Transferring Real Estate to Heirs

One of the more frequent estate planning conversations we hear centers upon the transfer of real estate from a person to his-or-her heirs (usually children). There is a lot of bad information out there on the topic. So this is the first of about four blog posts that will address this issue. Together, they form a brief primer based upon the current climate in North Carolina. As we are typically talking about “the house”, this post will refer to “your house”, but everything here applies to any real estate located in North Carolina (unless otherwise noted).

As always, this conversation is of a general nature and is NOT A SUBSTITUTE for coming in and discussing YOUR PARTICULAR SITUATION with us. We will offer you coffee, and we rarely bite. Also, this conversation is based on North Carolina law at the time it was written, and assumes that both you and the real estate in question are in North Carolina. There are options not covered here, these are the most common. Mobile homes can cause additional complications that will be briefly mentioned in one of the later posts.

The first transfers we will consider involve giving a present interest in your house to your children.

1. Outright Transfer to a Child (or Children). Many people decide that they will “go ahead and give our house to our kids” with the idea that this will “protect it from the nursing home”. If you transfer title to your home to a child (or children), the child (or children) owns the property. This is a gift. There will be no probate when you die, of course, because they already own it. And that means that the nursing home won’t get it when you die (assuming you don’t already owe them money), because it is not there to get. Remember that any transfer of real estate that does not clear (pay-off) liens already on the real estate is still subject to those liens, so if there are judgments or mortgages they go with the property.
But the nursing home isn’t as much of an issue as is Medicaid. If you don’t pay the nursing home, they throw you out. So people go on Medicaid, but people who just gave away a house are denied. So there are problems with this approach.
And there is another issue. You need a place to live, and giving your house away (even to your kids) complicates that. Sometimes doing this makes sense (I suppose…), but there are HUGE potential problems that should make you think twice before putting title in the name of your child.

PROS:
• There is no probate when you die.
• The transfer is clear of creditor problems you may develop in the future, but if you are having trouble with creditors when you make the transfer it may not protect the house from them.
• Deeds are cheap.

CONS:
• Your child OWNS your house. He or she can throw you out.
• Your child OWNS your house, so if he or she has creditor problems, the creditors may get your house (and throw you out). If he or she files bankruptcy, the bankruptcy trustee could sell your house (and throw you out). If your child gets divorced, your house could be lost to the now ex-spouse (who could throw you out). If your child does not outlive you, you will have problems. Your child’s heir (or creditors) will own your house (and throw you out). Picking up on a theme?
• If you have a mortgage, they may have to agree to the transfer in writing. They likely will not, but even if they do they will probably charge you a fee.
• If you are in an age-restricted community, the transfer may be prohibited by the covenants.
• If you are presently receiving property tax discounts that are offered to certain elderly or disabled citizens (that fall below certain income levels), you will no longer qualify for these discounts.
• When you give your children your house, you also give them your basis. This means that they are likely to have a capital gains tax bill in their future.
• This is a gift, so you will probably have to file a gift tax return (though this does not necessarily mean tax would be owed).
• This is a gift, so if you (or your spouse) need Medicaid in the following 60 months you will face a penalty in the form of a waiting period during which you are ineligible for benefits.
• Did I mention that if you do this your child owns your house?

2. Create a Joint Tenancy with Survivorship with a Child (or children). If you transfer title to a child (or children), the child (or children) owns the property. So rather than your kids owning the whole house, they have a partial interest (called a “concurrent interest”). You keep your foot in the door. Merely “putting their name on the deed” isn’t enough, as that would create a tenancy-in-common. The deed must clearly create a joint tenancy. And since not all joint tenancies have the right of survivorship, it must specify that as well. Note that if you own your house in a joint tenancy with right of survivorship, the deed—and NOT your will, controls what happens to the house when you die unless you are the last person whose name is on the deed to die.

This could be done as a gift (your child doesn’t pay you for the interest). Or they could pay you for it (which, if done right, will generally maintain your Medicaid eligibility). Either way, there will be no probate when you die (related to the house), of course, because of the survivorship clause in the deed. Any transfer of real estate that does not clear (pay-off) liens already on the real estate is still subject to those liens, so if there are judgments or mortgages they go with the property. Sometimes doing this does make sense, but it should not be done without careful examination of the consequences. In general:

PROS:
• There is no probate (with respect to the property) when you die.
• The transfer will be clear of many of the creditor problems you may develop in the future; but if you are having trouble with creditors when you make the transfer it may not protect the house from them.
• This type of transfer will not disqualify you for Medicaid IF: the deed meets certain technical requirements AND if the child or children actually pays you FMV for their interest in the property (so if you sell your child a 1% interest, he or she must pay you 1% of the value of the property, and you must be able to prove this actually occurred).

CONS:
• Your child OWNS a present interest in your house. He or she can not throw you out, but you cannot throw him or her out, either.
• Your child OWNS a present interest in your house, so if he or she has creditor problems, the creditors may get that portion of your house (and cause your grief). If your child files bankruptcy, the bankruptcy trustee could cause your grief (though they could not take your portion of the house). If your child does not outlive you, it did not work.
• If you have a mortgage, they may have to agree to the transfer in writing. They likely will not, but even if they do they will probably charge you a fee.
• If you are in an age-restricted community, the transfer may be prohibited by the covenants.
• If you are presently receiving property tax discounts that are offered to certain elderly or disabled citizens (that fall below certain income levels), you will probably no longer qualify for these discounts.
• If you GIVE your children a joint interest in your house, the part you gave them comes with your basis. The part they receive when you die gets a step-up in basis. How big a deal this is depends upon the numbers involved.
• If you SELL your children a joint interest in your house, the part you sell them has a basis that is the amount paid that they paid you. The portion of the property they receive when you die gets a step-up in basis. If you sell them an interest for less than FMV, the IRS will call the difference a gift.
• If there is a gift (as defined by the IRS), you will probably have to file a gift tax return (though this does not necessarily mean tax would be owed).
• If there is a gift, and if you (or your spouse) need Medicaid in the following 60 months, you will face a penalty in the form of a waiting period during which you are ineligible for benefits.
• As a practical matter, you cannot sell your house without your child’s consent (signing the deed) AND, if he or she is married, the spouse signing as well.
• As a practical matter, you cannot borrow against your house without your child’s consent (signing the deed of trust and, probably, the note) AND, if he or she is married, the spouse signing as well.

The outright transfer actually gives your whole house to someone else. There are three common form of concurrent interests. One is joint tenancy, discussed above. The second is tenancy-by-the-entireties, which is only available to married couples. It is a really big deal, and we will discuss it in a future post.

The third is the tenancy-in-common (TIC), which is very common. Unlike joint tenancy, a TIC creates an absolute ownership of ‘part’ of the property. It is like the Brady Bunch episode where Peter and Bobby divide their room with tape. Bobby gets half the room, Peter gets the other half. If Peter dies, Bobby still only has half the room—Peter’s heirs (or creditors) now have the other half. So we are not really discussing that form here, because from an estate planning and creditor protection standpoint it only creates more problems.

More in the next post…