Tax Strategies for the Wealthy: Qualified Personal Residence Trust (QPRT)
 By Alan L. Olsen, CPA MBA (tax)
Managing Partner
Greenstein Rogoff Olsen & Co. LLP
Wealth management is an important issue for those with substantial assets to protect.
Many people incorrectly assume that their estates will escape federal estate tax
as a result of underestimating what their principal residence will be worth when
they die. Often, our homes are our most valuable assets. The Qualified Personal
Residence Trust (QPRT) provides a means for significantly reducing the estate tax
consequences of the family home and one vacation home. The QPRT also provides an
excellent asset protection vehicle since you no longer own the property once the
trust is established.
The following is a summary of the benefits and features of a Qualified Personal
Residence Trust.
What is a Qualified Personal Residence Trust?
A QPRT is an irrevocable trust created by the Grantor (yourself) for your own benefit.
The Grantor transfers a primary or secondary residence into the trust and retains
the continued right to use the residence for the term of the trust. You, as Grantor,
select a term of years that the trust will exist. After the trust ends, the residence
will pass to the named trust beneficiaries.
How is a QPRT established?
A formal appraisal should be obtained to substantiate the value of the residence
on the date of transfer to the trust. The Grantor makes a taxable gift to the trust.
The taxable gift is the fair market value of the transferred residence reduced by
the value of the interests retained by the grantor. Because the remainder is a future
interest, it will not qualify for the $10,000 annual exclusion. The taxable gift
will be determined by using the actuarial tables in IRS Publication 1457 to value
the remainder, taking into account the two values retained by the grantor, i.e.
(i) the right to income for the term of the trust, and (ii) the right to receive
the property back if the grantor dies during the trust term. The table determines
the rate by taking into account the term of the trust and your age at the time of
the gift to the trust.
How is a QPRT Operated?
The trust document must prohibit the sale of the residence held in the trust to
the Grantor, the grantor’s spouse, or any entity controlled by either of them. The
trust should also be prohibited from holding any asset other than a residence used
by the Grantor as a personal residence. Personal property, such as furnishings,
may not be held in the trust. The document must require that net income be distributed
annually to the grantor. The document may permit the sale of the residence and may
permit the trust to hold proceeds from the sale of the residence, in a separate
account.
You, as Grantor, will have unlimited access to and use of the residence. You have
the right to occupy the property, have guests join you at the property, receive
the rental income if the residence is rented to third party persons, and sell and
purchase other substitute property. You are responsible for paying all expenses
relating to the property.
Cash additions may be held in a separate account in an amount that does not exceed
the amount needed to pay trust expenses, mortgage payments, or improvements within
the next six months. While expenses may be paid from the trust, it will generally
be easier for you to pay them directly. The trust is permitted to hold insurance
on the property, as well as any proceeds as a result of damage to the residence
that are intended to be used for repair or replacement. The proceeds must be held
in a separate account.
If you intend to continue residing in the residence after the trust expires, a fair
market value rental will have to be paid to the children to avoid estate inclusion.
How do I Terminate a QPRT?
If the term of the trust expires during your lifetime, the residence will pass from
the trust to the remainder beneficiaries. The terms of the trust can state that
you have the right to rent the residence. IF you fail to survive the term of the
trust, the trust will end. Your interest in the QPRT will be includable in your
estate. Your estate would get credit for any gift tax that had been paid.
What are the Tax Consequences of a QPRT?
The advantage of the QPRT is the reduced estate and gift taxes on the gift of the
property. The transfer of the residence to the trust is subject to gift tax and
will consume the unified credit to the extent of the taxable gift. A gift tax return
will be required no matter how small the remainder is because it will not qualify
for the annual exclusion. However, the taxable gift will be significantly less than
the value of the property, since the taxable gift is only a percentage of the value
of property transferred to the QPRT based on your age and the terms of the trust.
The full value of the trust assets are exempt from estate tax if you survive the
term of the trust. The full value of the trust assets are taxed in your estate if
you fail to survive the term of the trust.
All income and deductions are reported to you, as grantor. A separate income tax
filing is not required if you are also the trustee. Your children, as remainder
beneficiaries, will receive a basis in the property equal to your basis in the property.
California does not impose a property transfer tax when a QPRT is established because
it is a gift transaction. Recording fees for the new deed will be imposed.
As an example, if the residence is valued at $1,000,000 and you transfer the property
to the QPRT at age 60, for a term of ten years, the following will result:
Property Value
$1,000,000
Grantor Age
60 years
Trust Term
10 years
Federal Rate
8%
Value of Taxable Gift
$377,565
Value of Retained Interest $622,435
The values would obviously change as any factors change.
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