Real Estate Inheritance Tax Considerations
Many people are not aware that when real estate is inherited that the cost basis is set at the date of death of the homeowner and not at the date of purchase of the home. Family members who are going to inherit real estate may be responsible for paying taxes on the amount that the property is valued at depending on their individual tax circumstances. There are some ways that parents can reduce this burden by smart real estate family inheritance planning tax. While options can be complicated and largely depend on individual state rules, the federal tax burden can be reduced by several methods. Some of these include adding children to the property before death, taking a mortgage out on the property (thereby reducing the value due to debt) or by using gift tax laws wisely to transfer small amounts of the value of the property to children over time.
Inheritance Planning Tax - Gifting
Those who are considering real estate family inheritance planning tax may consider gifting as a method of reducing the tax burden upon their death. Couples who own their homes may each gift portions of the property value to their child, however, there may be other legal implications to doing this. Transferring the property will involve changing the title (or the deed) of the property to a Tenancy-In-Common arrangement whereby the children or heirs would be deeded portions of the property.
Tenancy in Common is defined by the Free Legal Dictionary as “title to property (usually real property, but it can apply to personal property) held by two or more persons, in which each has an “undivided interest” in the property and all have an equal right to use the property, even if the percentage of interests are not equal or the living spaces are different sizes…”
For most homeowners, their estates will not be significant enough to require that their heirs be concerned about inheritance taxes. While the rules may vary from state to state, the federal caps on estate values are relatively steep and will help most heirs avoid these taxes.
Estate Planning for Tax Purposes
Some homeowners believe that the best way to avoid inheritance tax issues is by keeping a mortgage on their home. Any monies that are owed on a property are deducted from the value of the property for tax purposes. In some instance, homeowners may have taken out a reverse mortgage on their property and used these funds to gift to their heirs.
Some parents have considered selling a home to a child for less than the market value as a potential means of reducing tax liability. This is not a good real estate family inheritance planning tax strategy for numerous reasons including the IRS view of this practice. Before determining the best strategy for real estate that your family will be inheriting, it is a good idea to discuss your options with a tax specialist who understands the rules that the IRS imposes on gifting, mortgages and inheritance taxes. There may be options available that will help plan an appropriate family inheritance tax strategy that works best for the entire family.
There is no one way that is right for every estate, individual circumstances may alter the necessity of making any changes to estate planning while others may need to develop a more agressive stance by using trusts, transfers or other gifting processes to protect their heirs from steep tax obligations when they inherit real estate.
Resources and Image Credits
Sources: IRS: https://www.irs.gov/publications/p17/ch13.html#en_US_2010_publink1000172221
Tax Policy Center: https://www.taxpolicycenter.org/briefing-book/key-elements/estate/
Tenancy in Common: https://legal-dictionary.thefreedictionary.com/Tenancy+in+Common
Gifting and Tax Strategies: https://www.extension.org/pages/Gifting_and_Tax_Strategies
Purchased: Last will and testament: istockphoto.com/eric1513
Gift Box: By Zeus Box (Kuswanto) () [GFDL or CC-BY-SA-3.0 (www.creativecommons.org/licenses/by-sa/3.0/)], via Wikimedia Commons