We make mistakes, as people that fact is one of our defining characteristics.  The secret to being successful is:  (1) learning from your mistakes to ensure you don’t make the same one twice, and (2) learning from other people’s mistakes so you don’t have to make the same one once.  Over the next few weeks, we will be looking at the top 10 mistakes that people make with estate planning in the hopes that we can support each other to learn from the mistakes of others, so they stay ONLY the mistakes of others.

Top Estate Planning Mistake #9:  Putting your child’s name on the deed

Land is a strange thing in the eyes of the law.  Really, all property in the world can be classified into two groups:  (1) Real estate, and (2) everything else in the world.  Because land is different, a lot of us feel a special connection with our real estate and we want to make sure that the “family home” stays in the family.  Even folks who don’t do any other types of estate planning at all will often try to do something to provide for the way any real estate they own should pass.

Many times, I talk to someone who says, “I’ve already taken care of the house, I just put my son’s/daughter’s name on the deed”.  I have mixed feelings after I hear those words.  First, I feel joy because my client has thought about some tough issues and tried to take action.  Then I feel dread, because even though they were acting with the best intentions, they may have made a huge mistake.  How is making sure that your home gets passed to your children a mistake?  It’s not necessarily, the mistake comes in the “how” of the action not the action itself.  Let’s take just a second to look at an example:

Mom owns a home currently worth $200,000.00 and has no mortgage.  She purchased the home in 1983 for a whopping $47,000.00.  She wants her Son to own the home when she passes so she adds him to the deed.  Mom subsequently passes away.  Should Mom be able to rest peacefully with the knowledge that she has taken care of her family home?  Unfortunately, no.

Here’s what happened.  First, the good, Mom did make sure that her Son will own the home (well done, Mom).  Then, the bad, the IRS will look at the transfer as a $200,000.00 gift.  The gift will exceed the annual exclusion amount for the gift and estate tax and will likely result in a tax bill from the government. Then there is the ugly…the home isn’t Son’s primary residence.  Because that’s the case, should he choose to sell the home he will have to pay taxes on any income realized in the transaction.  We calculate income by subtracting the price you paid (in this example $47,000.00) from the sale price (presumably $200,000.00), that results in a profit of $153,000.00 to pay income taxes on.

Now, let’s look at what could have happened.  Let’s say Mom had left the house to Son in either a will or a trust.  Mom still makes sure Son will own the home (well done, Mom).  There is still a gift, but because it is a gift at death we look at the lifetime exemption rather than the annual exemption.  The $200,000 gift doesn’t put a dent into the lifetime exemption (the value of gifts you can give throughout your lifetime and without incurring any death tax) and there is likely no death tax liability.  Finally, Son will be able to take advantage of the “stepped up basis” rule.  The “stepped up basis” rule allows a person who inherits property to use the value of the property on the date of inheritance, meaning that if the house was valued at $200,000.00 on the date Son inherited it and he sold it for $200,000.00 the IRS would not see any income to tax on the transaction.

A good estate plan requires more than just good intentions.  Most of us want to do the right thing, and we understand exactly what we are trying to do.  In estate planning, you and your attorney need to work together to ensure that you understand, not only what you are trying to do, but also the best way to do it given the intricate web of law and regulation in which we all live.