The uncertainties surrounding our estate-tax laws has made traditional estate planning more complicated; however, there are still several estate planning strategies that should be considered. The qualified personal residence trust or QPRT is one such strategy.
A QPRT is an irrevocable trust created by a homeowner who, during their lifetime, transfers title to the personal residence to the QPRT while retaining the right to live in the residence for a term of years. This period is typically somewhere between five to thirty years. Thereafter, the trust beneficiary receives full title to the personal residence. The trust beneficiary is usually the homeowner’s child or grandchild.
If the homeowner survives the period of time specified in the trust, then the personal residence will not be included in the homeowner’s taxable estate when the homeowner dies. In addition, any increase in the value of the personal residence that occurs after the homeowner transfers the personal residence into the QPRT is also excluded from the homeowners’ taxable estate. Estate planning attorneys refer to this technique as an “estate tax freeze,” because the value is locked in at an early date. This added result in significant additional estate tax savings if the price of the real estate continues to appreciate in value.
The personal residence will be included in the homeowners taxable estate and not escape estate taxation if the homeowner fails to survive beyond the period of time specified in the QPRT. This estate tax risk is minimal since the homeowner would have been in the same situation and had the same estate tax liability had they not created the QPRT.
In most cases the only loss would be the attorneys fees for establishing the QPRT. Also, homeowners may incur some gift tax liablity to contribute the personal residence to the trust lose if they were to die before the period specified in the QPRT. Even then, the gift taxes are only imposed on the remainder value — not the full value — of the personal residence at the time that the personal residence is transferred to the QPRT. Depending on the term of the QPRT and the life expectancy of the homeowner, the remainder value could be valued at zero or near zero.
QPRTs are most often used for high net worth families who own unencumbered real estate that is valued over $ 500,000 and where the homeowner is healthy and has a life expectancy that exceeds the term of the trust.
There has been speculation that Congress may once again repeal the federal estate tax. Even if the estate tax were to be repealed, the QPRT could still be beneficial in that the homeowner’s personal residence could be transferred to lower generations, who might be able to use the tax attributes associated with real estate (such as depreciation deductions) to offset their taxable earned income.
Moreover, if the lower generations wished to live on the property prior to or following the homeowner’s demise and then sell the property shortly after the homeowner’s demise, the lower generations might be able to use that period of time to qualify for the $250,000 income tax exclusion when the property is sold. For these and other reasons, high net worth homeowners should still consider establishing a QPRT for their personal residences.