Making Better Financial Decisions

Tax-Free Real Estate Transfers To The Next Generation

by Glen Hawkins

If you plan to transfer real estate property to your estate, the current lower values provide an opportune time. A larger percent of assets can be gifted without triggering a taxable event. The 2020 federal estate and gift tax exemption reform, moreover, doubles the exemption amount to $11.58 million for individuals. 

Real estate transferred to your estate over federal and state exemption amounts will be taxed at 40 percent. Alternatively, you can adeptly deploy tax strategies to allow assets to appreciate outside of taxable structures. 

A Delaware Statutory Trust (DST) 

A DST 1031 exchange swaps real estate assets for a fractional interest in a portfolio of "like-kind" commercial and multifamily residential properties without generating capital gains tax. Importantly, the DST 1031 properties interest is transferred to an estate at the cost basis (the fair market value at the date of death). 

This means if a $1 million investment in a DST portfolio appreciates in value to $2.5 million at the time of death, the beneficiary would not be liable for the capital gains tax on the $1.5 million gain if he or she were to sell the property. Furthermore, the beneficiary can roll the assets into a new DST structure, and so on, down through the generations.

Multigenerational Dynasty Trust 

Assets in a dynasty trust are exempt from taxation and thereby can delay estate, transfer (including generational-skipping transfer tax), and gift tax payments over many generations. The assets are also protected from creditors. Further tax benefits can be derived by structuring the trust as a grantor trust.

Grantor Retained Annuity Trust (GRAT)

A grantor trust also pays income tax on the money placed in a trust. In exchange, the grantor receives an annual annuity payment. At the end of the annuity period, the trust transfers to family members as a gift with no tax liability. The transfer amount is the real estate capital gain plus income minus the present value of the annuity. In the current low interest-rate environment, the annuity costs will be lower, and thus the tax-free estate transfer higher. A nifty feature of grantor trusts is the ability to switch out assets.

On the other hand, if you do need to liquidate assets to pay estate taxes, now is not a good time to sell. Estate taxes on business interests can be deferred for up to 14 years. Insurance policies can cover estate expenses until real estate market values improve. 

To learn more about 1031 DST exchanges, reach out to a financial planning business near you.