Qualified Personal Residence Trusts
March 16, 2006
A Qualified Personal Residence Trust, or QPRT, is a powerful gifting technique that allows you to leverage your estate and gift tax credit and ‘freeze’ an appreciating asset – typically a vacation or recreational home - at its current value.
Benefits:
- Reduce estate and gift tax
- Increase the amount passing to your children
- Retain lifetime control of the asset
The Basic Design:
- The QPRT is an arrangement in which you irrevocably transfer a residence into a trust for your children (or other beneficiaries). You retain the right to live in the residence for the number of years you choose. Following the end of the term, the residence passes in trust to your children.
- Because your children must wait until the end of the term to receive the property, the value of the gift made to them when you initially put the residence into the trust is dramatically reduced, often to the point that there is no gift tax at all on the transfer. At the end of term, the residence (including all post-gift appreciation) passes to your children or other named beneficiaries free of any additional federal or state estate or gift taxes. Thus, the QPRT is a way to "freeze" the estate tax value of the home, and transfer all of the future appreciation in the property at little or no tax cost.
- For married couples, additional tax savings can be achieved by first dividing the property into two shares, and then having each spouse create a QPRT for his or her share of the property. Because one of you cannot easily sell your share of the property without the cooperation of the other, the sum of the two separate interests is valued at less than the value of the total, thereby further driving down the tax value.
Common Questions:
- Can I serve as Trustee of the Trust? Yes, and for many clients maintaining this control is important.
- What if I outlive the term and still want to use the home? You can lease the residence back from the children. While this might initially seem like a negative, it is actually an opportunity to transfer additional assets (the lease payments) to the children at no gift tax cost.
- How is the value of the gift determined? The value of the gift is calculated by reference to Treasury Regulation tables and is based upon the term, the current applicable federal interest rate, and other factors. We will value the gift in consultation with your other advisors.
- How do I determine the term? We will assist you in selecting the term. As the term during which you retain the right to live in the residence grows longer, the gift to the beneficiaries grows smaller, and the tax savings increases. However, if you do not outlive the term, the residence is included in your estate at its value at the time of your death, and the benefits of the QPRT are lost. (You are no worse off than if you did not create the QPRT, but you will not realize the tax benefits.) In selecting the term, we will consider your life expectancy, applicable federal interest rates, expected appreciation, and the value of the property. In some cases, we may recommend several QPRTs, each holding a fractional share of the property and each with a different term, in order to increase the chances of realizing the tax benefits.
- Can the property be sold while it is in the QPRT? Yes. The residence can be sold and the proceeds can be reinvested in a new residence. If the proceeds are not reinvested in a residence, you must be paid an annuity to compensate you for the unexpired term, and the balance of the proceeds stay in trust for the beneficiaries.
- How are real estate taxes and other house expenses paid? You may continue to pay these expenses by transferring funds to the Trustee. A QPRT is ignored for income tax purposes, and thus you may continue to deduct the real estate taxes on your personal income tax return.
- Does the QPRT have to file an income tax return? A QPRT generally does not generate income and an income tax return is not typically required.
- What about management of the property after it passes to the children? If you plan to have a recreational property in the family for future generations to enjoy, it is important to have strategies in place prior to termination of the QPRT to deal with management of the property. We can assist with getting a structure in place to minimize conflict among the future owners.