How to Leave Your House to Your Kids (Without Leaving Them a Tax Mess!)

How to leave your home to your kids and avoid probate and taxes and lawyers and all that mess. Well, that's the golden question. And one wrong deed could cost your kids 6 figures in unnecessary taxes and months and months of ongoing legal fees. And the scary part is a lot of parents will do some transfers with their home title and do some deeding because they think it's going to make things easier. I'm just going to add my kids to the title or just gift them the house now. Or maybe if I have a will, that'll be fine too. But here's the reality. Leaving your house to your kids is not just about getting them the property. It's about probate, capital gains taxes, stepped-up basis, family conflict, creditors, divorce, and whether your kids actually receive the home the way you intended. Now, my name's Mark J. Kohler, CPA, attorney, small business advocate, and an owner of a home with kids. And I'm going to show you the most common ways people can screw this up unintentionally and the strategy that gives families the cleanest, most tax-efficient result. Because the goal is not just to pass on the house, the goal is to pass it on without creating a tax problem, a legal mess, or a family battle. Let's break it down. First point, the goal is bigger than avoiding probate. See, a lot of people are like, well, I don't want to have my kids go to court or go through probate, so I'm just going to deal with it now. I'm going to go write up a deed or a title and go down to the courthouse. And when I record this, problem solved. I don't need to talk to a lawyer. I don't have to pay for a trust. Heck, I can even avoid a will. I'm just going to go do a deed transfer down at the county recorder and solve this whole mess. And the one question they're trying to resolve is, how do I avoid probate? And I have to say that it matters. Probate can be slow, it can be expensive, it's public, it can be a real burden on your family to take months and months, sometimes years, dealing with an estate or probate in court. But avoiding probate is not the only goal, because when mom or dad go down to the county recorder and record that deed, they could be causing a lot of problems. That's because we not only want to avoid probate, we want to stepped-up basis. I'll explain that later. We want to avoid unnecessary gift tax reporting, capital gains taxes. This is not about being super rich and avoiding estate tax. We're trying to avoid capital gains tax. And we want you to keep control while you're alive and protect the house from your kids' creditors, divorces, lawsuits, and bad decisions. We want to give your family clear instructions. So let's start with an example that we're going to use through all of these different issues. And I've got a big reveal at the end that's going to make this so much easier for you and your family. And you You may be implementing this strategy for your parents. You're probably the child watching and listening to this. You're like, I need to deal with this for my parents because I don't want to inherit this mess. So our example, let's say your parents or you bought a home for $200,000 and it's 10, 15 years later. It's not uncommon to see that home worth, say, $1.2 million. Let's say now there's 3 kids involved, your kids, or maybe you're one of those kids and you want the house to pass on to the children with the least amount of cost, the least amount of delay, no conflict. $1,000,000 and no taxes, right? Sounds simple. You can do it. But again, going down to the courthouse and recording a title change could be the worst thing to do. And the difference between doing this right and doing it wrong can be hundreds of thousands of dollars, months and months in legal costs and all that stuff, right? So we have to remember your house is not just an emotional asset, it's a tax asset, it's a legal asset, it's a family asset. And we have to plan in those different categories or may accidentally blow up the whole thing. So I want to go through 4 problems that arise when mom and/or dad go down to the county recorder and put the kids on title. And what they're normally going to do is put the oldest child on title with the verbiage joint tenants with rights of survivorship, so that when the last parent spouse to die occurs, then that child automatically inherits the property. Again, you avoid all those other problems of probate. Let's go through 4 issues. First, When you put a child on title, you have effectively given them half the property. Now, if it's mom, dad, and child on title, then you've given the kid a third of the property when you put their name on title. That's what you've done. Put my name on title with you, you just gave me half your house and you can't untake me off that title unless I agree to. So you put that kid on title, you've given them a portion of the house. That, my friends, is a taxable gift. This is problem number 1. So in our example of a $1.2 million home, let's say you bought it for $200,000, maybe you had a HELOC or a mortgage on the property of $200 grand that's still hanging around. You did some remodeling. So you've got a million-dollar property net worth, right? It's worth $1.2, but there's a mortgage on there for $200 grand. So you've got a million dollars of value. So if grandpa or grandma's still alive, just one parent, and we put child number 1 on title, you just gave them half of the house and half of the equity. That means you gave them $500,000. Now you're required to do a tax return. It's Form 709, the gift tax tax return, and you're allowed to use up your lifetime exemption of gifts, which this year is $15 million. But you've got to do a tax return to claim that. And I don't know how much your net worth is. If it's more than $15 million, we got an issue. So you've got $15 million of credit and you've got to do a tax return and use that up or you're going to pay tax. So you've incurred some legal or tax preparation fees. Not a big deal, but you've just Remember, giving away half of the property to that child when you put them on title. Okay, now you do a tax return. First problem, not the end of the world. Second problem, massive issue. You have just given away half of the equity of your home to your kids. At this point, I want to tell a quick story that really impacted me. This was about 10 or 15 years ago. And if you've come to some of our events or heard me on my podcast, you've heard this story before 'cause it's just so powerful. But I had this little grandma, adorable. She came to my office. And she was just a wreck emotionally. And she said the IRS was coming after her home. And I was like, oh my gosh, what, have you not paid your taxes? No, I always pay my taxes. And she had her tax returns, she had the notices from the IRS, and they were all confusing to her. They're kind of in a shoebox, which is a normal situation, right? And she's like, what do we do? What do we do? And I was like, man, I just can't make sense of this. Your taxes are paid, the da da da da da. And I start looking through her paperwork, and all of a sudden I go, whoa, I said, this is the title. Your house is paid for, right? Yeah, yeah, it's paid for. I pull out the title and there's her kid's name on title. You know where this is going. And I said, does your son have tax problems with the IRS? And she just went white and she just, ah, yeah. Well, you put his name on title. So that's an asset of his now. And the IRS is going after your home to get the money. To pay his tax bill. And she was just like, so she had to pay her kid's tax bill to keep her home because she put her son on title. This is a big deal. Let's say your kid gets into a lawsuit, they get sued, they go through a divorce, they have any creditor issues, tax liens, federal or state. Guess what? Whoever that plaintiff is or creditor, they can now go after a part of your home because that's an asset of your child's. That is Not good. When putting kids on title, this is the biggest issue for me. Yeah, there's a gift tax return, number one. I've got other issues, but immediately you've just exposed your home equity to someone else's life. And you're probably at the age in your life where you're not living wild and partying hard, but your child might be. So you gotta be careful there. Third issue, you're going to be losing some control of your home. You don't own it yourself anymore. Remember? You just put a child on title. What if you want to refinance? What if you want to sell? What if you want to change the plan? Let's say that kid's in a really bad marriage and you're like, uh, I better redo my estate plan. I got to undo that. That's an asset of his. I'm using a son in this example, obviously. So he's got to deed it back to you. So now there's a gift going back. Well, if he's in a divorce, do you think that potential ex-wife is going to be all good with half of that home going out? Of the marital estate. Now you may say, well, that's a gift and it's not part of the marital estate. Well, it's an argument. Try to go to divorce court and start fighting these issues out. It's not fun. So you're going to need your children's signatures to do any transaction that involves your home. And again, keep in mind it's an asset of theirs for right now. And I get it. Again, avoiding probate is good. I want to avoid probate, but Now we've created a gift tax issue, creditor exposure, and loss of control. This is not a great strategy. Now, number 4, this is a big deal. Equal to exposing the home to your kids' creditors and all those issues. But we've got a capital gains trap. The number 4 issue is stepped-up basis. And you don't have to be worth $15 million or have a taxable estate to have to deal with this one. So let's go back to our example. Remember, Grandma's in the home, it's worth $1.2 million. She bought it for $200 grand. There's equity there of $1 million. Arguably, that's the gain. That's called a built-in gain. Bought for $200, worth $1.2. Now, if she sold it during her life, she'd have a portion of that would be the sale of home exemption, whole other topic. But she's going to live in it until she dies. And if she had a will or a trust, that stepped-up basis would go to the kids. And what that means is they would inherit the home one or all 3 of them, and it would be stepped up to $1.2 million. So they could sell the home on day 2, pay zero tax because the basis goes from $200,000 to fair market value. It's stepped up to the current value, which is $1.2 million. So as long as mom dies with the property in her name, anybody that inherits it or a portion thereof gets a stepped up basis to fair market value. That's awesome. Because if they put the kids on title early, we're not going to get full stepped-up basis. Let's go back to the example. Grandma says, well, I'm going to put my son on title so that there's no lawyers involved and he'll inherit it and he'll split it up with the other two kids. Okay. Remember, we just gave away half the home. So when she dies, only half the home gets stepped-up basis. So he walks away with the home and half is stepped up to $500 grand and the other half is his share. And the basis is split half as well, 'cause see, he gets carryover basis with his gift. Let me explain again. She gave half of the property to him, so it's worth $1.2, it's worth $600 grand in his world. And then his basis is half of what her basis was, which was $200. So we're back to $500 grand. So however you slice it, he's got $500 grand of built-in gain that he's got to pay tax on now. He only got stepped-up basis for half of the equity or half of the value minus the mortgage. That's two different ways to look at it. So now on day two, he goes to sell it. He's going to have capital gain of at least 20% plus state. It could be 30%. So now we can have a tax bill of $100,000 to $150,000. The son's got to write a check. For $150,000 the day he sells the home. Where if grandma had not put the son on title, we would be bypassing this whole issue. And what's interesting here, and I'll give you the best strategy to solve this, it's the same house, it's the same kids, it's the same value, but a totally different tax result by using a different method of getting the home to the kids. Now, I said there was 4 problems. I'm going to throw in a bonus problem. Number 5. Let's say mom still put the son on title, lack of stepped-up basis. Hopefully there's not a lawsuit pending somewhere with this kid, pending divorce, who knows what. Well, at the end of the day, he now owns the home. He owns the home at $1.2 million value, $200,000 mortgage, and this built-in gain of $500,000. Already sounding complicated, right? Well, he's got to deed 2/3 of it away to the other 2 kids. So when he transfers title to the other 2 kids, he's given them a gift. So now he's got to do a gift tax tax return. But you may say, well, they don't want the house. So now he's got to sell it, pay the taxes, take whatever's left, and give them their share. Well, that's a gift. So if he sold it, paid the tax of $150,000, paid off the mortgage, that's $350,000 minus the $1.2 million. Basically, we've got somewhere between $800,000 to $900,000 of cash left on the table. And he's going to give $200,000 to $300,000 to the other two kids. That's a taxable gift. So whether he transfers the home in two additional shares to them or sells it and gives them cash, we've got a whole other gift problem and the tax to boot. So now what do we do? This is where people will be continuing to, you know, get on the web and find another solution. And they come up with this transfer on death. Deed idea. Now, some of you may have heard of this. It's a deed that can be recorded that says, enclouds the title and says, hey, when I die, I want this deed that's recorded here to then transfer ownership to so-and-so person or persons. And it could work. I mean, the idea is simple. The mom keeps ownership during her lifetime. She names beneficiaries. And when she dies, the property transfers outside of probate. This could be helpful. It may avoid probate and it could even preserve stepped-up basis. And it could maybe be cheaper than doing an estate plan. But here's the catch. It's not available in every county in the country or state. There's 3,500+ counties all over the country. So we got to make sure that this TOD, Transfer on Death, works there. And what if one of the children dies before you? Again, what if one of the kids has a creditor? What if one of the child— children's in a bad marriage and having them inherit this could be the worst thing? And what happens if the kids disagree about selling the house once they get it and one child wants to live there and the others want cash? So we've kind of created another series of problems that are more about family management. I get just so frustrated that we can't get Grandma to the table to look at maybe a more strategic solution. And so what does Grandma do? She throws a Hail Mary. And this is very common. People do what's called a holographic will. Grandma's determined, Grandpa, whoever, could be you, determined to not do an estate plan. It's too emotionally draining and scary and it's going to cost a few thousand dollars. So you're like, I'm just going to do a handwritten will. That's what's a holographic will. So they sit down and go, damn it, I'm going to leave the property to my 3 kids and here's a witness, my neighbor. I'm going to notarize it and I get stepped-up basis. And yeah, they got to go to court and have it probated. But you know, gosh darn it, I'm not going to go deal with an estate plan issue. I'm just going to do a handwritten will and be done with it. Well, it is true. We're going to avoid the gift issue. We're going to avoid the stepped-up basis problem, and we're not going to have any kid on title right now. But then we're back to the problem at the very beginning. We're back in probate, public legal attorneys, months on end. Could even be a cost. Some states and counties charge a percentage of the estate value as a tax at the local level. What is the solution? Where do we turn? People, it's right here in front of you and you know it. It is a revocable living trust, an estate plan. Is a comprehensive plan that's built on the back of a revocable living trust. And it can be extremely affordable and it can solve so many problems. And if you allow me, I want to take you through some of the perfect solutions that you may not even realize are right there before you. First, while you're alive, think of the trust like a legal bucket. You create this trust document that you are able to control while you're alive and use for privacy even. I don't want your name in the trust. Might call it Green Tree Trust or Blue Sky Trust, dated blah, blah, blah. We might, in a lot of instances, be able to have your name off public record so that no one knows you're the owner of this property. So privacy could be a big deal. It's like camouflage. It's not asset protection, but camouflage. Let's say during your life, heaven forbid, you go into critical care or you're in a coma or have Alzheimer's or leave the country for extended time or whatever. Successor trustee can continue to run your financial life with this trust. So it's built to take care of you during your life. But once you die, there's no probate. And this is assuming that the trust is on title, not you anymore, not the kid. We transfer the property into the trust. Banks do not care. This is beautiful. So there's no probate, there's no court process just to transfer title. There's no public probate file that anyone gets to see what's going on. And there's no guessing game for kids. The revocable trust allows you to keep control. You can still sell the house, refinance, change beneficiaries, change trustees, amend or revoke the trust. The trust gives you control while you're alive and can still give you what they call dead hand control. You can wreak havoc on your kid's life by making special rules inside the trust. Because think about, is leaving the house equally to the 3 kids? The right thing to do. It may sound fair, but it's not always simple. You may say, well, I'm going to leave this account to this kid, this rental property to this kid, and the home to this kid who really wants it. Or you can even say, I'm going to give first right of refusal to any child that wants the home, but they have to buy out the other kids with proceeds of other assets they might inherit. And there could be a child living in the home who's paying rent, utilities, and all those things and acts as a renter until the home is sold. The trustee can hire agents and make repairs, list the properties, resolve issues to make sure the property is sold properly before it's distributed. And all these details matter, and it can be handled inside this trust. And guess what? You still get stepped-up basis. The children can sell the property and pay no tax at all. And, and you should know it's based on the fair market value upon your date of death. If the property goes up in value, they'll pay tax on the difference from your date of death to when they do sell it. But the stepped-up basis is up to the day you die. But one last thing I want to say is making sure that you do the trust properly. It's got to be funded. All the assets need to be moved into it. You've got to maintain it. You've got to respect it. It does not need a tax return. It does not need a tax ID number. This is not for asset protection. It's for solving the problems we just talked about. And those are big problems. So this is very, very important to do., but we don't want to think it does more than it is built to do. The cost can be anywhere from $2,000, $3,000 to $4,000, maybe $5,000 at most. And if you're getting quotes greater than that, I would shop around. At our law firm, we have a special every year between Memorial Day and Father's Day, 10 or 20% off. If you're in this window when you're watching this video, please click on the link below and you'll see what the deal is. But our fees are extremely affordable throughout the entire year. And this is a great gift that many of you who are a child realizing you're going to inherit a mess from mom or dad, you can pay for the trust and estate plan as a gift for Father's Day, Mother's Day, Christmas. Say, hey, Mom and Dad, I'm going to just pay for it. Let's get it done and get it done right. And there's going to be all sorts of pieces and parts to it. Funeral and burial instructions and living will, powers of attorney for finances, power of attorney for health care, all these other pieces and parts. That you know you need and your parents need. And I mean, this could be a wonderful family affair. Let's get everybody done at the same time. So what's the basic playbook for most families? The cleanest strategy looks like this: create a revocable living trust, transfer the home into the trust, keep the pour-over will and all the other pieces that come with an estate plan. Give clear instructions for the sale, rental, buyout, or distribution of the property. What do you want? You get to write the law. Coordinate the beneficiary designations, which you can change while you're still alive. This is a revocable living trust and review the plan when life changes. Life changes could include a new marriage, a divorce, a new property, a death in the family, a new grandchild, moving to a new state, maybe major tax law changes. Estate planning is not one and done. You want to have it reviewed every 3 to 5 years. Some of you watching this are like, yeah, I've got it, but my trust is really isn't funded. I'd like to change the name. I need to clean it up. Fine. Sometimes that could be a lot cheaper than just redoing the whole thing. The goal is simple: avoid probate, preserve stepped-up basis, keep control, protect the home, protect your kids from themselves, reduce conflict, and pass the house the way you actually intended. That's the difference between leaving your kids a home and leaving your kids a mess. So start asking yourself those questions. So if you haven't got an estate plan or you're unsure whether your home, trust, deeds, titles, or estate plan is set up properly, This is exactly where good legal planning matters. My team at KQS Lawyers helps families, business owners, and real estate investors structure their estate plans the right way so assets transfer clearly, tax benefits are protected, and families aren't left trying to untangle a mess. Now, there's a link in the description below if you'd like to connect with us and get started. And if this helped you, please hit the like button, subscribe, turn on notifications so you don't miss future strategies, and send this video to any of your children or parents that do not have an estate plan. Future strategies for protecting your wealth and your family are absolutely critical. I'm Mark J. Kohler. Thanks for watching, and I'll see you in the next one.