Vita Nelson: "If you're a homeowner (or a multiple homeowner), you've probably seen your property value escalate in recent years. You might want to keep a prized house in your family, so we've outlined the variety of ways to transfer it to your children.
1. By a sale. This will put cash in your pocket. Moreover, if it's your principal residence, you won't owe tax on up to $250,000 worth of gains. ($500,000 if you're married). You can stay in the house, too, by entering into a sale-leaseback. However, your kids may have to come up with a sizable amount of cash or take on a lot of debt. Therefore, this approach will work best if you need the sales proceeds and you have wealthy, high-income kids who can use the tax advantages of a sale-leaseback. Your kids will be able to take depreciation on the property. In addition, the expenses to run the house can be changed to them and deducted by them from their taxes.
2. By a gift. If you give away a valuable house, you will eat into your $1 million gift tax exemption. To avoid this concern, you can give away fractional interests each year, taking valuation discounts.
To avoid taxes while removing the house from your taxable estate, be careful to keep each gift within the annual gift tax exclusion ($24,000 per married couple per recipient per year). If you've given away, say, 40% of the house and then decide to sell it, you'll split the sales proceeds 60-40. This technique will work best if estate tax reduction is a prime concern and you won't need to tap the equity in the house for your own retirement.
3. By a bequest. The simplest path is to hold onto the house until your death, or the death of the surviving spouse, and then leave it to the children in a will. They'll inherit with a basis step-up, under current law. On the downside, the house will be included in your taxable estate-under current law, a valuable house may generate hundreds of thousands of dollars in estate tax if your total estate tops $2 million. However, there is the prospect of estate tax relief.
Generally, using a bequest is the "default" option, the plan you'll prefer if you are not concerned about estate tax. That way, you always can sell the house rather than leave it to your kids; a sale may well provide you with tax-free cash.
4. By a bequest to a trust for your children. This strategy is useful if you have children who are minors, incapacitated, likely to be financially irresponsible, or vulnerable to creditors. If your child gets involved in a messy divorce, a house owned outright will be subject to a property settlement but not a house owned by a trust.
However, at some point, your children might want to sell an inherited house. If the house is held in trust, such a sale might not qualify for the $250,000 or $500,000 capital gains exclusion. For this reason, you might want to give the beneficiary of the trust the power to invade principal or to assign assets to another person. This may make the beneficiary the home "owner," eligible for the capital gains exclusion.
5. By a QPRT. A qualified personal residence trust (QPRT) can be used to transfer a principal residence or a vacation home (or both). You give the house to a QPRT and name your children as the trust beneficiaries.
When you transfer the house to the QPRT, you'll retain the use of the house during the trust term. After the term, often five or 10 years, ownership will pass to the trust beneficiaries: your children.
Therefore, you use a QPRT to make a deferred gift. Because of this deferral, the value of the taxable gift is reduced. A house that's worth $600,000 might be removed from your estate yet the taxable gift might be valued at $300,000, $200,000, or even less. The younger the donor, the longer the term, and the higher the level of prevailing interest rates, the smaller will be the value of the taxable gift.
In most situations, QPRTs are structured so that the house will revert to your taxable estate if you die before the end of the trust term. Therefore, when you create a QPRT, the term you designate is crucial. Generally, short terms work best for sick or elderly homeowners while younger donors can use longer terms."
