Category Archives: Trusts

Reducing Capital Gains: Step-up in Basis, The Basics

Dear Liza: My parents a house in 1995. They put the house in a trust in 1998 with me and my 2 brothers as beneficiaries. My dad passed away in 2007 and my mom in 2015. The house is now for sale . I’m not sure what the tax basis should be. That is a really good question, because, as I’m pretty sure you already know, the difference between the basis of the house and the sale price of the house will determine whether or not you and your 2 brothers are going to owe capital gains taxes on the sale of the house.

Just to review: capital gains taxes are due on the difference between an asset’s basis and its sale price. So, for example, if you buy a share of stock for $10/share and you sell that stock for $110/share, you would owe capital gains on that $100 of gain. Where I practice, in California, we estimate capital gains to be about 33% (federal top rate of 23.8%, plus 13.3% California top income tax rate), so you’d owe about $33/share, worse case scenario.

Assets that you inherit at death get what’s called a step-up in basis. If your mother, for example, had bought that same stock at $10/share, but hadn’t sold it during her lifetime, you and your brothers will inherit that stock at what it was worth the day she died. If that was $110/share, and you then sold those shares for $110/share, you’d owe no capital gains taxes at all.

Houses, like stocks, also receive a step-up in basis at death. But I can’t actually tell you what the basis in your mother’s house would be because I don’t know enough of the facts. The answer depends on what kind of living trust they had, and that also can depend on where they lived.

If your mother and father had a living trust that held the entire house in one revocable trust for your mother’s benefit, you and your siblings will inherit that house at its value on your mother’s date of death.  Since you are selling it two years after her death you need an appraisal to document its value on your mother’s date of death.  If you didn’t get one when she died, you can still get one that looks at the value in 2015, it will just cost more to get. That 2015 value will be your basis.

For example, if the house was appraised at $350,000 in 2015, and you are selling it for $450,000, you will have to pay capital gains on that $100,000 of gain.

If your mother and father, however, had what’s called an “A/B” trust, in which your father’s assets were placed in an irrevocable trust for your mother’s benefit (usually called a “Bypass Trust” or a “Credit Trust”), then the portion of the house held in that trust will not receive a second step up in basis at your mother’s death, and you’ll have to pay capital gains on the gain from 2007 until now.

For example, if, when your father died, the house was appraised at $200,000, and, as is common, half of the house was held in the Bypass Trust, and you are selling it now for $450,000, you are going to have to pay more in capital gains than you would if all of the house was in a revocable trust. Here’s how it works:

Half of the house was held in the Bypass Trust and has a basis of $100,000 (because the house was worth $ 200,000 in 2007, when your father died). Upon sale, that half of the house had a basis of $100,000 ($200,000/2) and realized $125,000 of gain ($225,000 – $100,000). The other half of the house, which was in your Mom’s revocable trust, gets a full step up, so has a basis of $175,000 ($350,000/2). That half of the house realized gain of $50,000 ($225,000-$175,000). So, you and your siblings will owe capital gains on $175,000 ($125,000 from your Dad’s trust plus $50,000 from your Mom’s trust).

As you can see, the kind of trust your parents had will greatly affect the capital gains taxes you and your brothers will owe upon sale. So, first step, figure out what kind of trust they had. Next step, consult with an accountant.

 

We refinanced. Did our house get taken out of the trust?

Dear Liza:  We are a married couple in our 40s with 2 kids with a living trust. Our primary residence is a part of the trust. We refinanced our primary residence a couple of months ago. We are not sure whether our house was pulled out of the trust during the refinance. Is there a way to find out whether the house is still part of the trust or not? If the house is out of the trust how do we get the house back into the trust? Often, when people refinance a house that is held in their living trust, their lender requires them to take the house out of the trust, get the new loan, then transfer the house back into the trust. I’ve been told by loan officers that this is because they want to check your individual credit ratings.
This is not always required, it depends on the lender. Sometimes you can get a new loan without going through the out of the trust/back into the trust shuffle.  But if it is required, the loan officer will often create and record the deed transferring the house out of the trust so that you can qualify for the new loan (and they can get paid).  If they transfer it out, they should transfer it back in.  But often, that last step, transferring the house back into the trust, doesn’t happen. This is by far the most common reason that I find that clients end up with houses not in the trust.
To find out if your house is in your trust, you will need to get a copy of the last recorded deed. You can get that at your county’s recorder office. Many counties will let you order this online. Here is a handy website that lists all of the County recorder offices in California. If you go to Legal Consumer.com, you can find your local country registrar in any state, just by typing in your zipcode.
If our house is not held by your trust, you’ll need to record a deed transferring it back in. A lawyer can do this, but so can a title officer. You might consider going back to the title company where you signed the loan papers and ask them to record a deed transferring your property back in.

Why Does Met Life Need to Transfer an Annuity to the Estate?

Dear Liza:  My father recently died.  My dad had a trust set up naming me as the trustee and my brother, sister, and I are to split my dad’s assets evenly.  I have set up a trust account at his bank (B of A) and have funneled funds into that trust account from his other bank accounts.  I mailed off claim forms to a few companies in regards to his stock and annuity assets.  Met Life is saying that we need an “ESTATE” and it needs to list me as the executor of the estate.  She said that an estate and a trust are two different things and they needed an estate not trust.  What is she talking about? It sounds like you are doing a good job as Trustee. It also sounds like the annuity at Met Life may not have a named beneficiary, which would mean that is passes to your father’s estate (and not to the trust).

Here’s the overview: your father had certain assets in his trust. But he, like most people, also owned assets NOT held in the trust, most typically these are retirement accounts (like IRA’s and annuities) or life insurance policies which have named beneficiaries.

When a person dies, these assets go the named beneficiaries. But if a person didn’t name a beneficiary, or named a spouse who then died first and forgot to update the form, these assets then usually pass to a person’s estate (though that’s up to each company’s rules).

In California, where I practice, if that annuity is worth less than $150,000, there’s a simple way to get MetLife to transfer it to you, as Trustee of his trust using a Declaration allowed by the Probate Code. If that annuity is worth more than $150,000, though, you will either have to open a probate proceeding and be named as the executor and then work with MetLife to transfer the asset, or use a court Petition to transfer the asset to the trust via his Will (if it was what’s called a Pour-Over Will, which would be typical).

Each state has a similar threshold, called a Small Estates limit. To find out what your state’s limit is, visit Legal Consumer.com and go to the Inheritance Law Section, which I wrote. (Full disclosure). Enter your zip code and you can find out your state’s small estate limit.

The first step is to ask MetLife who the beneficiary of the policy is. Then, if your father didn’t name anyone, you should probably seek professional help to chart the next steps.

Do I Need a Tax Identification Number for a Trust After My Mom’s Death?

tax manDear Liza:  I’m an executor of a trust and was added as co-trustee on the trust while my mom was alive.  She is now at peace with dad. Can I now just distribute the funds per the trust without changing the trust first to an irrevocable trust and providing a new TIN to the credit union prior to the distribution? Sorry. That’s not going to work. Now that your mother is dead, the trust is already irrevocable and you can’t use her Social Security number to report income, that’s why you need to get a new tax identification number for the trust. But it’s handy to have. Here’s why.

From the date of her death to the date that you distribute all of the trust’s funds, any income earned by the trust must be reported under that new tax identification number. Now that the trust is irrevocable, you’ll also need to file a 1041 tax return if the trust earns more than $600 worth of income in a year. Also, you’ll need that tax identification number to open up a bank account in the name of trust, which you can use to consolidate the trust’s assets prior to distribution and to pay its expenses.

And if you are thinking that you will avoid all of this by instantly distributing the trust’s assets, don’t.  You shouldn’t just immediately distribute all of the trust’s funds, please wait until you’re sure you’ve paid all of the expenses and taxes due first. If you do distribute all of the assets, and then find a trust liability that you didn’t know about before, you as Trustee, must either personally pay that liability or go back to the beneficiaries and try to get the money back.

To find out how to get an EIN, visit the Inheritance Law section of Legal Consumer.com, put in your zip code, and read the article that explains how to do it. (Full disclosure, I wrote that too).

Can I Put My House Into a Living Trust if There’s a Mortgage?

houseDear Liza: Can real estate that still has a mortgage on it be placed in a trust? Yes, you can place real property with a mortgage into a revocable living trust. That is, in fact, quite common. Most people, after all, don’t own their houses free and clear when they set up their living trusts. But transferring real property into the trust does not change your obligation to continue to pay the mortgage–if you don’t pay, they can still take back the house. And, if you refinance the house at some future time, the lender may ask you to take the house out of the trust to get the new loan, then put it back in. This is annoying, but not a deal-breaker. Not all lenders require this, but many do.

Federal legislation passed in the 1980’s (the Garn-St. Germain Depository Institutions Regulation Act) says that the transfer of real property into a revocable living trust does not trigger what’s called a ‘due on sale’ clause in a mortgage–which would allow the lender to demand that you repay the loan in full, as if you’d sold the property to a new owner.

So, to summarize, it’s fine to put your house into a revocable trust to avoid probate, even if that house is subject to a mortgage.

What Kind of Tax ID Do I Need for a Trust?

Dear Liza: My parents both have recently passed away. They had a revocable trust.  What type if tax ID do I need?  I created one for the “Estate” type, but should I have made it for the “Trust” type? I am the trustee.  Getting a new tax identification number for a trust that has become irrevocable due to the death of the settlor is a task every new Trustee has to face. The trust needs a new tax identification number to report income earned from the date of death of the settlor to the time when when the trust is distributed to the beneficiaries.

After the last settlor dies, you can’t use their Social Security Number any longer (because they’re dead), so you have to get a new tax id. It sounds like you went online to get the tax id from the IRS. You are right, you should have asked for the number to be set up for an irrevocable trust, not an estate. Don’t panic though, just follow the instructions here to correct that error.

For more information on how to deal with taxes and other trust administrative issues, the Trustee’s Legal Companion (which I co-wrote) is a great resource (honest, it is). For a step-by-step guide to getting an EIN, go to Legal Consumer.com. You’ll find free inheritance law information (which I wrote, too) for all states except Louisiana–just enter your zipcode and look for the article entitled “How to Get a Tax ID number.”

Leaving Money to a Kid That Can’t Handle It

safeDear Liza: My wife and I are are planning to initiate an estate plan soon but we keep running into the issue of how to leave everything to our 28 year old son. He would be the only recipient as we have no other children, but he has no financial proficiency whatsoever and we have no expectations that he will ever achieve any. We we fairly certain that if we just leave anything to him it will be gone in less than five years. I would like your advice on how to handle this situation. So, the first thing that I want to say is that you’re not alone. I work with lots of people who struggle with some variety of this issue. The second thing that I want to say is that it sounds like you have a fairly clear idea of what could happen if you left your son his inheritance outright and free of trust, so trust that.

No pun intended, but actually leaving his money in trust is one option. In your estate plan, you could leave him his money in a trust, and appoint a trusted friend, or a bank, or a financial company to serve as Trustee. The money could be for his benefit, but it would not be invested or distributed by him. That kind of trust could last for his entire lifetime, and, since it would be held in an irrevocable trust, would not be available to his creditors or to his spouse (if he got married). If you hold it in a lifetime trust, though, you should name an institution as Trustee, since your son would likely outlive a trusted friend of your generation. Another option would be to direct your Trustee to purchase an annuity for your son, that would guarantee a level payout over his lifetime. This is a good option sometimes, but if your son had an emergency need, such as medical care, an annuity wouldn’t be flexible enough to address that need.

Can I Administering a Trust Without a Lawyer?

living trustLiza: I live in California and my dad passed away recently. I am the executor of his living trust.  His estate is around $500K.  Do I need an attorney to handle his trust?  Can I do it?  Or can a paralegal take care of this?  I do not know where to start.  I am overwhelmed.  Any guidance is greatly appreciated. I’m sorry about your Dad.  Grief is just hard, even without the legal headaches. So, here’s a short answer: First, you don’t have to hire an attorney, but it might be helpful and you can use the trust’s assets to pay for that time. Many trust administration attorneys would meet with you for an hour or two to  help you feel more oriented and less overwhelmed. Second, you might find a book that I co-wrote helpful (shameless self-promotion alert) since we wrote it, basically, for you: The Trustee’s Legal Companion is a step by step guide to administering a trust on your own. Third, the basic things you will need to do are send out a notice to all the heirs and beneficiaries, inventory the trust’s assets, pay all of the debts and taxes, and, when all that’s done, you can distribute the assets to the beneficiaries of the trust.

Will or Trust, Which is Better?

courthouse_2Dear Liza: My husband and I have one adult daughter – 20 years old.  We are in our 60’s and want to set up a will or a trust to ensure that 100% of our property and investments goes to our daughter, and that she inherits the assets with the least amount of taxes/probate as possible. What’s better a Will or a Trust? I don’t know what state you live in, and that makes this a hard question to answer completely. Here’s why: the value of doing a living trust depends on the cost and inconvenience of probate in your state.

Both a Will and a trust can ensure that your property passes to your daughter. Both a Will and a trust can incorporate tax planning to minimize any estate taxes that might be due at the death of the second of you (though these days, you’d have to have more than $10 million before worrying about the estate tax, so let’s assume that this is not an issue for you).  Really, the difference between which kind of an estate plan to create isn’t so much a “what” question; it’s really a “how” question, as in “how much” and “how long” will it take to settle your estates.

This is because a Will requires a probate proceeding before a distribution to your daughter, while a trust will allow you to bypass probate.  This means that if you do a Will, and your estate exceeds the small estates threshold in your state, your daughter won’t inherit anything until the court issues an order for distribution, which is how a probate ends. If you do a trust, and the trust is properly funded at your death, holding title to your major assets, your daughter will be able to inherit those assets as soon as they’ve been identified, taxes and creditors have been paid, and all of the beneficiaries and heirs have been notified.

In states that have adopted the Uniform Probate Code, currently that is 18 states, click here for a list of these, probate has been streamlined and is relatively inexpensive. In states that have not adopted this code, like the one that I practice in,  probate takes longer and costs far more than it costs to administer most living trusts. So, in order to sort out what’s the best estate plan for you, you need to find out the cost and delay in going through probate where you live. If you live in a state where probate is relatively easy and fast, you should be fine with just a Will. If you live in a state where probate is expensive and slow, a trust will be the better choice.

Who Can Order Death/Birth Certificates?

Last WillDear Liza: My uncle just died and I and a cousin are co-executors and equal co-heirs. A will is known to exist in a safe deposit box, but we have neither keys nor legal permission to open the box. There are no disputes and the estate is certainly below the tax level.The Mexican authorities seem to want a Birth Certificate in order to issue a Death Cert. As a niece, I am not entitled to get one, and there is no closer relative. What do I do? While it is true that only close family members can order vital records, you, as the executor, are also entitled to order them. In addition, an attorney that is working with you can also order such vital records. In California, where I practice, you must submit a sworn statement saying that you are the executor, and many states have a similar system.  You can contact the county vital records office where your uncle was born to request his birth certificate. Here’s a link to a commercial service that makes ordering such documents easy as well. Also, I would ask the bank what the rules are in your state for opening that safe deposit box. In my state, there’s a law that allows bank officials to open the box for the sole purpose of removing a Will, since there’s a certain chicken-and-egg problem if the executor must have the Will to be authorized to open that box.