In estate planning, reducing taxes is a primary concern for many clients with significant wealth, and certain trusts can help achieve this goal. For example, a qualified personal residence trust (QPRT) is an irrevocable trust high-net-worth families may use for tax planning, with unique considerations to keep in mind. Hear from Mark as he explains how QPRTs work and what to assess before using one:
What are the Tax Benefits of a QPRT?
A QPRT involves transferring the value of your personal residence to a trust to remove its value and any future appreciation from your taxable estate. This can save wealthy families a significant amount in estate taxes. Here are some other requirements of a QPRT:
- You can continue to live in the home for a set term you must outlive before passing it to your beneficiaries to capture tax benefits.
- If you pass before the trust term ends, your home’s value will return to your taxable estate.
What are the Trade-Offs of a QPRT?
A special caveat, however, is that QPRTs don’t have a step-up in basis. Here’s what that means:
- Typically, when you pass assets to heirs, there is a step-up in basis, which helps reduce or eliminate capital gains taxes. A step-up means the cost basis of the inherited asset is reset to its fair market value rather than its original purchase price. If an heir sells the asset immediately, they can reduce or avoid capital gains on any appreciation. For example:
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- Step-Up in Basis: Let’s say you bought a house for $500,000 and it has appreciated to $2 million upon your passing. In this case, your heirs will inherit the home for $2 million, and the $1.5 million in appreciation is not subject to capital gains taxes.
- QPRTs: There is no step-up in basis in QPRTs, so your heirs would be responsible for paying capital gains on any appreciation when they sell the home.
This is an important trade-off to consider, because while a QPRT can help reduce estate taxes, it can also trigger high capital gains taxes for your heirs if they decide to sell the appreciated house.
There are additional strategies heirs can use to help offset capital gains, such as living in the home to delay paying capital gains taxes or qualifying for an exclusion if they live in the house for a certain period.
As you can see, QPRTs can be a powerful, albeit complex option for wealthy families. Your unique circumstances and the guidance of a financial professional can help determine if one is right for you and your heirs. If you’d like to explore QPRTs, other trusts, and more tax-efficient strategies, contact us today. To help us understand your current financial situation, please complete our Financial Evaluation, and our team will respond with recommended next steps.
Disclaimer: Case Studies are provided for illustrative purposes only to provide an example of the firm’s client base, process, and methodology. The experiences portrayed herein are not representative of all firm clients. Other individual outcomes may vary based on their individual circumstances, and there can be no assurance that the firm will be able to achieve similar results in comparable situations. No portion of this case study is to be interpreted as a testimonial or endorsement of the firm’s financial and investment advisory services. Client tax situations are unique and specific, and you are encouraged to consult a tax professional to analyze your specific situation. This material has been prepared for informational purposes only, and is not intended to provide tax, legal or accounting advice; nothing contained in these materials should be taken as such. The opinions expressed in this article are not intended to provide specific advice or recommendations for any individual or on any specific tax strategy or security. The material is presented solely for information purposes and has been gathered from sources believed to be reliable, however Opes Wealth Management cannot guarantee the accuracy or completeness of such information, and certain information presented here may have been condensed or summarized from its original source. Advisory services are only offered to clients or prospective clients where Opes Wealth Management and its representatives are properly licensed or exempt from licensure. No advice may be rendered by Opes unless a client service agreement is in place.
