Death and Taxes: Two of life’s Surest Things

Dear Clients, Colleagues, and Friends,

“It’s a beautiful home,” the well-coiffed realtor gushed to Sally and Ned. “How much did you say you paid?”

Ned proudly told her what he spent on their “dream home” over 30 years ago.

The realtor’s eyes shot up in surprise, “You could get 30 times that today.”

The couple stopped short, shocked. They had no idea their residence could be worth so much. With such a highly appreciated asset, they wondered how capital gains taxes might affect their decision to sell.

When Congress finally passed permanent estate tax exemptions in 2013, many people popped open the proverbial champagne. But as Benjamin Franklin once said, “In this world nothing can be said to be certain except death and taxes.” That’s never been truer than with appreciated property, and estate planners and tax professionals are shifting focus from reducing an estate’s overall assets to finding new ways to lower income taxes on those assets.

Section 1014 of the Internal Revenue Code of 1986 provides an incentive to retain appreciated assets until the death of at least one of the spouses. Under this section, in certain situations, a married couple can avoid capital gains taxes on appreciated assets through a tax-free step up in basis upon the death of a spouse. However, whether the surviving spouse benefits from that tax-free step up in basis depends entirely upon the asset’s title and order of death. For example, if the spouse holding the appreciated asset dies first, it will normally qualify for the tax-free step up in basis, but if the other spouse dies first, the tax basis does not change and a sale or other disposition of the asset will trigger a capital gain. This type of crap-shoot has forced professionals to look for alternative methods of providing a step up in basis at the death of either spouse, regardless of who dies first. The GRISUT or grantor-retained interest step-up trust does just that. This strategy retools familiar estate planning techniques (like QPRTs, GRITs and GRATs) for income tax basis planning purposes.

A GRISUT is an irrevocable trust funded with appreciated property of one of the spouses. The donor spouse retains an interest in the trust for a period that will terminate upon the death of the first spouse. When that death occurs, the property of the trust is paid over to the donee spouse or his or her estate. It is included in the deceased spouse’s gross estate, though planning would necessarily need to be put in place to take advantage of the marital deduction, and the property receives a step-up in basis, resulting in zero capital gains should the property then be sold by the survivor before further appreciation occurs.

To achieve the double basis step up for their personal residence, Ned and Sally would form a SUPRT, known as a step-up personal residence trust or “SUPRT.” The SUPRT is designed to meet all the requirements of a standard qualified personal residence trust or “QPRT.” For example, Sally retains the right to the rent-free use of the property during the term of the trust and is entitled to all of the income. In addition, the terms of the trust provide that, upon the first to die of Ned and Sally, the property shall be paid over to Ned (if he survives Sally) or to Ned’s estate (if he predeceases Sally). This vested remainder interest (to Ned or his estate) means there will be no gift or estate tax benefit to Sally’s SUPRT. In his will, Ned leaves the property of his estate to or for the benefit of Sally in a form that qualifies for the estate tax marital deduction.

With this strategy, if the law’s requirements are satisfied, Ned and Sally’s home would qualify for a tax-free step-up in basis upon either of their deaths. The surviving spouse could then exercise easier decision-making about whether to sell the house because the house’s disposition would no longer trigger an onerous capital gain.

While death and taxes are still two of life’s surest things, taxes can be decreased with the help of a qualified professional. If you own highly appreciated assets or a personal residence or vacation property and would like to discuss the benefits of the GRISUT or SUPRT strategy for your estate, call our law offices now to schedule an appointment.

For more information on these and other comprehensive estate planning and income tax planning techniques, contact us for a complimentary consultation.

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