Save Gift and Estate
Taxes: Give Your House to Your Kids
If you are concerned about estate taxes gutting your estate and eating up your children's inheritance, there may be a way for you to have your cake and eat it too. You can transfer your house to your children in a tax-approved way for the following benefits:
* You can continue to live in the
house for a long as you want.
The way to achieve these objectives is with a Qualified Personal Residence Trust (QPRT).
What Is A QPRT?
The trust is created to last for a term of years. In order to maximize the benefit of a QPRT, the term of the trust should be long enough to reduce the value of the gift but short enough so that you expect to outlive the term. During the trust’s term, you continue to live in the home and are treated as the owner. At the end of the term, the home becomes the property of the beneficiaries you named, typically your children or a trust for the benefit of your children. At that point, if you want to continue living in the home, you can rent it from the new owner (your beneficiary) at a fair market rental amount. Not a bad idea since every monthly rental payment you make is removed forever from your taxable estate and transferred to your intended beneficiaries.
When the trust is created, you are treated as making a gift of the value of the remainder interest in the home to your beneficiary. The value of that gift is the value of the home minus the value of the interest you've kept (the right to live in it for a certain number of years). The value of your retained interest is calculated using special IRS tables. Another way of looking at it is that the value of the gift to your children—or other beneficiaries—is reduced (or "discounted") because they have to wait for the trust term to expire before the gift to them is completed.
Example: If you are 55, and your home is worth $500,000 and a 6.2% interest rate is used, the value of the gift is only $156,675 for a 15-year trust term. You are giving away a $500,000 asset for a gift "cost" of only $156,675! Considering the probable dramatic increase in the value of the home by the end of the trust term, you will have actually gifted away an asset worth (e.g. at 5% annual appreciation) $1,039,464 at an incredibly discounted gift cost.
Gift tax on the gift can be offset by your applicable exclusion amount - the same amount your estate is entitled to at death - so there is likely to be no out-of-pocket tax cost to you.
Impact of the QPRT
If you outlive the trust term, your children will own the home at a very low, nicely "leveraged", transfer tax cost.
Rule of thumb: The longer the retained interest to the home owner, the smaller the gift to the children, and the smaller the gift tax cost. But older home owners who choose long trust terms are gambling with the chance that they won't outlive the trust term.
Planning with QPRTs
How: The home is sold near the end of the trust's term to someone other than you as the grantor. The sale qualifies for the home sale capital gain exclusion since you, as the parent, are treated as the owner.
The trust, which now holds cash, becomes a Grantor Retained Annuity Trust (GRAT) under the terms of the QPRT.
The cash is invested to pay the parent an annuity for the remainder of the trust. When the trust terminates, the child receives the liquid assets held by the trust with no further transfer tax costs.
Caution: Even though you could create a QPRT with a vacation home, the home sale exclusion applies only to a principal residence.
New homes: Instead of holding the cash from the home's sale, the trust can buy another home allowing the owner to move.
Who can benefit: Persons with no estate tax liability do not need a QPRT. But those with potentially taxable mid-sized estates who do not have liquid assets they can afford to give away may want to consider setting up a QPRT.
Caution: QPRTs are a powerful estate planning technique which must meet strict requirements, so consult a knowledgeable estate planning attorney.
Price & Farrington, we would be pleased to discuss
whether this technique is appropriate for your
Price & Farrington,
PLLC - Attorneys and
Counselors at Law