Trusts and limited liability companies, or LLCs, can hold real estate for tax advantages or avoidance of the probate process. Some homeowners work in high-risk careers or own their businesses, and wish to keep the home from becoming vulnerable to lawsuits.
Here, we briefly summarize key options.
The Revocable (Living) Trust
You can create a living trust—a document that declares how your property should be managed—naming yourself as a trustee. You may dissolve or amend the trust when you wish. You may remove the home, sell it, or refinance it.
This retention of control has several implications:
- A revocable trust can be a great estate planning tool but it does not provide asset protection from creditors.
- Trust assets do not go through probate if the trust document provides for a trust that survives you. Yet the home counts as part of your taxable estate.
- You keep your personal residence sale exclusion, and any mortgage interest deduction.
- Property taxes are not impacted, insofar as state and local governments deem the property your primary residence.
If you, as the trustee, die or become incapacitated, your named successor trustees step into your shoes. Consider appointing a neutral, corporate trustee.
Putting your home in a revocable trust (rather than giving it to another person during your lifetime) means its “stepped-up” tax basis will be the home’s market value at the time of your passing—potentially sparing your beneficiary large capital gains taxes.
Moreover, avoiding probate can be desirable—especially if you have homes in different probate courts’ jurisdictions.
Doing It Yourself
Ask your mortgage company if the title transfer will trigger a due-on-sale clause. Ask your title insurer if your coverage will continue for your living trust.
Transfer your home to a trust by preparing a deed that names your living trust—for example, Revocable Living Trust of Harper Jones—as the owner.
- A quitclaim deed is the simplest method (and one you can do yourself).
- A warranty deed ensures that the home transfers with good title, making it easier for beneficiaries to sell it later.
Sign the deed and print your name: for example, Harper Jones, Grantor and Trustee of the Revocable Living Trust of Harper Jones. Date the deed.
Have all the trustees sign the deed with a notary.
File the deed with your county and pay the filing fee.
Have your homeowner’s insurance reflect the trust as the homeowner, and update your trust’s attached list of assets.
Asset Protection with an Irrevocable Trust
Many people decide to put assets into irrevocable trusts to shield their assets from future (not pre-existing) creditors.
State law guides the irrevocable trust, which you can use to put your home under a trustee’s control. An irrevocable trust’s assets and income now belong not to you, but to the trust. The trustee files appropriate tax returns for the trust.
Trust assets will ultimately be passed to your beneficiary, and estate tax will not apply.
To create an irrevocable trust, draft a trust document naming the trustee and at least one beneficiary, and include instructions for managing the trust. Sign the trust document.
Be aware that placing your property in an irrevocable trust could complicate selling, or refinancing your home or tapping into the home’s equity. An irrevocable trust typically can only be set aside by a judge’s order.
Newer Device: Domestic Asset Protection Trust (DAPT)
An asset protection trust (“self-settled asset protection trust”) can shield your home from future creditors and legal actions. As trustee, you manage it on behalf of the beneficiary, such as a spouse or children. This is irrevocable. Neither you nor the beneficiary may remove the home from the trust. Yet there is impressive flexibility:
- The DAPT trust can deem its creator a discretionary beneficiary, able to receive income or principal if the trustee approves.
- The creator can be a co-trustee who holds managerial authority.
- The DAPT can include a limited right of amendment.
Check the state statute of limitations for the seasoning period. It might be two years, for example, before the assets become protected. Even before that, state law may bar creditors unless they prove the assets were moved into the DAPT fraudulently or in violation of a legal or contractual duty to the creditor.
The DAPT does not shield assets from taxes, child support or spousal support obligations, and some court judgments. Nor does it protect assets fraudulently transferred into the trust. To find fraud, courts may ask whether the creator put substantially all owned assets into the DAPT, or formed it while anticipating a lawsuit or divorce.
Individual or corporate trustees must live in the trust state. States currently allowing DAPTs are:
- New Hampshire
- Rhode Island
- South Dakota
- West Virginia
These trusts allow strong asset protection for generations of beneficiaries.
Asset Protection With an LLC
In any state, you can form a limited liability company and contribute real property to it. Like the irrevocable trust, the LLC is an independent entity. Unlike a trust, an LLC must be state-registered and approved. An LLC must observe legal business formalities and tax rules and pay any applicable fees.
As owner of the LLC, you own its property, in the sense that you are always allowed to dissolve an LLC and retake assets not tied up in debt. Owners can also receive income from property through owners’ draws.
Note: If the LLC is sued, the owner’s personal property (but not property owned by the LLC) is shielded. Speak with a lawyer to structure the LLC to keep personal creditors from reaching LLC ownership interests. Also discuss any state limitations on using the LLC’s assets for personal benefit.
Your interest in an LLC will not bypass probate or estate taxes. Yet you may design the operating agreement so that you own only a small part of the LLC, keeping managerial authority while family members own the majority of the assets.
While the effort involved in running an LLC might not make this an attractive option for holding personal real estate, it can be an excellent way to curb risks such as personal injury liability for owners of investment properties. Moreover, an LLC owners can, annually, transfer interests to heirs. Real property owned by an LLC can be passed on in this way with no need for a new deed, and the transfer taxes and recording fees that go with a new deed.