Want to Buy a Home With a Friend? Here's How to Prevent Legal Headaches

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Rising home prices coupled with the affordability crisis have created a unique need to find alternative solutions for homeownership.

Nearly 15% of Americans have co-purchased a home with a person other than their romantic partner, and an additional 48% would consider it, according to a survey by JW Surety Bonds.

Co-buyers account for 26.7% of all home purchases, and 53 million people live in co-owned homes.

Rising home prices and tight markets have resulted in an increased number of unrelated people acquiring residential real estate. These people may include friends, co-workers or business partners. This group also includes unmarried romantic partners.

According to the survey, nearly 25% of respondents who bought a home with a non-romantic partner said the purchase would have been unaffordable on their own.

What to do to protect yourself: A co-tenancy agreement

While co-buying real estate provides an otherwise unavailable opportunity, it also requires additional planning to protect the buyers from associated legal risks.

Co-ownership of real property, particularly by individuals outside of their immediate family (spouse/parent/child), should be covered by a co-tenancy agreement. This also applies to vacation homes owned by multiple family groups.

The co-tenancy agreement should include, at a minimum, clearly defined ownership percentages, the financial responsibilities of each co-owner, rights of use, the intended use of the property and exit strategies for the property.

The title should clearly define each co-tenant's ownership percentage.

Co-tenancy without an agreement typically would not grant survivorship rights for the surviving co-owner to own the entire property. At death, a co-tenant's interest would pass to the deceased co-tenant's heirs or beneficiaries.

To ensure the survivorship rights of each co-owner, the intent should be reflected on the title and in the joint tenancy agreement.

What to include in a co-tenancy agreement

Here's a closer look at what you should ensure is included in your co-tenancy agreement:

Financial obligations

Each co-owner's share of rental or other income should be detailed, as well as each co-owner's responsibility to pay the mortgage, insurance, utilities, maintenance, capital improvements and property taxes.

Consideration should be given as to what the legal result is if either co-owner fails to satisfy their share of those costs.

Occupancy and usage rights

The agreement should detail who, if anyone, beyond the co-owners may live in or otherwise use the property.

Procedures to identify or select tenants, rental or subletting rights and any restrictions must be clearly identified to prevent disputes later.

Management and decision-making

The co-owners should define how repairs, renovations and major decisions will be made. If the ownership is 50/50 or an even split such that a deadlock might be possible, a tiebreaker, such as a professional on whom both parties agree, should be identified to help prevent formal litigation.

Liability allocation

The agreement should allocate liability between the co-owners as well as identify hold-harmless provisions, lawsuits, creditor claims and other legal responsibilities. The agreement may not protect either co-owner from third-party claims.

However, such an agreement may provide a basis to allocate liability between co-owners and a contractual right to indemnification. These provisions should be clearly stated.

Dispute resolution considerations

Consideration should be given to mandatory prelitigation steps that may be required to prevent formal litigation, such as mediation.

Exit strategies

The agreement should address situations where one co-owner wants out of the relationship. Buyout or right-of-first-refusal provisions are common.

The agreement should detail how the interest of the exiting partner will be valued and whether valuation discounts are appropriate.

Death or incapacity

The agreement should detail how the property will be managed and decisions made in the event of the death or incapacity of either co-owner. This may create a need for estate planning with a limited liability company (LLC) for ownership.

An LLC can help ensure that management continues despite the death or incapacity of either co-owner. An LLC may provide greater asset protection for the co-owners.

Attention to a durable power of attorney and a trust can avoid formal probate or court filings in the event of the death or incapacity of either co-owner.

If an LLC is used, the operating agreement should cover the terms described above for co-tenancy agreements to prevent disputes.

Alternatively, a revocable trust may also be appropriate to avoid probate filings upon the death of either co-owner.

This article was written by and presents the views of our contributing adviser, not the Kiplinger editorial staff. You can check adviser records with the SEC or with FINRA.