Since the 2009 exemption was $3.5 million, the return of the estate tax with an exclusion amount of just $1 million in 2011 is leaving a lot more people vulnerable. For many, the value of their homes is what is going to drive the total worth of their estate over that figure, so this is the area that they need to focus on.
An estate planning tool that can be used to reduce the value of your house from your estate for tax purposes is the QPRT, or qualified personal residence trust. Let’s assume you have always planned to leave the home to your children after you pass away. You place the residence into the trust and name your children as the beneficiaries, but your life doesn’t change at all. You can live in the house rent free during the term of the trust for as long as you stipulate in the trust agreement, but you are liable for the cost of upkeep and property taxes as they become due. After the term of the trust, you can still live in the home but must pay rent (this also reduces your taxable estate).
At the end of the trust term if you are then surviving, the value of the house is no longer a part of your estate for estate tax purposes, since it was considered to be a gift to the trust and it was subject to the gift tax. However, the true market value at the time of the transfer was not used by the IRS to calculate your gift tax liability, but rather a discounted value .
The taxable value of the gift is reduced by your retained interest in the house, your use of your house during the trust term. So the longer the term of the trust, the larger your retained interest will be, and the lower the taxable gift value will be. When your beneficiaries assume ownership of the home at the end of your prescribed term, the home is no longer part of your taxable estate. However, if you do not survive the term of the trust the entire value of the house at your death is included in your estate. If you survived the term of the trust, you transferred this property to your heirs and either reduced or eliminated any estate or gift tax liability.
Levine & Furman, LLC is a member of the American Academy of Estate Planning Attorneys.