How to give your house to your kids
One strategy for keeping your home in the family on a tax-preferred basis is the Qualified Personal Residence Trust, or QPRT. One can think of a QPRT as a major gift scheduled for a future date. The home is placed in a special trust that lasts for a specific number of years. The homeowner retains the right to live in the home, and the children (or other beneficiaries) receive the home when the trust terminates.
The home transferred to a QPRT must be a personal residence, but it does not have to be a primary residence. Vacation homes and associated property, for example, are eligible for this estate planning strategy. And the trust may include other structures on the property if they are suitable for a personal residence, taking into account the neighborhood and the size of the house.
This strategy has returned to the news pages with the revelation that Bill and Hillary Clinton transferred their New York residence to just such a trust in 2011. The specific terms of the trust are not publicly available.
A gift tax return will be required when the home is placed in the QPRT. However, the value of the gift will be discounted to reflect the delay until the gift takes effect. The discount can be very substantial, and it is a function of current market interest rates as well as how many years will elapse before the gift takes effect.
The second benefit of the QPRT is that once the arrangement is established, the value of the home is locked in for estate tax purposes. Subsequent appreciation may avoid gift and estate tax. For estate tax advantages to be secured, the homeowner must survive to the end of the trust. Should the homeowner die during the trust term, the full value of the house is included in the taxable estate—but the homeowner is no worse off than if the QPRT had not been attempted. Heads you win; tails you break even.
Still, it’s important that the trust term be realistic, given the homeowner’s life expectancy. One way to hedge against the risk of dying too soon is to divide the ownership of the home into portions and transfer the portions to laddered trusts. For example, one third might be given to a three-year QPRT, another third to a seven-year trust, and the balance to a ten-year trust. Should the homeowner survive ten years, the full value of the home will be removed from his or her estate. Reportedly, the Clintons divided ownership of their New York home in half and used two trusts to receive the two portions.
What happens if the trust termination date arrives, and the homeowner isn’t ready to move out? Relocation isn’t necessary. The homeowner simply will need to pay a fair market rental to the new owners—payments that may further deplete the taxable estate.