I’ve been practicing law for a while now, and there are some themes that come up over, and over, and over again.
One is that it is smart for Mom and Dad (or Mom or Dad) to transfer their home to the adult children while they’re still alive. And when people believe this, I get calls or emails from people who want to know if I can help them to do it. They are rarely prepared for the response I give them, which is “Yes, I can, but why do you want to do this?”
The answers are varied, but invariably, they boil down to 3 basic categories: (1) They want to avoid probate; (2) They think that this helps to prepare the parents for long-term care or Medicaid planning; (3) They can’t really say why.
This is when I get to tell the people asking me this question the following:
First, here in the state of Washington, probate generally is not something to be feared. What I tell people about the process is “If we don’t have an estate tax problem, we don’t have odd assets which we have to try to value or dispose of, and, most importantly, if everyone is playing nice, then the process can frequently be wrapped up in 6 to 8 months, for a moderate cost. In addition, going through the probate process provides certainty for the heirs and beneficiaries that all the claims and potential claims against the estate are dealt with, so no one shows up a year later with their hand out. Finally, the appointment process by which the Court identifies and empowers a person to deal with the estate often eliminates struggles over how to proceed.
Second, transferring the house to kids is a transfer of an asset that will count for purposes of computing eligibility for Medicaid benefits, and if Medicaid or long term benefits are necessary within 5 years of making this transfer, you may have just made Mom or Dad ineligible for receiving that assistance for a period of time that can be as short as months and as long as years. So instead of helping Mom and Dad, you could be harming them, but this is a question of timing, and it could be part of long term planning provided it is considered long before Mom or Dad need long term care.
Third, people rarely understand that there are tax consequences for making these kinds of transfers, for both Mom and Dad, and for the kids.
For Mom and Dad, they need to make sure they cite the correct exemption to avoid state excise tax on the transfer. Because the value of the home is almost always more than annual federal gift tax exemptions, they should also be filing a federal gift tax return. Because the amount of the lifetime federal gift tax exemption amounts available to each citizen is currently in excess of five million dollars, most of the time, Mom and Dad should be able to apply available exemption amounts to the gift, unless they have already used up their exemption on prior gifts.
For the children, accepting this gift made during Mom and Dad’s lifetime (an inter vivos gift) means that they don’t get a stepped-up basis in the property that they would get by inheriting it instead. If they inherit the property, the kids get a basis in the property equal to the value at the time Mom or Dad passed away. This minimizes or eliminates capital gains if the kids were to sell the property shortly after. However, taking the property as an inter vivos gift means that they get what is often a much lower basis in the property, making capital gains on the sale a much greater possibility.
Inter vivos gifts of a parent’s home to the children can be a useful part of an integrated and well-thought out estate plan, but it is not a transaction that should be engaged in lightly, or without serious consideration.