In “Simon Says: Love Your Legacy,’’ Saul Simon’s guide to achieving financial well-being, an entire chapter is devoted to trusts, such as the complex and tax advantageous split interest trusts, which include the personal residence trust (PRT).
Simon, a certified financial planner affiliated with Lincoln Financial Advisors Corp. and president of Simon Financial Group in Edison, N.J., and his colleague, Brad Kaplan, an attorney in New York and New Jersey who concentrates in trusts and estates, taxation and business planning, recently discussed PRTs—trusts that can save considerable money for the right client—in an interview with Private Wealth.
The transfer of a residence to a personal residence trust is considered a completed gift, Simon said, and for tax purposes the goal is to minimize the value of the gift. When a grantor retains interest in the PRT through residence, the trust is known as a qualified personal residence trust (QPRT).
It’s up to financial advisors to help clients understand which trust is appropriate, Simon and Kaplan said.
“Residence trusts are a very complicated area that require a great amount of thought and consideration. That being said, you should absolutely not use a residence trust where the owner of the property has a very low tax basis and … will not be subject to the federal estate tax,’’ Simon said.
The federal estate tax exemption is currently $5.43 million; at present, the top federal estate tax rate is 40 percent. A husband and wife get their own exemption, enabling a couple to give away $10.86 million tax-free if they have not made prior lifetime gifts.
“The purpose of using a residence type of trust, which can either be a personal residence and/or a second type of home that is used as a magnet that attracts the family and is anticipated to appreciate in value, is, you want to remove these large assets out of the estate so that it is not taxed as part of the estate tax,’’ Simon said.
Once the trust is funded with the house, the residence and any future appreciation of the residence is excluded from the estate. In QPRTs, the owner agrees to an upfront time limit on occupancy in the residence and must forfeit ownership at the end of the QPRT term.
Personal residence trusts are irrevocable split interest trusts and constitute a completed gift, Simon writes in his book. A gift is valued at fair market value, less retained interest, which lowers the gift’s value, which lowers the tax rate.
“Your decision to create a QPRT requires balancing the consequences of relinquishing ownership to your beneficiaries against the potential estate tax savings, based in part on current interest rates,’’ Simon writes in his book.