Residence Trust

Qualified Personal Residence Trusts – What They Do and What They Don’t Do

In this article, we’ll define and explain the pros and cons of a Qualified Personal Residence Trust (QPRT), answering questions like, “What is a Qualified Personal Residence Trust?” and “What are the advantages of a QPRT?” and “Is a QPRT right for my property?”

What is a Qualified Personal Residence Trust?

A Qualified Personal Residence Trust, or QPRT, is a unique kind of estate-planning tool that allows a homeowner to transfer his or her own home to an irrevocable trust for the purpose of reducing the amount of gift tax incurred when transferring assets to a beneficiary, all while retaining the right to remain living on the property for a specified term of years. Once that term is over, any interest remaining is transferred to the beneficiaries as “remainder interest.” Depending on the length of the trust, the value of the property during the retained interest period is calculated based on Applicable Federal Rates that the Internal Revenue Service (IRS) provides. Because the other remains a fraction of the value, the gift value of the property is lower than its fair market value, thus lowering its incurred gift tax. This tax can also be lowered with a unified credit.

QPRTs give homeowners the option to transfer a house to beneficiaries at a reduced gift-tax cost or remove an asset expected to appreciate in value from an estate. These trusts are less popular today, due to the updated high estate- and gift-tax exemptions. A QPRT is also useful when the trust expires prior to the death of the grantor. If the grantor dies before the term, the property is included in the estate and is subject to tax. Determining the length of the trust agreement can be risky, depending on the likelihood that the grantor will pass away before the expiration date. Creating a QPRT and transferring ownership of your residence into that trust is a very complex process that cannot easily be reversed. It’s important for everyone to seriously consider the pros and cons of incorporating a QPRT into your estate tax plan.

Advantages of QPRTs

  • It removes the value of your primary or secondary residence, including all future appreciation, from your taxable estate at cents on the dollar. For example, if your home is worth $500,000, you could use as little as $100,000 of your lifetime gift tax exemption to remove a $500,000 asset from your taxable estate. This is great news, considering the value of your home could increase significantly, say $800,000, by the time you die.
  • It allows continued use of the residence and tax benefits. During the retained income period of the QPRT, the homeowner can continue living in the residence rent-free and take all applicable income tax deductions.
  • It protects against possible decreases in lifetime gift tax exemption and estate tax exemption. If your home is worth a lot of money, then the current lifetime gift tax exemption of $5,340,000 allows you to establish a QPRT without having to pay any gift taxes. If the future estate tax exemption significantly decreases, you will have locked in the value of your residence for gift and estate tax purposes, and you don’t have to worry about how much the house will be valued for or what the estate tax exemption will be the year of your death.
  • It helps you create a legacy for your family. If you want your home to stay in your family for generations to come, a QPRT allows you to pass your residence to your heirs in a manner that encourages them to hold onto it for the long haul.
Residence Trust

Disadvantages of QPRTs

  • Selling a home owned by a QPRT can be challenging. If circumstances change and you need to sell the residence that was originally transferred to the QPRT, you have to invest the sale proceeds into a new home, or you have to accept payments of the sale proceeds in the form of an annuity.
  • Beneficiaries inherit the residence with your income tax basis at the time of the estate transfer to the QPRT. QPRT is only ideal for a residence the heirs plan to keep in the family for several decades, because an heir who sells the home after the retained income period ends will have to pay capital gains taxes based on the difference between the donor’s income tax basis at the time of the transfer to the QPRT and the price of the sale.
  • Once the retained income period is over, you’ll have to pay rent to use the residence. If you do not pass before the retained income period ends, your ownership still m