Are you considering leaving your home to your children in your will? If so, there are some tax considerations you should be aware of. A gift of this size will result in steep capital gains taxes levied against your beneficiaries.
As an alternative, you can consider using an irrevocable trust to leave your home to your beneficiaries while reducing such burdensome taxes.
A trust of any kind is a legal relationship created between three parties: the grantor (the individual funding of the trust, or in this case, deeding the property), the trustee (the individual charged with managing the trust), and the beneficiaries (the individual or individuals to whom you are leaving the property).
Through your irrevocable trust, you, the grantor, transfer ownership of the property to the trustee and the beneficiaries hold equitable title. As the name suggests, you can’t amend or get the property back without the consent of the beneficiaries and the trustee.
As mentioned previously, leaving your home to your heirs in your will can result in a sizeable estate tax bill on the property. Additionally, by transferring the ownership while you’re still alive, you are removing the value of the asset, as well as any increase in its value, from your estate. In other words, the assets transferred into trust will still receive a step-up in basis upon the passing of the grantor based on their appreciated value.
Another advantage of an irrevocable trust is that it can prevent the misuse of the assets by beneficiaries since they can be distributed following conditions established by you.
After the transfer of ownership of the property to the trustee, it may be easier for individuals to qualify for governmental long-term care benefits. It is possible to apply for veterans’ benefits immediately after the transfer, but a five-year waiting period is required before applying for Medicaid benefits.
Of course, you should be aware of some of the risks associated with transferring your home to an irrevocable trust. As previously mentioned, the grantor cannot take back control of the asset without approval from the beneficiaries and the trustee. So, if you run into unexpected financial difficulties in the future, you won’t have your home to rely on as an asset.
If you wish to continue residing in your home, you’ll want to make sure that provisions are made allowing you and your spouse to stay there during your lifetime when creating an irrevocable trust.
The choice of your trustee can be a critical component of setting up your irrevocable trust. It will be the trustee’s responsibility to administer the trust prudently, impartially and in accordance with your wishes. People often turn to a friend or family member to be their trustee. From a legal perspective, there’s no reason that individuals such as these couldn’t serve as a trustee.
However, it’s important to make sure to choose an individual who will demonstrate good judgment and attention to detail, will be available to take care of the tasks required for as long as may be needed, and who will remain impartial. Occasionally, the danger associated with choosing a friend or family member is that they can unwittingly aggravate family disputes and disagreements.
With an irrevocable trust, you can pass your home on to your children and save them a great deal of money and capital gains tax. Setting up a trust is a complex matter that requires the assistance of an experienced attorney to avoid costly mistakes and pitfalls.