Dear Tax Talk,
I have a “Lady Bird deed” with my children as beneficiaries. After I die and they take over the property and maybe sell it, will they have to pay taxes since the property has increased in value over 30 years? It has more than doubled in value.
As beneficiaries, your children will have to pay taxes on any gain on the property. However, the gain is based upon a “step-up” in basis — not the original purchase price from 30 years ago.
To provide some more detail, assume that you had sold this property yourself. You would take the sales price and subtract the original purchase price, plus any capital improvements you made, in order to calculate the gain. Given that the appreciation “more than doubled,” your gain would be quite large in this case.
However, as it relates to a “Lady Bird deed,” or, more formally, the “enhanced life estate deed,” you are avoiding the probate of real estate. This allows you to retain the life estate for yourself, meaning you can live in it with the authority to sell the property at any time without permission of the named beneficiaries during your life. If you do not sell the property during your lifetime, it will pass directly to your children upon your passing, hopefully very far in the future.
Why is a Lady Bird deed popular?
The Lady Bird deed is thought to be named for Lady Bird Johnson, whose husband, President Lyndon B. Johnson, ostensibly used this type of deed to convey land to his wife. It’s a popular tool because the home is exempt from Medicaid claims during the homeowner’s lifetime, and it remains free of Medicaid claims and liens when it passes on to the heirs. However, this deed is available in only a few states, including Florida.
Source: USLegal.com, Nolo.com
The Lady Bird deed also provides added tax benefits. For example:
- You are not subject to gift tax since the property does not actually transfer title to your beneficiaries during your lifetime.
- The property will receive a step-up in basis upon your passing, which means it will be valued at the fair market value at the date of your passing.
This means the gain would be calculated by the sale price received by your children, minus the stepped-up basis, or fair market value of the home at the date of your passing. This clearly would make the gain much smaller than if your original purchase price were used. So this makes this an excellent tax planning strategy.
It appears you are on the right track to ensuring that your beneficiaries are cared for and the best tax strategies in your situation are being addressed well in advance of any unfortunate, unforeseeable event.
Thanks for the great question and best of luck to you in your continued tax planning.
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