When a house is placed in an irrevocable trust, the tax treatment of its cost basis becomes an important matter. The taxable gain is determined by the cost basis if the property is later sold. Inherited properties benefit from a step-up in basis. Yet, a house transferred to an irrevocable trust generally retains the original cost basis.
How is the Cost Basis Determined?
The cost basis of a house in an irrevocable trust varies in line with how the property was transferred as detailed below:
- In the case where the grantor places the house in the trust during their lifetime, the property generally retains its original purchase price plus improvements. The beneficiaries may deal with tax obligations in relation to capital gains based on this original cost if the house is sold.
- If the house is transferred upon the grantor’s death—In specific cases, an irrevocable trust structured as a grantor trust may allow beneficiaries to receive a step-up in basis and lower the taxable gains.
Key Tax Considerations
- Capital Gains Tax Impact: If the house appreciates significantly over time, selling it may result in a high capital gains tax because the basis remains the original purchase price.
- No Step-Up in Basis: Property passed through a will gets a step-up to fair market value at the time of death. Unlikely, a house already in an irrevocable trust typically keeps its original cost basis.
- Trust Type Matters: Some grantor trusts might enable a step-up in basis upon the grantor’s passing. Yet, non-grantor irrevocable trusts typically do not.
Managing The Tax Impact in a Smart Way
- Careful Trust Structuring: Tax experts have professional expertise in terms of minimizing tax burdens by structuring trusts.
- Gift Tax Rules Considerations: Transferring property into a trust may require gift tax implications in the case when the IRS exclusion limits are exceeded.
- Long-Term Taxation Planning: Planning the capital gains taxation is possible for beneficiaries by acknowledging relevant rules.
Final Thoughts
A house placed in an irrevocable trust remains having the original cost basis instead of inherited property. This can lead to tax obligations in terms of capital gains when sold by beneficiaries. An expert CPA approach can present assistance in determining smart strategies in order to minimize tax liability and establish compliance with irrevocable trust tax rules.