It is no secret that real estate is very valuable in the great state of California, and prices have increased considerably over the last decade. According to Zillow.com, the median cost of a home in Burbank is now $1.146 million.
This is the midpoint, so there are countless homes that are valued at more than this amount, and that’s a beautiful thing if you are a homeowner. At the same time, from an estate planning point of view, home value increases can have a negative impact.
The federal estate tax can take a bite out of your legacy because it carries a 40 percent top rate, but it is not applicable on the entire estate. There is an exclusion that you can use to transfer a certain amount tax-free, and the tax would potentially be levied on the remainder.
This year, the exclusion is $12.92 million, and this figure indexed for inflation is scheduled to remain in place through 2025. In 2026, a provision in the Tax Cuts and Jobs Act is going to sunset, and the exclusion will go down to the 2017 level of $5.49 million indexed for inflation.
There is no estate tax to pay when a surviving spouse receives an inheritance from their spouse because there is an unlimited marital deduction. One caveat is the fact that this deduction is only available to American citizens.
When the Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010 was enacted, there was a portability provision. This gives the surviving spouse the right to use the exclusion that was allotted to their deceased spouse.
There are 12 states that have state-level estate taxes, but California isn’t one of them. However, if you own valuable property in one of these states, the tax in that state would apply to your estate. That is, if its value exceeds the exclusion in the state that it is located in.
In most instances, the state-level exclusions are significantly lower than the federal exclusion. For example, many Californians own property in Oregon. The exclusion in that state is just $1 million.
Federal Gift Tax
It would be nice if you could simply give gifts while you are still alive to sidestep the estate tax, and this was possible shortly after the estate tax was enacted back in 1916. Tax minded legislators closed the loophole when a gift tax was put in place in 1924.
The other side won the battle in 1926 when it was repealed, but they lost the war when the estate tax was reinstalled in 1932. It has been a fact of life ever since then, and the estate tax is unified with the gift tax.
If you use any portion of your exclusion while you are living to give tax-free gifts, it would reduce the remaining exclusion that can be applied to your estate.
Qualified Personal Residence Trust
There is an estate tax efficiency strategy that can be implemented to reduce the taxable value of your home. You could convey it into a qualified personal residence trust, and you would name a beneficiary that will inherit the home after the trust term expires.
Your living situation is not disrupted because you continue to remain in the home living rent-free for an interim that you determine. This is sometimes referred to as the retained income period.
The home is no longer part of your estate when you convey it into the trust, but you will be giving a taxable gift to the beneficiary. When the Internal Revenue Service is calculating the taxable value of the property, they will take the retained income period into consideration.
An objective buyer would not be willing to pay the full value for a home that will be occupied by someone else for a number of years. This will reduce the taxable value of the gift that is going to be received by the beneficiary.
Ultimately, when the transfer takes place, the taxable value will be far less than the true fair market value of the home.
We Are Here to Help!
A qualified personal residence trust can be part of an overall estate tax efficiency strategy if taxation is a source of concern for you. This being stated, we can help you devise a plan that is ideal for you and your family if your estate is not going to be exposed to taxation.
You can schedule a consultation appointment at our Burbank, CA estate planning office if you call us at 818-937-2335. There is also a contact form on this site you can use if you would prefer to send us a message.