12 Oct Multiple Homes = Potential Estate Problem
Living in the Lowcountry, we frequently encounter clients and friends with multiple homes across different states. Although this allows one to enjoy the best of both worlds – a home up north and a house near the beach in the south – it can lead to estate problems if not carefully planned. Owning real estate outside of your state of residency can result in “ancillary probate”- a second court proceeding to probate the will of the decedent in the non-domiciled state. Court costs, additional legal fees, and delays in processing can result. The good news is that there are steps that you can take while you are alive to avoid this situation and drastically improve the processing of your estate.
The options include:
- Titling the property jointly: If you are married, it may suffice to have the property titled in both names, i.e., Mr. & Mrs. Smith Joint Tenants with Rights of Survivorship (JTWROS). When Mr. Smith passes, the property will be transferred by operation of law to Mrs. Smith; probate is avoided. Property owners can also add others (such as children or significant others) to the title. However, there are some drawbacks.
- Adding other names to the title represents a gift for federal and state gift tax purposes and will result in IRS gift tax filing.
- Owning property jointly with someone else exposes you to their creditors, judgment liens, and debts. This could prohibit you from mortgaging or selling the property or even result in a forced sale to pay off their creditor.
- Some states have a homestead exemption or other tax benefits that one could lose by adding other (non-resident) parties to the title.
- Life Estate Deed: Single individuals who want to pass their property to an heir upon their death may consider using a life estate deed. The real estate remains in the individual’s name, and they reserve a life estate for the remainder of their life; upon the death of the owner the property passes to the remainder beneficiaries. Under the right circumstances, this can be an elegant and simple option. A good example might be an elderly parent who owns a home with one adult child as the beneficiary. The property passes quickly to the remainder beneficiary avoiding probate. What can go wrong?
- Should the individual change their mind and need to sell the home (or get a mortgage) or alter the beneficiaries, they would need the approval of the remainder beneficiaries.
- TOD or Beneficiary Deed: Another option that thirty states have added is the Transfer on Death or Beneficiary Deed. Just like a TOD designation on a bank account, it names a beneficiary for the deed of your house. It only becomes effective upon your death so there is no burdensome exposure to your beneficiary’s creditors, and you can change it at will. Only certain states allow this, but it is growing in popularity. As of 2021, here are the states that allow TOD Deeds:
- Alaska, Arizona, Arkansas, California, Colorado, DC, Hawaii, Illinois, Indiana, Kansas, Maine, Minnesota, Mississippi, Missouri, Montana, Nebraska, Nevada, New Mexico, North Dakota, Ohio, Oklahoma, Oregon, South Dakota, Texas, Utah, Virginia, Washington, West Virginia, Wisconsin, Wyoming
- Titling in a Trust: Titling your property in the name of your Revocable Living Trust is an excellent way to skirt the probate process. The real estate transfers to the beneficiaries named in your trust or alternatively, the trustee may sell and distribute the proceeds if the trust directs them to do so. You can update the trust whenever you wish to make changes, such as adding or removing a beneficiary. The catch: if you do not already have a trust in place or need it revised, this can be a costly and sometimes slow process.
- Titling as an LLC: For those who would like to keep the property in the family for generations, creating a business entity such as a limited liability company (LLC) has merit. By forming an LLC, you can work out the details of the management of the property both now and after death in an operating agreement. The LLC offers the members protection from liability and the claims of creditors, and it can exist beyond the individual’s lifespan. Property titled inside the LLC wrapper is not subject to ancillary probate although the member’s interest will still be subject to regular probate. To learn more about using an LLC to keep property for future generations, read Saving the Family Cottage by Stuart and Rose Hollander. Things to consider:
- Establishing an LLC takes time and money. To set it up properly with an operating agreement, you will need the help of a lawyer. Legal fees can run from $4500 – $6500 depending on the complexity. Annually, LLCs are often subject to business taxes at the state level of upwards of $800/year.
- Be careful if the existing property has a mortgage as the lender may consider a transfer to an LLC as a sale and trigger the mortgage’s “due on sale clause.”
- Some states consider a change from direct ownership to an LLC a transfer and may apply transfer taxes accordingly. Check your state before proceeding.
- Drafting the operating agreement for a property to live on for generations can be challenging. There are many scenarios to consider when setting up the management of a property for perpetuity. Not all the heirs may want the property or be able to use it. The operating agreement should identify to how the members will handle disputes, scheduling usage of the property, shared maintenance expenses, and buyouts.
The takeaway: if you own multiple properties in different states review the titling now and make the necessary changes to avoid ancillary probate. Your beneficiaries will thank you! Want to learn more about this? Schedule a meeting with one of our CFPs®.