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Many people want to transfer title to their homes or other real estate to their children, or add their children to the title in an effort to simplify their estate or avoid probate. In some situations this can work well. In other situations, however, doing so can create more problems than were avoided. This article explores the issues that can arise when children are added to real estate titles, and gives some alternative strategies for dealing with the real estate to avoid those issues.
Types of Real Estate Ownership
Two or more people can own real estate as tenants in common or as joint tenants. Both have equal rights and obligations to the property while they are both alive, but produce different results when one owner dies. If they are tenants in common, the deceased owner’s interest is inherited by his descendants or whoever he specifies in his will. If they are joint tenants, the surviving owner inherits the deceased owner’s interest and then owns it as well as his own.
Alternatively, a real estate owner can transfer the property to a child or other person and reserve a life estate. This means that the owner has the sole right to possession of the property and the sole obligation to maintain it during her lifetime. The child has a remainder interest, which means that he inherits all rights to the property at the life tenant’s death. The life tenant has the sole right to live in the property and the sole responsibility to pay taxes and expenses of the property. If the property is sold, the remainderman is entitled to a percentage of the sale proceeds based on the parent’s life expectancy and age at the time of sale. The percentage is established by using the applicable IRS tables in 26 USC § 1274(d)(1).
A court probate proceeding is needed to remove the deceased owner’s name when title is held as tenants in common. The person or people inheriting the property interest are determined by the decedent’s will or, if none, by intestacy, statutes and a personal representative must be appointed to sign the deed transferring title. No probate proceeding is necessary if title is held in joint tenancy or a reserved life estate, and title can be transferred by recording an affidavit of survivorship. Tenants in common, joint tenants, and remaindermen are all considered owners of the property and must consent to the sale or mortgage of the property during the lifetime of the original owner.
Multiple Decision Makers
After parents transfer their home to their children or another person, they no longer own it. Even if the children agree that the parents can continue living there, the children have the right to decide on repairs and improvements to the property, or even to sell it. Even if the parents continue to own the property and just add a child as a tenant in common, joint tenant, or remainderman, they no longer own it alone and do not have the sole right to make decisions about it. Here are some of the issues that can crop up when there are multiple owners:
Effects on Medical Assistance Eligibility
If a parent gives his home (or a partial interest in it) to his children, and is not selling it for fair market value, medical assistance (MA) will consider this to be an improper transfer and won’t pay for the parent’s long-term care (nursing home) during a period of ineligibility. The length of this period varies depending on the amount of the gift. MA has a five-year (60-month) lookback period for gifts that starts when the gift is made. Any application for MA made before the expiration of the 60-month period will trigger the ineligibility rules. During the period of ineligibility, the parent must pay for his own care. This means that an application for Medicaid should be avoided for at least 60 full months after the date of the gift.
All gifts made during the five-year lookback period count in this calculation. So if a parent gives his $250,000 house to his children, and sometime during the next few years gives a grandchild $20,000 to help with unexpected financial problems, Medicaid will use $270,000 in calculating his ineligibility.
If the home is owned jointly with other owners who refuse to sell it, the home is considered unavailable and is not considered as an asset of the MA applicant. DHS Health Care Programs Manual 19.15.05. If the parent has received MA benefits, however, the county will have a lien against the home and will have to be reimbursed when the home is sold. Minn. Stat. § 256B.15.
Homestead Status for Real Estate Taxes:
If a parent lives in the property, she can continue receiving the homestead property tax exemption if she is the owner or a co-owner, or even if she is a relative of the owner. Minn. Stat. § 273.124 (subd. 1(c). “Relative” includes the following persons whether related by blood or marriage: parent, stepparent, child, stepchild, grandparent, grandchild, brother, sister, uncle, aunt, nephew, and niece. Neither the related occupant nor the owner of the property may claim a property tax refund under Minn. Stat. Chapter 290A for a homestead occupied by a relative.
Tax statements are sent to each address listed at the bottom of the deed. All co-owners can be listed so each will receive a copy. The owners can decide among themselves who will pay the property taxes or how they will divide the taxes up. In the case of a life estate, the holder of a life estate is legally responsible for paying the taxes, not the remainderman.
There are gift tax consequences if a person gives property worth more than the annual exclusion amount to any one person in any one year ($13,000 in 2011). No gift tax will be due at that time, but a gift tax return must be filed. Gift tax will be due at the person’s death if his estate is large enough. A gift of a remainder interest (when the parent retains a life estate) is a gift of a future interest that is not eligible for the gift tax annual exclusion.
Income Tax Basis:
If the house is gifted to the children without any retained interest (life estate), the children will have a carryover of tax basis, which means that they would have to pay capital gains tax on the increase in value from the time the parent bought it until it was sold. If the children inherit the property at the parent’s death, however, they would have a stepped-up basis, which means they only have to pay capital gains tax on the increase in value from the date of death to the date of sale. 26 USC § 1014. Depending on how much the property has increased in value while the parent has owned it (the amount of the gain), the gift may result in a large amount of capital gains tax due.
Income Tax Exclusion:
In some circumstances, a homeowner may exclude $250,000 of gain upon the sale of her homestead. 26 USC § 121(a). Co-owners who do not live in the home are not eligible for the income tax exclusion and will have to pay capital gains tax on their share of the gain.
How Can You Avoid These Problems?
Transfer on Death Deed (TODD):
This new type of deed, which became available August 1, 2008, transfers title to real estate at the time of the grantor’s death.Minn. Stat. § 507.071. This deed must be recorded prior to the death of the grantor, does not take effect until the grantor’s death, and is revocable at any time up until the grantor’s death. It names one or more beneficiaries who will take title upon the grantor’s death, but conveys no current interest in the property. The recipients are not considered owners during the grantor’s lifetime, so their consent is not needed to manage the property.
A TODD is different from a joint tenancy because the grantee has no rights in the property until the grantor dies. It is different from a life estate, because the grantor can revoke it without the grantee’s consent or signature.
It is similar to a will in that multiple or successor beneficiaries can be named, and the statute governs who takes title if the named beneficiary dies before the grantor. The beneficiary does not have to consent to the TODD or even be aware of it. A TODD cannot be revoked by a will, but can be revoked by another TODD or a current sale or gift of the property by the parent. An affidavit of survivorship is recorded to transfer the property to the beneficiary after the grantor’s death, and no probate proceedings are necessary.
A TODD makes sense for people who have a small estate and want to give it to one or a few people, and who want to retain control of their assets but still avoid probate. Unintended consequences can arise when multiple, class, or successor grantees are named or if some beneficiaries die before the grantor.
Advantages of a TODD:
A revocable (or living) trust can be a substitute for a will in many situations. It provides for continuity of management of assets during the grantor’s lifetime if she can no longer do so, and provides for distribution of her assets after her death. The grantor transfers title to her assets into the trust now, and avoids the necessity of probate after her death. The grantor can be the initial trustee and retain control over her assets, including her home, and appoint a successor trustee to assist him or take over management when she is no longer able to do so. The trustee continues after the grantor’s death to terminate the trust and distribute the assets according to the terms of the trust agreement. This role is similar to that of a personal representative in a probate.
The homeowner (as trustee) retains control of her home; can sell, mortgage, or maintain it as she wishes, without the consent of her children. The home will transfer to her intended beneficiaries after her death without the necessity of a probate proceeding.
A revocable trust can be amended or revoked by the grantor at any time without the consent of any other party.
A person can execute a will at any time that will transfer title to a home and other property at death. A will can be revoked or amended. After the individual's death, a probate court proceeding is required. The will can cover all assets owned in the person’s own name that do not have a beneficiary designated, in addition to the home. The person remains the sole owner until death.
The will can provide that the assets will be transferred directly to children or other beneficiaries immediately after death, or provide that the assets will be held in trust until a certain time. Examples include trusts for minor beneficiaries, supplemental needs trusts for disabled individuals who receive governmental benefits, or other trusts designed to reduce the amount of estate taxes owed.
The person making the will retains control over all of his assets until death, including the home, and can manage them without the consent of the eventual heirs.
If a person dies owning a homestead in his own name, and does not have a will, the homestead will pass to the heirs under Minn. Stat. § 524.2-402.
If a person has many children and/or many assets, a will or revocable trust is generally better than a TODD, because those documents can apply to many assets, and it is less likely that many people will end up owning a parcel of real estate.
Although many people want to add their children as co-owners of their home as an estate planning tool or to avoid probate, such a step frequently causes more problems than it solves. During the period of co-ownership, all owners have to agree on all major decisions regarding the property, including its sale, refinancing, repairs, and maintenance. They must agree on who will live in the home and who will pay all expenses, including property taxes. The spouses of all owners must also agree to any sale or refinancing. Disagreements can lead to family disputes and, at the extreme, a partition action. There can also be tax and medical assistance complications. If a parent is ill and expecting to die soon, adding a co-owner or gifting the property can eliminate the need for probate. But if the parent takes these actions early in life or has many children, major problems can result.
The use of other estate planning tools, such as wills, revocable trusts, or TODDs can be more flexible and make it easier to treat all family members fairly. Revocable trusts and TODDs can eliminate the need for probate that some people desire, although probate is not as difficult, expensive, or lengthy as many people think. Probate is less likely to cause family disputes than co-ownership of the parent’s home.