AFR Rates
IRS Applicable Federal Rates
Making an Intra-Family Loan? Know the IRS Applicable Federal Rate
AFR stands for Applicable Federal Rate. These rates are published monthly by the IRS and are used as minimum interest benchmarks in various federal tax rules, including those governing below-market loans between related parties. When families structure intra-family mortgage loans or seller-financed home sales, AFRs are commonly used to help demonstrate that interest is adequate under federal tax law.
Families commonly rely on these published rates to support AFR compliance in intra-family mortgage loans, particularly where long-term repayment and tax reporting are involved.
Understanding how the IRS determines Applicable Federal Rates provides important context for why these benchmarks exist and how they are updated.
Applicable Federal Rates are derived from the average market yields of comparable U.S. Treasury obligations during the one-month period ending before the applicable month. Short-term AFRs reflect yields on short-maturity Treasury bills, mid-term AFRs reflect yields on intermediate-maturity Treasury notes, and long-term AFRs reflect yields on longer-maturity Treasury notes and bonds. The Applicable Federal Rates are used by the IRS to calculate imputed interest income on below market loans between family members.
(We’ll explain what “imputed interest on below market loans” means in a moment.)
When it comes to family loans — especially loans above $100,000 — the IRS Applicable Federal Rates represent the commonly used minimum federal benchmark rate of interest a Lender should consider charging a Borrower in order to prevent unnecessary tax complications.
There are three AFR tiers based on the repayment term of a family loan:
(1) Short-term rates, for loans with a repayment term up to three years.
(2) Mid-term rates, for loans with a repayment term between three and nine years.
(3) Long-term rates, for loans with a repayment term greater than nine years.
A Lender should assess two main factors when selecting the appropriate IRS Applicable Federal Rate for a family loan:
(1) The length of the agreed upon repayment term of the loan.
(2) The IRS Applicable Federal Rate for that repayment term during the month in which the loan is made.
The IRS Applicable Federal Rates change monthly. Typically, the IRS will announce the minimum required rates for transactions occurring in an upcoming month, around the twentieth day of the preceding month. When structuring a term loan, so long as the parties meet or exceed the appropriate AFR in effect at the time the loan is made*, the rate is essentially “locked in” for the life of the loan. Generally speaking, these rates are significantly lower than market rates offered by a bank. See IRC Sec. 1274(d)
That gap is why families sometimes ask if they can use discount points to ‘buy down’ a family-loan rate, but the tax rules treat points as prepaid interest rather than a simple rate reduction—see Why You Can’t “Buy Down” an Intra-Family Loan Rate — Even With Points.
If a Lender chooses to simply not charge a family member a rate of interest at least equal to or above the appropriate Applicable Federal Rate in effect at the time a family loan is made, the IRS may impute the interest by taxing the Lender on the difference between the Applicable Federal Rate and the interest rate the Lender actually charged.
In other words, you lend a loved one over $10,000, and never charge or collect a penny of interest income on the family loan, the IRS requires you to pay income taxes on the earned interest income the IRS believes you should have received, based on the AFR at the time the loan was made. See IRC Sec. 7872(a) & 7872(e) & 7872(f)(2)
In addition to holding the Lender responsible for the taxable imputed interest, the IRS also assumes that since the Borrower did not make the required interest payments, the Lender is considered to have gifted the Borrower the money to pay the interest that was due. See IRC Sec. 7872(f)(3)
Under federal tax law, loans made at no interest or at below-market interest can trigger the imputed-interest rules under Internal Revenue Code §7872. These rules are designed to prevent the use of interest-free or artificially low-interest loans to shift income or value between related parties without appropriate tax consequences.
By engaging in a loan with a family member below the appropriate AFR, the Lender is effectively penalized twice — once through taxation of imputed interest, and again by applying the borrower’s unpaid interest towards the lender’s annual $19,000 per person tax-free gift limit.
The IRS’ annual gift exclusion permits a taxpayer to gift up to $19,000 annually to each and every family member without penalty. Effectively, an individual could gift $19,000 to everyone they know, but once any one gift recipient receives a penny more than $19,000 from an individual donor in the calendar year, that donor must file a gift tax return. Instructions for Form 709
A poorly documented loan that the IRS considers a gift could also have significant effects on the Lender’s life-time gift and estate tax exemptions. Likewise, if the Borrower is unable to repay the loan and the Lender wishes to deduct the loss from their income taxes, documentation showing that the loan was legitimate could be critical.
Using an AFR-based interest rate is a common method families use to align a private loan with federal expectations and reduce the risk of unintended imputed interest or gift characterization.
Proper family loan documentation can also help avoid serious legal disputes with other family members (especially between siblings) or estate and repayment complications following an unexpected divorce or untimely death.
If a family loan is being used to specifically help purchase or refinance a home, the Borrower and Lender should consider the advantages of securing the loan through a properly registered Mortgage, Deed of Trust, or Security Deed.
In most cases, by securing a family loan through a properly registered Mortgage Deed of Trust, or Security Deed, the Borrower will be legally entitled to deduct the interest paid on the loan from their taxes at the end of the year. In order to legally exercise the deduction, the loan must be secured through a registered Mortgage, Deed of Trust, or Security Deed and properly filed with the appropriate government authority. See IRS Publication 936 or IRC 1.163-10T(o)
As always, we strongly encourage all families to discuss their individual financial strategies and potential estate planning and tax considerations with their trusted attorney, financial advisor, or tax advisor.
Understanding AFR Compliance in Family Mortgage Loans
While the AFR tables below provide the current IRS-published rates, families and their advisors often have follow-on questions about how these rates apply to real-world intra-family mortgages, tax reporting, and long-term loan management. The articles below provide additional context for more complex family loan and seller-financed home sale scenarios.
-
IRS AFR Compliance for Intra-Family Loans and Seller-Financed Home Sales
Explains how the Applicable Federal Rate applies to different family loan structures, common misconceptions, and why consistent AFR selection at closing matters for tax purposes. -
Imputed Interest and the Borrower’s Mortgage Interest Deduction in Intra-Family Mortgages Over $100,000
Discusses when interest may be imputed under federal tax rules, how lender income and borrower deductions are treated differently, and why proper documentation and secured debt matter. -
Refinancing vs. Amending an Intra-Family Loan: How to Safely Lower the Interest Rate When AFRs Fall
Examines how families address declining interest rates over time, including the tax considerations involved in refinancing or formally amending an existing family mortgage. - New to family financing terms? Visit our Intra-Family Mortgage Glossary >
