QPRTs have now been available for nearly twenty years. QPRTs are excellent structures to achieve both transfer tax and asset protection planning for equity in the residence, which is often the most emotionally important family asset. However, QPRTs remain underused. Current economic uncertainties, which create fear in the minds of homeowners, and favorable non-tax precedent (discussed below), suggest that a fresh look at QPRTs is warranted.
A QPRT is an irrevocable trust to which the parent transfers a residence. The QPRT has two beneficiaries: the current beneficiary is the parent; the contingent beneficiary is the child (better: an irrevocable trust for the child's benefit). The reason the child is a contingent beneficiary is that the child only receives the residence if the parent survives the QPRT's term. If the parent does not survive the term, the QPRT ends and the house is distributed back to the parent's "family" trust. The parent picks a term of years for the QPRT. The longer the term of years, the smaller the gift to the child. However, the longer the term, the less likely the parent is to survive the term. The interest rate used is determined under Internal Revenue Code ?7520, which is 120% of the Federal midterm rate rounded to the nearest 2/10ths of 1% for the month of value.
The QPRT is a way for the parent to transfer the residence (and it's equity) to the child at a reduced gift tax value. The residence is not included in the parent's estate if the parent survives the QPRT's term. From an asset protection perspective, once the residence is in the QPRT, the parent no longer owns the residence; the shorter the term of the QPRT, the less valuable is the parent's retained right to live in it rent free.
Transfers to a QPRT do not qualify for the annual gift tax exclusion. Also, allocations of generation skipping transfer tax exclusion cannot be made until the QPRT term ends. If the parent does not survive the QPRT's term, the residence is included in the parent's estate at the date of death fair market value. However, any exclusion applied to the gift is recovered by the child for estate tax purposes. If the parent survives the QPRT's term, the parent must pay rent to continue living in the residence. However, the new "reverse QPRT" is discussed below. Once the residence is in a QPRT, the parent cannot borrow on the residence's equity and use the borrowing for the parent's own personal purposes. Also, once the residence is in a QPRT, lenders are less willing to finance or refinance the residence.
Timnig and Tax Planning
There is an integral relationship between (i) estate tax planning; and (ii) asset protection planning. The same structures that reduce the value of assets for estate tax purposes also reduce the attractiveness of those assets to a future creditor. Also, most taxpayers (clients and CPAs) wait until they need the help, whether it is estate tax planning or asset protection planning. The CPA can provide an invaluable service by encouraging the client to take action well in advance of either of those two important needs.
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