Leaving real estate to heirs through a will or a revocable trust has long been standard practice in estate planning. Many clients expect to pass along the home they have lived in for years only after they are gone. But recent data suggests that this approach is shifting. More people are transferring real estate to the next generation during their lifetimes—and often in large amounts. According to a recent Wall Street Journal article citing a Coldwell Banker Global Luxury report, an estimated $4.6 trillion in global real estate is expected to pass to Gen X and Millennials over the next decade, including $2.4 trillion in the U.S.
This trend is understandable. Many parents want to see the impact of their hard work while they are still alive, and helping a child secure housing can help ease financial pressure on the child during key career and family-building years.
Lifetime transfers of real property can be structured in a variety of ways. The least complicated is an outright transfer, free of trust. More complicated methods include irrevocable trusts, such as a Qualified Personal Residence Trusts (QPRT). With a QPRT, the parent can continue to live in a residence for a set term of years before it is transferred to heirs. The value of the gift is reduced by the retained right to reside in the residence. If the parent survives the QPRT term, the residence and all the appreciation thereon will be out of the parent’s taxable estate. If, however, the parent dies during the QPRT term, the value of the property on the date of death will be included in the parent’s estate.
In addition to the estate tax considerations involved with lifetime transfers of real property, there is also an income tax consideration of which to be mindful. Specifically, when a parent transfers a residence during life to a child or to a trust for a child, the parent also transfers the parent’s income tax basis in the property to the donee. If the child or the trust sells the property, there may be a significant capital gains tax to be paid.
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