This method might benefit parents and child-in the right situation.

    Convince a client nearing retirement to stay in a primary residence in a booming real estate market, delaying the move to the Sunbelt for a few years. Have the client sell the home to a child. It could help the client and a child under certain circumstances.
    That's the advice of Diane Pearson, director of financial planning for Legend Financial Advisors in Pittsburgh. However, several planners have questioned some of the economic assumptions of her idea.
    Pearson says that an old retirement planning technique-selling a home for a fat price and taking the proceeds to a less pricey part of the country-has a new wrinkle. Have one of your children buy the house and finance it through a note issued by the client.
    Indeed, she says that continued low interest rates combined with the explosive gains in real estate prices in certain large urban areas can now work to the benefit of older clients and their children.
    The deal, although controversial, allows the parents to immediately lock in the gains of a booming real estate market, gains that might not be there in five years when they intend to retire. If the market continues to boom, then the child gets to cash in on the gains. Ultimately, the technique also allows parents to pass their home to a child in a legitimate way that avoids gift tax. If interest rates stay low and if housing values continue to rise, two big ifs, then the deal makes sense for all involved.
    "Sell your home to your son or daughter and privately finance the transaction through a five-year promissory note that you accept from him or her," Pearson explains. The applicable federal loan rates were recently about 3.5%. When the note is paid off, then the child can likely sell the house for a big gain. That's because these days home prices appreciating 10% annually "is hardly a stretch," she adds. 
    Will the strategy work? One certified financial planner says in theory it can, but there are potential problems.
     "I would recommend it, but only for certain clients," says Dennis Filangeri, an advisor with his own business in Las Vegas. However, he cautions that the character of the child is as important as the validity of the tax and economic strategies.
     "Money does strange things to people. You can't judge character based on what is in front of you today," says Filangeri. He says he doesn't bring up the idea of selling the family home to one of the children, but he will look at it if a client suggests it. "I've seen situations in which the parent and the child always got along until there were assets at stake, and then odd things happened," he adds.
    Filangeri cautions that "everything has to be just right" for the strategy to work. This includes low enough interest rates and expenses so the rent can cover costs. The approach will only work for the kids-and the parents who are expecting the note to be repaid-if the new owners can be virtually guaranteed a gain over a short period of time. That is, if housing markets continue their climb.
    Still, others planners are highly critical of the technique, saying they would never use it any circumstances. "It is an idea that can easily go wrong," says Charles Hughes, a certified financial planner with his own practice in Bayshore, N.Y. 
    "I'm a big fan of keeping it simple and I think there are a lot of things here that can go wrong, beginning with the real estate markets," according to Ronald Roge, a certified financial planner in Bohemia, N.Y.
    How would the approach work successfully? Pearson gives one example: Suppose the parents have seen the value of a home grow from $500,000 to $1 million over the course of many years of fat real estate markets. Sell it for $1 million to the daughter or the son, who will then lease it back to the parent, Pearson says. The client's eventual $500,000 gain will not be taxable "because as a couple you have a $500,000 exemption," Pearson explains.
    That's because the clients are entitled to an exemption when selling a house that has been a principal residence for two years or more. Also, she says that, if the gain is more than $500,000, the strategy probably is not as effective because it will potentially trigger tax problems, including an estate planning problem and the income that could lead to another a current tax problem.
    Now a parent's son or daughter becomes the owner. The child charges the parents a fair-market rent. The child pays the charges of owning the property, but depreciation and maintenance will likely be tax deductible, she notes.
    Five years later, the client is now ready to move to a retirement community, while the son or daughter puts the home on the market.
    When the note expires, it is reasonable that the $1 million home in a booming real estate market could be worth $1.5 million or $1.6 million, according to Pearson. The client's child now sells the house and settles the note, providing the parents with a half million-dollar gain and the child with a profit. The child will owe no gift tax on the gain, although the sale will trigger a capital gains tax. And the latter, Pearson adds, could be reduced if the child could pay the note with his or her own assets. If the child lives in the house for two years after the parents have moved to their retirement community, and then sells, capital gains would not be a problem, she says.
    Pearson says that, in many rapidly growing real estate markets, it is not uncommon these days for home prices to rise an average of 10% a year (See sidebar below).  Still, Hughes notes that the odds are very good that real estate markets will be unlikely to grow at the same rate over the next few years. Pearson says that the strategy is effective, but she has several caveats.  
    The strategy only works with a primary residence, Pearson says. It only works in a town in which there has been huge appreciation since the house was bought and in which markets are strong. The transaction must be one in which fair-market value is paid by the child. (Otherwise the IRS will regard a discounted house sale as a taxable gift). Pearson also concedes that the strategy is based on historically low interest and the continuance of strong growth in major real estate markets.
     "I don't recommend it here in Pittsburgh. Right now, it doesn't make too much sense. But in many big-city markets the strategy has been effective. I have certainly recommended this to clients," Pearson says. Examples in which the strategy probably will work are places such as New York, San Francisco, Baltimore, Boston and many communities in the southern part of Florida. 
    Michael Kitces, a certified financial planner in Columbia, Md., says the strategy can work and he would use it under the right circumstances. The most important element of the deal is the character of the child.
    "Is he or she a responsible person? Will he sell the house out from the parents before five years and leave the parents without a place to live?" Kitces asks. Kitces says he knows of 35- or 40-year-old children of clients who couldn't be trusted in a house sale. Others, he notes, would follow through on the deal. "How mature and secure," he asks, "is the child? "That is the key issue."
    Still, skeptics ask what happens if property values tank and the child doesn't want to live in the family homestead? "As in any strategy, the worst-case scenario should be explored by all parties," Hughes says. "How do we know that home prices are going to continue to go up and up? Filangeri asks. He adds that clients' children who want to use this should be ready for a worst-case scenario.
     "They should be ready to live in the house if markets suddenly collapse," Filangeri adds. Roge also says that the child as the homeowner could be a problem. "What happens if he can't handle the costs of the house? Suppose the taxes go up and he can't pay them?" Roge asks.
    Hughes has another warning: "If the child couldn't finance this purchase without the help of the parent, if the child couldn't make this purchase on his or her own, does it really make sense for the client to put up the financing?"
    Hughes' point is that if the child is in good enough financial condition he or she could make a straight purchase.
    "Then," Hughes adds, "what would be the point of this strategy?"