QPRT’s – Estate Tax Planning

One estate tax avoidance strategy is to gift to your children a remainder interest in your home. As an example, let's say your home is currently valued at $1 million, and let's also say that you draw a gift deed so that your children's remainder interest vests after ten years. The value of the gift you are making today would be the present value of receiving the home ten years from now. Appraisals and estimates from qualified professionals would have to be made to support your estimation of the present value of the gifted remainder interest. Assume for the sake of this example that the present value of the gifted remainder is $600,000. Results of the gift would be (i) you pay gift tax now on $600,000, (ii) your kids get a remainder interest that will result in them owning the home outright in 10 years (when it's worth more than $1 million, and (iii) you get property worth $1 million out of your estate and avoid paying any estate tax on it at death.

CAVEAT: You must live longer than the ten year vesting period for this to work. If you are in poor health or of advanced age, pick a shorter vesting period. If you die before the remainder vesting period ends, the entire value of the home is subject to estate tax as though it's part of the estate at your death. In other words, if you don't live for the entire remainder vesting period (10 years in our example), the whole transaction is disregarded by the IRS for estate tax purposes.

Rather than deed a remainder interest in the home to your children today, an alternative is to use a Qualified Personal Residence Trust ("QPRT"). That is, rather than deeding the home to your children, you deed it to a QPRT and have 100% ownership interest in the property vest in the QPRT immediately. The QPRT trust instrument specifies that you can live in the house during some period of time, let’s say, 10 years. This is called your “enjoyment period.” After that, you lose the right to possess and use and enjoy the property, and your children obtain the right to possess and use and enjoy the property. Why choose this option? Because a QPRT allows you to deal with a variety of contingencies in the trust instrument. For example, what if your children die before you, before the vesting period is complete? Who should get the property? If you've deeded the property to your children and they predecease you, ownership would be tied up in their individual probate proceedings. But if you use a QPRT, the trust instrument can set forth what should happen in that and other possible scenarios.

CAVEAT: Just as you must live for the entire vesting period when using a gift deed, you must also live through your entire enjoyment period of the QPRT, or the IRS will disregard the transaction. In other words, if our example with the one million dollar home, you must lose the right to live there before you die, or the QPRT will be disregarded by the IRS for estate tax purposes.

QPRTs are similar to Charitable Lead Trusts in that both utilize the time value of money to minimize the present value of a gift given to the next generation. With Charitable Lead Trusts, you give property to a charity to use for 10-20 years, and then the ownership reverts back to your children. With QPRTs, you continue to enjoy your interest in the property (say for 10 years) before your children get use of the property. Either way, the delayed nature of the gift to your children makes it a less valuable gift. Thus, the property is out of your estate with a decreased gift/estate tax payment. The trade-off is that you have to pay gift tax now rather than waiting until you die and paying a larger amount of estate tax.