both you and your family-member borrower may prefer to avoid.
The federal income tax results are generally straightforward if your loan charges an interest rate that equals or exceeds the AFR. You must report the interest income on your federal income tax return, and you may also owe state income tax. The borrower may or may not be able to deduct the interest, depending on how the loan proceeds are used.
If the loan is used to buy a home, your family-member borrower can potentially treat the interest as deductible qualified residence interest. To qualify, the loan generally must be properly secured by the home and meet other mortgage interest deduction requirements.
However, your loved one can deduct qualified residence interest only if they itemize deductions, and applicable mortgage debt limits may restrict the deduction.
Can you lend money to a family member without charging interest? Yes, but the tax results can become complicated if your loan charges interest at a rate lower than the applicable AFR.
Under IRS rules, the benefit of a below-market family loan may be treated as an imputed gift to the borrower for federal gift tax purposes. The lender may also be required to report imputed interest income, even if no actual interest payments are received. The calculations and timing depend on whether the arrangement is a term loan or a demand loan.
Some family loans may qualify for two taxpayer-friendly exceptions:
1. The $10,000 Exception
For qualifying below-market gift loans of $10,000 or less between individuals, the IRS generally allows you to disregard the imputed gift and interest income rules.
To qualify, the aggregate outstanding loans between the lender and borrower must not exceed $10,000. This exception doesn't apply if the borrower uses the loan proceeds to purchase or carry income-producing assets.
2. The $100,000 Exception
For larger below-market family loans, a special rule may limit the amount of imputed interest income that must be reported for federal income tax purposes.
To qualify, the aggregate outstanding loans between the lender and borrower generally must not exceed $100,000.
Under this rule, the amount of imputed interest income may be limited to the borrower's net investment income for the year. If the borrower's net investment income is $1,000 or less, it is treated as zero for purposes of this limitation.
However, this exception doesn't apply if one of the principal purposes of the interest arrangement is to avoid federal taxes. Furthermore, the $100,000 rule does not automatically eliminate potential federal gift tax consequences.
With AFRs now considerably higher than the historically low rates available earlier in the decade, the imputed interest on a below-market loan can be more substantial than some families expect.
For 2026, the unified federal gift and estate tax exemption is $15 million per individual, or potentially $30 million for a married couple if both spouses' exclusions are available. While these generous exemptions may limit the likelihood of an immediate gift tax liability for many families, reporting requirements and other tax consequences still need to be considered.
Making an intrafamily loan isn't the only way to help a family member buy a home. For instance, if you're feeling generous, you could simply make a cash gift to accomplish the goal.
For 2026, you can make a gift of up to $19,000 to a family member (or anyone else) without using any of your lifetime federal gift and estate tax exemption.
If you're married, you and your spouse can generally give a combined $38,000 to one recipient under the annual exclusion rules. If both you and your family member are married, you and your spouse could potentially give a total of $76,000 to your family member and their spouse, assuming the gifts are properly structured and qualify for all four annual exclusions.
If you make a larger gift, the excess generally reduces your available lifetime federal gift and estate tax exemption. For 2026, that exemption is $15 million per individual. You may also need to file a federal gift tax return, even if no gift tax is immediately due. Special filing requirements may apply when spouses elect to split gifts.
Alternatively, your family member could take out a mortgage from a commercial lender, and you could help make the payments with cash gifts. These gifts would generally be subject to the same federal gift tax rules discussed above.
Here's another alternative to consider: You could buy the home and give it to your family member.
For example, suppose you and your spouse made a joint gift of a home worth $500,000 (net of any mortgage) in 2026 to your family member and their spouse. Assuming the transfers qualify for all four annual gift tax exclusions, the joint gift would reduce your combined available lifetime exemptions by $424,000 ($500,000 minus $76,000). Other tax considerations, including the recipient's basis in the property, should also be evaluated.
Or you could buy a home, rent it to your family member and eventually leave it to them through your will or living trust after you pass away. This option would have federal income tax implications and potentially state tax consequences.
Family loans can provide a practical way to help loved ones finance a home purchase while potentially offering more favorable interest rates than traditional lenders. However, the arrangement must be structured carefully to avoid unintended income and gift tax consequences.
AFRs generally change monthly, so they're a moving target. If you make a family loan that has written terms and charges an interest rate of at least the applicable AFR, the federal tax implications are generally more straightforward. If you charge a lower rate, the tax consequences can be more complicated.
Porte Brown's tax advisors can help you evaluate family loans, applicable interest rates, gift tax considerations and alternative strategies. Before providing financial assistance to a loved one, consult with your Porte Brown tax advisor to ensure the arrangement supports your financial goals and complies with applicable tax requirements.
Get in touch today and find out how we can help you meet your objectives.
