Tax Law

QPRTs and PRTs: Planning Strategies for Transferring Family Homes

As an alternative to gifting direct interests in a family home to children, a donor can establish an intervivos trust for the benefit of children or other family members and make gifts of interests in the property to such a trust during life. There are many different types of trusts that a donor should consider...[, including] a Qualified Personal Residence Trust (QPRT) and a Personal Residence Trust (PRT).

...

Qualified personal residence trusts, described under Section 2702 of the Code, can be extremely powerful transfer tax planning devices in the context of family homes...

A QPRT is an irrevocable intervivos trust funded with real property that is a personal residence of the grantor. Under the terms of the trust agreement, the grantor retains the exclusive right to the use of the residence transferred to the QPRT for a stated term of years. At the end of that term, (the "QPRT Term"), the remainder beneficiaries (typically the grantor's children or a continuing trust for their benefit) secures ownership of the trust property.

...

Based upon [IRC Sec. 7520] valuation principles, the older the grantor and the longer the QPRT Term, the lower the gift tax value of the remainder interest. This would suggest that the QPRT Term should be as long a term as possible. However, a critically important aspect of planning with QPRTs is that, should the grantor die during the QPRT Term, the assets held in the QPRT are included in the grantor's taxable estate. Consequently, structuring a QPRT requires a careful balancing of the desire to drive the gift tax value of the remainder interest as low as possible while managing the risk of the grantor's death during the QPRT Term. Occasionally this balancing act can be struck by selecting a relatively long QPRT Term and purchasing term life insurance on the grantor's life to cover the QPRT term.

...

In Rev. Proc. 2003-42, the IRS announced that it will no longer issue private letter rulings affirming the qualifications of a trust for a single term holder as a valid QPRT. Rather, in Rev. Proc. 2003-42, the IRS provided a model QPRT form. Any trust agreement that is substantially similar to the model form, is valid under state law, and is operated consistently with the trust instrument will be a valid QPRT.

As a general rule, estate planning attorneys who are not well versed in the law affecting QPRTs are well advised to use the IRS model QPRT form. However, in doing so, commentators have noted that are three potential deficiencies in the model form that the drafter might wish to address...

...

Although QPRTs are the most favored choice, the Code and applicable regulations also exempt Personal Residence Trusts, or "PRTs" (also sometimes referred to as "Non-Qualified Personal Residence Trusts"), from the special valuation rules of Section 2702. The rules governing PRTs are similar, but not identical to those applicable to QPRTs. Therefore, in some specific instances, PRTs are superior to QPRTs for transferring family homes.

PRTs are more restrictive than QPRTs in that they can hold only a personal residence (or an interest in a personal residence). They can hold no cash at all with the limited exception of "qualified proceeds" from the involuntary conversion or destruction of the property by fire or casualty. Like a QPRT, any such "qualified proceeds" must be reinvested in a new personal residence within two years of the date of receipt. In addition, the trust document must prohibit the sale of the residence (other than by destruction or involuntary conversion) and must restrict its use to that of the personal residence of the grantor.

The primary benefit of using a PRT as compared to a QPRT is that the Regulations do not expressly prohibit the commutation of the term and remainder interests in a PRT...

...

LEXIS users can access the complete commentary here. Additional fees may be incurred. (Approx. 10 pages)

If you do not have a LEXIS.com ID, you can purchase the Emerging Issues Analysis content through our LexisONE Research Packages

RELATED LINKS: For additonal information, see:

Discover the features and benefits of LexisNexis® Tax Center.

Insights are also available in print at the LexisNexis® Store.