USING LIFE ESTATES

A life estate is a very good planning device-like anything else- in the right circumstances. The life tenant, usually a parent, knows that the home will be his or her permanent abode without the possibility that a child or in-law will have a view that the parent should not live or need not live in the residence.

Say you paid $50,000 for the home which is now worth $200,000. If you sold it, you would pay a capital gain on the gain of $150,000 since your "basis" is $50,000. However, if the home is your permanent residence and if you have lived in the home for at least two years, $250,000 ($500,000 for a married couple) of the gain is excluded. Therefore, in the example, all of the gain is excluded. If you gave that same home to your children, if they then sold the home, the $250,000 exemption would not be available since they have not owned and lived in the home for two years. Thus giving a home to a child or children is not a wise tax move. With using a life estate, to the extent that a portion of the gain is attributed to the life estate, that portion up to $250,000 will be exempt from the capital gains tax.

There are other benefits. When the holder of the life estate passes away (usually the parent) the home will receive a "stepped-up" basis. Now say the home is not sold and you pass away. For estate tax purposes, the home will be valued in your taxable estate at its then fair market value (perhaps $200,000). Well that's a good result-no not that you died, but that the home gets a "stepped-up" basis equal to the fair market value at the date of death or the alternate value. When the home is sold for $200,000 there will be no capital gains tax because the home was sold for the stepped up basis. Increases in value after the date of death will be subject to a gains tax. Also in NY, there is a $250,000 exemption for a home. Thus the home will not be subject to estate tax. On the negative side in NY is the fact that there is still a gift tax. And the home, in the example using a reserved life estate, will be subject to NY gift tax at the full value without any reduction for the life estate portion. Beginning February 1, 2000, NY's estate tax will take on a look similar to the federal estate tax program. While there will still be a NY estate tax, it will equal the federal credit for state estate taxes. Thus no additional monies will be payable because of the NY estate tax. In addition, NY gift taxes will be repealed on January 1, 2000.