Getting Comfortable with QPRTs

QPRT is a funny-looking acronym for an unusual, but often useful, estate planning strategy. The letters stand for qualified personal residence trust — and, as the name implies, trust owners transfer their homes to QPRTs to help avoid possible estate taxes and to benefit their heirs. Let's take a closer look.

Key Selling Points

Probably the biggest selling point for QPRTs is that they enable owners to reduce or eliminate estate tax exposure related to their residences while allowing them to stay in the homes. Even after you transfer your home to a QPRT, you can continue to live in it for a stated term of years. When the trust ends, any remainder interest passes to your beneficiaries.

Once you transfer a home to a QPRT, it's removed from your taxable estate. The gift and estate tax exemption currently is an inflation-indexed $11.7 million for individuals and $23.4 million for married couples. However, it's scheduled to revert to $5 million and $10 million in 2026.

The transfer of the remainder interest to beneficiaries is subject to gift tax, but tax resulting from this future gift is generally low. To calculate it, the IRS uses the Section 7520 rate, which is updated monthly. In February 2021, the Sec. 7520 rate was only 0.6%.

Getting Started

When you set up a QPRT, you must appoint a trustee to manage it. Frequently, a grantor acts as the trustee. Alternatively, it can be another family member, friend or professional advisor.

You also need to determine the trust period. There's no definitive term, but you should know that the longer the term, the smaller the value of the remainder interest left in the QPRT. If you're still living in the home at the end of a term, the remainder beneficiaries become its owners. You can continue living there so long as you pay these beneficiaries a fair market rent. (Beneficiaries will own tax on the rental income.)

On the flip side, it you die before the end of the trust period, the home will be included in your taxable estate. This defeats the intentions of the trust. But other than the costs involved with creating and maintaining the QPRT, your family is no worse off than it was before the QPRT was created.

In most cases, an owner transfers a principal residence to the trust. But a QPRT may be used for a second home. In fact, you can maintain trusts for both residences. The IRS usually treats the land adjacent to a house as being part of the principal residence. However, the land included in a QPRT should be "reasonable," based on the location, size and use of the home.

Risks and Caveats

Make sure you understand the risks before establishing a QPRT. For example, QPRTS are irrevocable, which means you can't back out after the paperwork is signed. However, the worst that can happen is that you pay rent to your beneficiaries if you outlive the trust term — or the home goes back into your estate if you don't.

Also, as long as you live in the home, you're responsible for paying property taxes, maintenance and repair costs, and insurance. Fortunately, because the QPRT is a grantor trust, you're entitled to deduct qualified expenses on your tax return, within the usual limits.

Other potential downsides to consider are:

Not For Everyone

QPRTS aren't for everyone. But if you can live with the potential pitfalls, a QPRT could become an essential piece of your comprehensive estate plan. Discuss this option with your advisor so that you can make an informed decision.

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