The single biggest estate planning mistake is to put real estate into children’s names. The motivations for doing this are understandable. People wish to avoid probate, protect the home from long term care costs, and tax consequences. This simple transfer, however, will create a host of problems for both the parents and children. First, the parents will lose the benefits of any applicable property tax exemptions. Next, the property will be subject to any creditors the children may have. If my son is getting a divorce after I transfer the home to him, then my soon-to-be ex-daughter-in-law will have a claim to my home! The simple transfer will also saddle my kids with walloping capital gains taxes. This is because a completed gift transfers the original purchase price to the gift recipient as his or her ‘cost basis’. For example, if I bought the house for $50,000 in 1980 and transfer it to my son today, his floor to measure gain when he ultimately sells it will be $50,000. Let’s say he keeps his promise to let me live in the house for my life and sells it years later for $600,000, he will pay capital gains taxes on $550,000! As if all of this weren’t bad enough, my son’s interest in my house will affect my grandchildren’s college financial aid awards.
A far better option would be to transfer the home to a properly drafted trust. This will protect the house from long term care expenses, children’s liabilities, and negative tax consequences!