Are you familiar with the concept of a living trust?
It's a legal document that allows you to transfer your assets, including real estate, to a trust during your lifetime, and upon your death, these assets are then distributed to your designated beneficiaries without the need for probate.
But did you know that a living trust can also be a savvy way to reduce or even eliminate the burden of capital gains tax when it comes to inheriting real estate?
Let’s take a closer look.
How Can a Living Trust Help Reduce/Eliminate Capital Gains Tax?
Inheriting real estate can be a complex and emotional process.
But there’s a way to reduce or even eliminate the capital gains tax that often accompanies the transfer of a property.
How?
By understanding the nuances of the state's tax laws as well as the interplay between living trusts and taxation.
Understanding the Living Trust- A living trust is a legal document that is created during a person's lifetime. The individual, known as the trustor, transfers assets into the trust, which is then managed by a trustee. Upon the trustor's death, the assets are transferred to the designated beneficiaries.
One of the key benefits of inheriting real estate through a living trust lies in the potential for beneficiaries to receive a stepped-up basis to reduce or eliminate the capital gains tax.
What does that mean?
It means that the tax basis of the inherited property is adjusted to its fair market value at the time of the original owner's death.
California adheres to the current federal tax law regarding stepped-up basis, allowing beneficiaries to potentially reduce or eliminate capital gains tax upon the sale of the property.
Consider a scenario where an individual purchased a property for $400,000, and at the time of their passing, the property appreciated to a fair market value of $800,000.
If this property is inherited through a living trust, the beneficiary's tax basis would be adjusted ("stepped up") to the property's fair market value of $800,000 at the time of the trustor's death.
Therefore, if the beneficiary decides to sell the property shortly after inheriting it for $800,000, they might not incur any capital gains tax, as the sale price matches the stepped-up basis.
Keep in mind that there are specifics to each case that can impact the tax implications.
Factors such as the duration between the trustor's passing and the sale of the property, fluctuations in the property's value during that period, and changes in tax laws can all influence the final tax liability.
However, there are other advantages to using a living trust to transfer real estate:
It allows for greater privacy, as the transfer is not subject to public record like a will;
It can help beneficiaries avoid the probate process, which can be lengthy and costly;
By avoiding probate, the transfer of assets can also occur more quickly and with less red tape.
While a living trust can be a useful tool for reducing or eliminating capital gains tax, it's important to consult with a professional to determine if it's the right strategy for your specific situation.
An estate planning attorney or financial planner can help you assess your tax liability and develop a plan that meets your unique needs and goals.
Need Assistance? Not sure where to begin? Contact our offices today!
DISCLAIMER: The content contained herein is for general informational purposes only. These materials do not constitute legal or other professional advice. We do not accept any responsibility for any loss that may arise from reliance on this information. No reader should act or refrain from acting based on information contained in this article without seeking advice of counsel.
