To avoid any issue of imputed interest charge at least the applicable federal rate (or AFR) on the loan. That interest rate, which is generally below the average current mortgage rate, is available monthly in the Internal Revenue Bulletin each month.
Mid-term AFR rates are maturities or terms of more than three and up to nine years. Long-term AFR rates are maturities or terms of more than nine years.
See http://apps.irs.gov/app/picklist/list/federalRates.html for rates.
September 2013 long term rate for annual compounding is 3.28%
Make sure that your son makes all of the payments. You can write a check to your son for up to $14,000 (or you and your wife can give up to $28,000) per year, if you so choose, at any time or several checks for lesser amounts that total less than that at any time in the year.
Be sure to follow the legal process to secure the note with the house, so that your son can deduct the interest payments to you as qualified mortgage interest. If the note is not secured by the home, the interest payments are not allowed as a deduction. Not using an attorney for this would be far more expense and trouble than saving the cost now for the legal services.
If you do not sell the house at the fair market price (basically what you pay for it) the difference would be a gift and may have to be reported if more than the annual exclusion ($14,000 per person per year). A loss on sale of property to your child is not a deductible loss and a gain is reported as income by you.
You can write a check to your son for up to $14,000 (or you and your wife can give up to $28,000) per year if you so choose and not have to file a gift return or have any consequence.
One slight possible glitch is that gifts less than two years before death are included in a decedent's estate so it is better to die later than sooner. Somewhat joking here, as that minor glitch is often not able to be avoided.
The easiest way to avoid issues to is use the AFR for interest, sell the property at the fair value and make gifts (separate from the payments on the mortgage) as much as you (or you and your spouse) choose each year less than the annual exclusion.
If you still want me to further discuss the issues that can be easily avoided, as outlined above, or need clarification, please do ask.
Thank you for using our service .
Thank you so much - a follow up question if I might.....how is that interest computed and reported for our tax purposes - on the actual amount charged/received for each year (say it is at the 3.48% AFR), or is it calculated on the entire amount expected to be received over the life of the loan?
You are quite welcome.
You will report interest (and your son will deduct) the amount actually paid during the tax year.
Usually, an amortization schedule is prepared and can be followed when the scheduled payments are made.
For example, see http://www.myamortizationchart.com/
"Create a free printable amortization schedule for mortgages and loans.
Enter your loan information to create an amortization schedule showing payments of principal and interest. "
If payments are missed or made in advance then an irregular amortization schedule may be needed (depending on the loan terms).
Hope this clarifies, but please do ask if you need more help
If you have a question later, using my name in the question can direct the other experts to let me answer.
Thank you for the opportunity to be of service.