by Edgar Saenz, Esq.
A qualified personal residential trust or QPRT (pronounced “CUE-pert”) is a trust whose only asset is a residence. The QPRT removes the value of a home from the estate and shelters appreciation. It also provides asset protection associated with irrevocable trusts.
The homeowner transfers the home into a QPRT, continuing to live there throughout the term, which could be for any period he selects. At the end of the term, ownership of the home passes from the trust to the children.
Let’s say it’s 2012 and Hortencia Homeowner owns a home worth $1 million. She’s 70 years old and wants to leave it to her two children. She could either (1) make a lifetime gift or (2) leave the home to them in her will (trust).
If she gifts: If Hortencia gives the home, she must file a gift tax return. She either pays taxes of or uses $350,000 of her unified exemption. This is because she has given a gift worth $1 million which is taxed at the 35 percent rate.
If she bequests: If instead of a gift, Hortencia bequests the house at her death, her estate will either pay or use her personal exemption in an amount greater than $350,000. This is because of appreciation. Also, tax rates may increase. (As of this writing, the estate tax is scheduled to increase to 55 percent in 2013.) Say the home has appreciated to $1.8 million, taxes of $990,000 are potentially due (55% of $1.8 million).
Is there a way around these costly alternatives? I’m glad you asked.
If she QPRTS: If Hortencia transfers her home to a QPRT, all is good. She continues to live in the home. She’s transferred title to a trust thereby shielding that asset from creditors. She’s removed the home’s future appreciation from her estate. And she has made a smaller taxable gift to the children (because technically she’s given them remainder value). Assuming four percent annual appreciation, a 35% estate tax rate, and a 15-year term, the potential death tax savings to Hortencia’s estate is $500,000. ($785,000 savings at 55% estate tax rate.)
To obtain these tax advantages the donor must survive the QPRT term. If the donor dies before the end of the term, the trust assets will be includible in the estate. Thus, with donors of advanced age, it’s prudent to make the retained interest period shorter. But you’re never too old for a QPRT. If the donor in the above example were, say, 94, even a 3-year QPRT would generate tax savings to her estate of $241,281.
At the end of the term, the donor must either move out of the residence or pay fair market rent to the children.
If the donor stops living in the home before the end of the term, there is a “cessation of use.” Instead of terminating, however, the trust instrument may require converting the trust into a qualified annuity trust (a “GRAT”).
Being an irrevocable trust, a QPRT shields the home from the donors’ creditors. Under this structure, the home is not owned by the debtor; it is owned by a separate legal entity, the irrevocable residence trust.
Summary: QPRTs reduce taxes and protect one of your critical assets, your home. QPRTs are underused probably because most people have never heard of them, which is a shame. They are conservative planning vehicles. In fact, my QPRT trust instrument contains provisions taken directly from IRS regulations. As a colleague jokingly says, QPRTs are “like legalized stealing.”
Edgar Saenz is a Los Angeles estate planning attorney. A graduate of Stanford Law School (JD, 1986). he is a member of the Trust and Estates sections of the State Bar of California, Los Angeles County Bar Association, and Santa Monica Bar Association. He also serves on the board of the Culver Marina Bar Association. Telephone: (310) 417-9900; email contact: info@EdgarSaenz.com.[* Adapted from Edgar’s article in the Apartment Owners Association Magazine.]