Why put your home in a trust? There is one main reason: to avoid the probate process. There can sometimes be confusion that a living trust offers asset protection from creditors, or may remove the home from the taxable estate. Although a living trust can be an effective estate planning technique, it is important to understand the benefits it can – and cannot – provide. Important disclosure: The material in this article is intended to provide generalized information only as to some of the financial planning considerations of putting a house in trust and should not be misconstrued as the rendering of personalized legal or tax advice. We strongly recommend you consult an attorney to discuss your personal situation and estate planning needs.
For the purposes of this article, understanding some basic trust terminology is required.
- Grantor: A grantor(s) is the person setting up and funding the trust with their own assets.
- Beneficiary: A beneficiary is the individual(s) who are designated to ultimately receive all or a portion of the assets in the trust.
- Trustee: A trustee is responsible for managing the assets in the trust and satisfying the wishes of the grantor as outlined in the trust document. When the grantor is also the trustee, successor trustees are named to step in after death or incapacitation.
It is important to note that it is not uncommon for a grantor to serve these roles simultaneously in certain types of trusts. Although no one will ever replace the grantor, it is also not uncommon for subsequent beneficiaries to also serve as trustee.
Should you appoint a family member as trustee?
Having family members and/or beneficiaries also serving as trustee can strain family dynamics and is not typically advisable. Consider appointing an independent third party or corporate trustee to manage the assets and execute the wishes of the grantor. Acting as trustee can be a significant amount of work and there are legal implications if certain functions are handled improperly. By alleviating family members of this burden and assigning a "neutral" party to act as trustee, it significantly reduces any potential in-fighting about perceived improprieties regarding the distribution of assets amongst the beneficiaries or other family members.
What is a Revocable trust?
As the name implies, the revocable (or living) trust can be modified, dissolved, rescinded, and so on. If a home is placed in a living trust, the grantor (or co-grantors) may remove the home from the trust, sell the property, refinance, and so on, without any special permission.
Revocable trusts can offer beneficiaries a step-up basis at death. This is a significant benefit compared to gifts made during your lifetime. Step-up basis means the beneficiary's tax basis in the inherited property will be the market value at the date of the grantor's death. This can be significant for appreciated assets. If the beneficiary subsequently sells the property, they owe little to no capital gains. Lifetime gifts do not receive step-up basis, instead (for appreciated property) the donor's cost basis is transferred to the recipient.
Putting your house in a revocable or living trust
The main reason individuals put their home in a living trust is to avoid the costly and lengthy probate process at death. Leaving real estate assets to a spouse or children in a will causes those assets to pass through probate. The process can take a few months or even a year and some estimates place the costs of probate at 3% - 7% of the value of the estate. This becomes especially important if you own real estate in multiple states. Each state will have its own probate proceedings which can be costly, time-consuming, and also completely avoidable.
Again, recall that the primary benefit of putting your home in a revocable trust is to remove the asset from your probate estate. Since you can access the assets in the trust at any time, a revocable trust does not provide asset protection from creditors or remove the home from your taxable estate at death. Working with an attorney is an important part of the estate planning process. A detailed discussion of your goals can help an attorney to identify what solutions may fit your needs.
Other considerations before putting real estate in trust
Buying and selling
From a practical standpoint, most lenders will not allow you to purchase or sell a home in the name of a trust. The house may need to be removed from the trust beforehand or put in after it is purchased. This may also delay the process if you're trying to refinance or take equity out of your house.
Tax benefits of ownership
Putting the property in a revocable trust will not impact the personal residence home sale exclusion or mortgage interest deduction. Also ensure that placing the property in trust won't trigger a reassessment of property taxes if a state or county no longer considers this a primary residence for tax purposes.
Homeowners and title insurance
The transfer of real estate into trust can also create issues with title insurance and homeowners insurance. You will need to ensure that your title insurance will still cover you as trustee of your living trust.. This is important because not only do lenders require you to have title insurance, but it protects you from a number of events like someone claiming an ownership interest, liens, encroachments, easements, and so forth. Also check with your insurance company to determine whether the trust will change your policy.
Every situation is different and has its own complexities. That’s why it is important to work with your attorney to understand your options and whether a trust is the right solution for you.
Darrow Wealth Management is an SEC registered investment advisor in Massachusetts. The material contained in this article is for general information only and should not be construed as the rendering of personalized investment, legal, accounting or tax advice.