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Estate Planning Tips for Children Selling Parents Home in California

 Estate planning tips to reduce tax impact on inheritance of real property

Selling the Family Home

It’s been 50 years since your last parent died. Mom and Dad left one asset – the family home – that they bought for $30,000 in the roaring 20’s. At the time of your parents passing, the rustic home was worth $196,000. A recent appraisal conducted on the ‘ol home shows that the value has risen substantially and is now worth upwards of $700,000. You and your 5 living siblings are looking for some estate planning tips. Your parents didn’t create a living trust. They left a will that named the children as equal owners of the California home. Your youngest brother and his 2 children resided in the family home until his passing 6 months ago. The most important estate planning tips for the siblings in this scenario concerns identifying and minimizing tax impacts associated with the inherited home.

Generally, the siblings won’t have to pay income tax on receiving the inherited home. But, any profit earned on the inherited property is taxed. What does that mean? The rise in the home’s value during the siblings ownership is considered earnings from the inheritance. How do the siblings minimize their impact on the profit?

Estate Planning Tips 101

Estate planning tips in California to avoid capital gain on receipt inherited real propertyOne of the goals and focus of many estate planning tips is formulating strategies to reduce potential gains. Let’s take a closer look at this example.

  • The starting cost basis of each sibling is normally each person’s respective ownership share of the home’s total value on the date of death of the parent.
    • The home was worth $196,000 when the last parent died. Divide $196,000 by 7 siblings.
    • Each siblings share on death was $28,000 (cost basis).
    • A tax on the capital gain of $42,000 is owed by each sibling, which represents the difference between the cost basis and current fair market value of each party’s respective share (calculated as follows).
      • $70,000 ($700,000/7 siblings) – $28,000 (cost basis/party) = $42,000 (capital gain/sibling)
      • Each sibling would report their respective share (1/7) of the home’s sale on Schedule D on the following year’s federal income tax return.
    • The cost basis for the kids of the deceased brother would be the home’s fair market value on the date of his death in 2012.

Be Bought Out

One of the most straightforward estate planning tips you can pursue is to let your siblings buy you out. You won’t reduce or eliminate the gain, but you will be relieved from paying future property taxes. As you recall from “Piqued at Property Tax Law Increases: Prop 8 & Prop 13 Tax Law Rules Interplay”, under Proposition 8, when the market value of a home declines below what the owner paid for it, the assessor reduces the property taxes to reflect the drop. When the market value rises again (as statistics show is occurring now), the property taxes come back. So, there’s going to be a rise for property taxes for most California owners this year. Avoid it altogether – be bought out!

Improve the Property

If being bought out isn’t a viable solution, there are other estate planning tips and strategies that may assist you. For instance, your siblings can put money into improving the real property. This will increase the cost basis and reduce the capital gain hit on sale. The real question – do you have (or do you want) to fork over the money to improve the fixer-upper?

Do a “Like-Kind” Exchange

One of the most beneficial estate planning tips would be to do a “like-kind” exchange. If the siblings rented out the property after the death of the owner, they could trade it for another property of “like kind” without incurring a gain or loss so long as all other requirements of a 1031 exchange are met.

“Related Party” Transactions

Lastly, there are special rules and estate planning tips concerning “related party” transactions. A gain from the sale or trade of property to a related party may be treated as ordinary income rather than a capital gain if the property can be depreciated by the party receiving it. Talk about complex. Time to talk to a professional.

Don’t Wait to Sell

Assume the same facts, except your parents left a living trust. You were named trustee. There is no probate with a living trust, so parties can settle the estate sooner. Instead of waiting around, you galvanized the troops and the property sold within 3 months of your mother’s passing. The siblings would get a step-up in basis. Unless there is a rapid rise of the fair market value of the property at death, the children would incur no capital gain tax owed as the estate’s overall value is below the stepped-up basis limitation.

 

 

About Dan Hanley

Specializing in estate planning, elder law and real estate law, Dan brings a wealth of experience and knowledge to help his clients with a variety of legal needs. In addition to a MBA and Juris Doctorate from Santa Clara University, Dan is also a licensed real estate broker since 1980.

Comments

  1. Mark Wood says:

    “The siblings would get a step-up in basis and would incur no capital gain tax owed as the estate’s overall value is below the stepped-up basis limitation”.
    Hello,
    Does this mean if the deceased parent’s inherited property’s cost basis is $450k and the house is sold within a year of date of death for $550k, there is no capital gains tax on the $100k?

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