This article has been reviewed by a practicing attorney in 2020
This content is not intended to be a substitute for professional legal advice. Always seek the advice of an attorney or another qualified legal professional with any questions you may have regarding your situation.
To understand the advantages and disadvantages of putting your house into a trust, it is first important to understand some basic trust principles. A trust is its own legal entity. Generally, when a grantor (the trust’s creator) places assets into a trust, the ownership of the assets transfers from the grantor to the trust. For example, if you were to place the house you owned into a trust, you would execute a new deed transferring ownership of the house from you to the trust.
It is also important to understand the differences between the two types of trusts: revocable and irrevocable. As the name suggests, a revocable trust may be freely modified, altered, amended, or even cancelled. Conversely, once established, irrevocable trusts usually may not be changed or modified. Even if the grantor of an irrevocable trust is still living, it is very difficult to alter the terms and conditions of an irrevocable trust. It is important to recognize the differences in these trusts because the IRS treats them differently for income tax purposes. Because the revocable trust may be freely modified, the IRS treats the property in a revocable trust as if it were the grantor’s own property for income tax purposes. Because an irrevocable trust may not be changed or modified, the IRS views the property in the trust as belonging solely to the trust, and wholly separate from the grantor.
Advantages of Placing House in Trust
While not an exhaustive list, below are some advantages to placing your house in a trust.
It may be worth considering placing your house in an irrevocable trust if you have significant debt and creditors seeking to collect on said debt. Generally, an irrevocable trust will protect the assets within it from being seized by creditors. This is because the trust owns the asset (house), not the grantor. It is important to understand this is not the case if the house is placed in a revocable trust. Usually, property placed in a revocable trust may still be seized by the grantor’s creditors because the trust is revocable, i.e., because the grantor still has control over the property.
Placing your house in an irrevocable trust may also prevent it from being seized as part of the Medicaid Estate Recovery Program if you used Medicaid to pay for long-term care before your death. For more information on this topic, please click here.
Likely the greatest advantage to placing your house (or any property you own) into a trust is that this property will not have to pass through probate when you die. Probate is the legal process of distributing a deceased person’s estate. A court oversees the distribution of a person’s estate when the person dies without a will (intestate) or with a will. Because probate proceeds in open court, it is a matter of public record. For this reason, many people create trusts due to the inherently private nature of the instrument. Avoiding probate also saves your loved ones the time and expense of probate. As explained below, a trust allows for a faster transfer of your property to your heirs.
Quicker Ownership Transfer to Heirs
Probate can be a lengthy process. It may take a year for even a small estate to be probated. You can see why when you understand how much must be accomplished to wrap up an estate. Because the property in a trust does not pass through probate, your heirs’ ownership interest in a house would pass much faster.
Estate and State Taxes
If you place your house in an irrevocable trust, the asset no longer belongs to your or your estate—it belongs to the trust. Therefore, when a house is placed in an irrevocable trust, it is no longer considered part of the grantor’s estate when the grantor dies, which may save the grantor’s estate from paying potential costly estate or state taxes on the property. Recall this is not the case if you place your house in a revocable trust. Because you may freely change the terms of a revocable trust, the IRS treats the property in a revocable trust as still belonging to the grantor for tax purposes. Please see our article on irrevocable trust taxes for more information.
Capital Gains Tax
Real property is subject to the capital gains tax. If you place your house in a revocable trust and sell the house, you must report the capital gains from the home on your personal tax return. The IRS capital gains tax exclusion allows a gain of $250,000 if you’re single and $500,000 if you’re married before it will tax your profit. For example, if you purchased a house in 1990 for $50,000 and sold it in 2021 for $310,000, you would realize a gain of $260,000. If you are single, you would be liable for the $10,000 capital gain, but would owe nothing if you were married.
Property sold in irrevocable trusts are also subject to the capital gains tax. However, because the property has been transferred to the trust, the grantor does not owe this tax as they would if the house were in a revocable trust.
If a home is transferred to a beneficiary through a trust after a grantor’s death, when the beneficiary sells the home, the beneficiary is responsible for the capital gains tax. However, instead of using the amount for which the grantor originally purchased the house as the cost basis, the beneficiary is allowed to use the value of the property at the time of the grantor’s death as the cost basis, potentially saving the beneficiary a substantial amount in taxes. Using the above example, if Anne purchased her house in 1990 for $50,000, but it was worth $310,000 in 2021, and she sold the house in 2021, Anne would have realized a gain of $260,000 and would have been taxed on $10,000 as capital gain. However, if the house was worth $310,000 when Anne died, and her beneficiary son Ben sold it one year later when it was worth $320,000, the applicable gain would only be $10,000—the difference between $320,000 and $310,000, well below the threshold amount for Ben to owe any capital gains tax.
Disadvantages of Placing House in Trust
It is important to weigh the advantages and disadvantages when deciding whether to place your house in a trust. Below are two common disadvantages:
Paperwork and Lawyer Fees
You should rely on an attorney to create a trust for you as the law in this area is quite complicated, and even setting up the simplest trust with the smallest estate can be expensive. For these reasons, it may be more costly to set up a trust for your house than simply maintaining ownership of your house as is.
Loss of Ownership
As explained above, when a house is placed in an irrevocable trust, the grantor (original owner) loses his or her ownership interest in it because it transfers to the trust. Although the grantor may continue living in the house (and must continue making mortgage payments) he or she is no longer the rightful owner and loses the right to take out a mortgage on the house or sell the house. Recall this is not the case if the house is placed in a revocable trust.
Below are some other examples of how you may pass your house down to your heirs while also avoiding probate:
- Adding your heir as a co-owner on the deed to your house.
When a person is added to the deed for a property, upon the other co-owner’s death, the person added automatically owns 100% of the property. For example, Anne wants to leave her house to her only son, Ben. Anne executes a new deed and adds Ben to it. When Anne dies, Ben becomes the sole owner of the property. Note that there are practical and tax implications that come with adding a person to a deed. When a person is added to a deed, that person’s creditors may place a lien on the house for debts owed. The original property owner will also be required to obtain the new owner’s permission if he or she wants to take out a new mortgage or sell the house. There are also gift tax consequences that should be considered that stem from adding a new person to a deed.
- Transfer on Death Deed (“TOD”)
A TOD deed is similar to a payable-on-death designation for your bank account, but it applies to real property. A TOD deed allows your real property to pass to the designated beneficiary on your death with as little fuss as possible. Generally, a TOD deed is created when the grantor executes the new deed and records it in the county where the property is located. These deeds may be revoked any time before the grantor’s death and allow the grantor to retain complete ownership over his or her home until death. TOD deeds are not available in every state, and each state has specific requirements for executing the deed. For more information on this topic, please see our article on TOD deeds.
In a life estate, a grantor (typically the original owner of the home) grants a “life estate” to himself or herself and designates a beneficiary as a “remainderman.” The person holding the life estate, also known as the “life tenant,” retains ownership of the house and may live in it until he or she dies, at which point the property passes automatically to the beneficiary remainderman. For more on this topic, please see our article on life estate deeds.
Consulting an Attorney
When making estate planning decisions, such as whether to place your home in a trust, it is important to consult an attorney who can give you the best advice for your specific circumstances.
- Should I Put My House in a Trust?, Policy Genius, https://www.policygenius.com/trusts/should-i-put-my-house-in-a-trust/
- Here’s Why You Would Put Your House in a Trust, Clever, https://listwithclever.com/real-estate-blog/heres-why-you-would-put-your-house-in-a-trust/
- Should You Put Your House In A Trust?, Greenbush Financial, https://www.greenbushfinancial.com/should-you-put-your-house-in-a-trust/
- Leaving Your House to Your Loved Ones, Fidelity, https://www.fidelity.com/learning-center/personal-finance/estate-planning
- What Are The New Capital Gains Rates For 2021?, Forbes, https://www.forbes.com/sites/davidrae/2021/01/06/what-are-the-new-capital-gains-rates-for-2021/?sh=192794021217