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While most families discuss how to handle heirlooms like Great Aunt Esther’s china set and the family diamond, a commonly asked estate planning question is “should I give my house away to my child?.” There are several motivating factors for this question. However, you should consider all the consequences of your ultimate decision to give your home away before signing a new Deed.
“I don’t want the nursing home to take my home” is a typical rationale to transfer the family home. Many people have lived through the experience of selling a parent’s home to pay off the nursing home, and they don’t want the same to happen with their own home and their children. Others have heard the horror stories suffered by other families, and they don’t want their own families to live through such an experience.
If you require the services of a nursing home, someone needs to pay for those services. The question is who pays for those services. In most cases, you will be responsible for paying for your own services. You can choose to pay for the monthly bills from your bank account, or sell investments, or pull money out of your retirement account, or sell your house to generate cash. Ultimately, you control what assets are sold to pay for the bills. If you’ve earned enough money during your lifetime and invested well, you should hopefully have enough assets to pay for your care without needing to sell the house to pay those bills.
If you’re concerned that your nest egg is not large enough and that your house is at risk, then you’ll be looking for either your family to help pay for your care or you’ll apply for Medicaid. Medicaid is available for individuals who do not have the necessary financial resources to pay for their own care. When you apply for Medicaid, the government generally will exempt the value of your home when determining whether you qualify for assistance with taxpayer funds. However, any government assistance that you do receive will be a lien against your Estate (and thus, a claim against the value in your home after your death).
To protect your home from a Medicaid claim upon your death, you may consider transferring your house to your children. In an ideal world, you would do this at least five years before needing the services of a nursing home. If you transfer the house within five years of needing a nursing home, then the government will consider that an unnecessary transfer that will disqualify you from Medicaid payments for several months. The period of disqualification is ultimately based upon the number of months in a nursing home that you would be able to afford if you had sold the house.
Assuming that you do have a crystal ball that tells you that you won’t need a nursing home for another five years, there are still other issues that require consideration.
If you give your house to your children, you no longer own this home. You essentially become a tenant in your children’s investment property. Can you trust that your children will allow you to live there for as long as you’d like? Hopefully, the answer is yes, but some people unfortunately have valid concerns about their children possibly evicting them to move them into a nursing home.
Even if you can trust your children, what about their spouse and family? If your child were to unexpectedly die before you, who inherits the house from your child? Also, if your child has a family, then your child’s spouse and children would most likely inherit in accordance with that child’s Will or Pennsylvania’s intestacy laws if your child did not have a Will. If this situation were to occur, are you comfortable that the beneficiaries of your child’s Estate will allow you to continue to live in the house rent-free for as long as you’d like?
Finally, the house will now be exposed to any creditors of your children. If they have tax problems, the house will become subject to your children’s tax liens. Should they ever sued and a judgment is entered against them, the house will be subject to that judgment. Plus, if a child divorces his or her spouse, then the value of the house will likely become part of the calculation of how assets are divided between your child and your child’s spouse.
You will need to consider your comfort with these potential risks.
Another motivating factor to transfer the house during your lifetime is to avoid Pennsylvania’s Inheritance Tax.
Upon your death, any assets inherited by your children will be taxed by Pennsylvania at the rate of 4.5%. In most cases, gifts that you made to your children during your lifetime will not be subject to this tax. However, if there is an implied agreement between you and your children for you to live in the house for the rest of your life, and you are living in the house at the time of your death, then Pennsylvania considers this to be an interest that you still owned upon your death that will result in a tax. Although it may be unlikely for Pennsylvania to ever audit such an arrangement, it may create an issue for your children in the future when they try to sell the house and they are unable to offer clean title to the house due to their failure to properly report and pay the inheritance tax.
If your children intend to sell the house shortly after your death, it may be better for Pennsylvania to collect an Inheritance Tax rather than your children pay the income tax on the sale. If you owned the house upon your death and your children sell the house within 15 months after your death, there will be no income tax consequence. However, if you transferred the house to your children during your lifetime, then they will need to pay income taxes when they sell the house after your death.
Generally, they’ll be paying 15% of capital gains tax for the difference between the sale price and your cost basis in the property. The cost basis is generally the amount that you paid when you bought the house, plus any major renovations you made to the house. Consider a house that you bought for $50,000 that may now be worth $250,000. If an Inheritance Tax is paid upon your death, the tax is $11,250 (4.5% of $250,000). However, if you transfer the house to your children and they later sell the house, the capital gain tax will be $30,000 (15% of the $200,000 gain). In this hypothetical, there is a tax advantage to retain the home and let Pennsylvania collect an Inheritance Tax.
A final motivating factor to transfer the home now is to avoid probate. Probate avoidance is heavily marketed across the country. However, some states have more complex probate proceedings than others. In Pennsylvania, the probate process is generally simple compared to many states and relatively inexpensive. The cost of probate in Pennsylvania may ultimately be less than the cost to put a plan in place to avoid probate. Each county has its own probate fee schedule, so it would be prudent for you to review these fee schedules before concluding that probate is something that you must avoid.
If probate avoidance is still a goal, gifting the house to your children may not be the most efficient plan. Instead, you may want to consider a revocable trust or a new Deed in which you retain a life estate interest.
The purpose of this article is not to stop you from gifting the house to your children. However, this hopefully highlights the other factors that you should consider before transferring the Deed. Be sure to discuss this issue with your legal counsel before making a decision that cannot be reversed.
Attorney R. Nicholas Nanovic is an Accredited Estate Planner®, serving as chair of Gross McGinley’s Wills, Trusts & Estates team and on the Tax Law team.
Jaimie Monahan contributed to this article. She is a Pennsylvania Certified Paralegal and member of the Wills, Trusts & Estates team, using her experience to serve Gross McGinley clients with their estate planning and administration needs.