Article: Qualified Personal Residence Trust

September 2000

Home free: the qualified personal residence trust

A QPRT lets you transfer your home to your kids at a substantial tax savings

You can have your cake and eat it, too. A special kind of irrevocable trust – a qualified personal residence trust (QPRT) – allows you to transfer your home to your children at a significantly reduced gift tax cost and with no estate tax, while allowing you to continue to live there for as long as you wish.

How it works. You transfer your home to the qualified personal residence trust. The trustee – you can appoint yourself – must let you occupy the home, rent-free, for a fixed number of years that you specify in the trust agreement.

During the "fixed" term, you continue to pay the mortgage, real estate taxes, insurance and upkeep, and deduct the mortgage interest and real estate taxes on your individual income tax return. If the home is sold during the fixed term, the trustee (it’s still you) can roll over the proceeds income, tax free (subject to the rules that normally apply in determining whether a tax-free rollover of the proceeds from the sale of a personal residence is available) by purchasing a replacement home within two years. When the fixed term ends, the home is distributed to your children or remains in further trust for them.

While a QPRT must be set up as an irrevocable trust, the trust document can permit the property to be transferred back to the owner before the trust term ends under certain conditions.

For example, if the property is no longer used as the owner’s personal residence, then a trustee (but not the owner) can transfer the property back to the original owner, or sell the property and transfer the proceeds to the original owner, within 30 days of the discontinuation of the use as a residence. After 30 days, title to the property or the proceeds of any sale must remain in the trust for its full term, or until the death of the owner.

After the fixed term. Even after the fixed term ends, you can continue to use the home in one of two ways:

Rather than immediately distributing the home to your children, the home can be retained in trust for your spouse’s lifetime, thus assuring that the home is available indirectly to you.
You can enter into a lease with your children, to allow you to live in the house for as long as you wish.

If you survive the fixed term of the QPRT, the value of the home will not be included in your estate for tax purposes. Although your transfer of the home to the trust is a taxable gift, you are allowed to subtract from the value of the home the deemed rental value for the term you have retained.

Tax savings. Generally, no gift tax will be due as a result of your gift to the trust, since the gift (after subtracting the rental value of the home for the term you have retained) would be unlikely to exceed your available $650,000 exemption (in 1999) from the gift and estate tax.

For example, a $1 million property placed in a 15-year QPRT by a 60-year-old homeowner would currently be valued for tax purposes at only $275,180, even if the value of the property increases over the term of the trust. (Table H of IRS Publication 1457 contains the table from which the discounted value of property is calculated.)

The discounted value is applied only if the person who created the trust outlives the trust and the property is transferred out of the trust. If the grantor dies before the term ends, the property passes through the estate and is taxed at its market value at the time of death.

Based in Mesa, Arizona, and serving closely held businesses in the East Valley, the Phoenix area and throughout Arizona, Schmidt Westergard & Company, PLLC, is an independent full-service tax, audit, accounting and business advisory firm focusing on the middle market.