Caution: Writing Your Own Deed to Avoid Probate Can Lead to Unintended Consequences
You and your spouse have worked hard and saved. You’ve enjoyed the good fortune of having assets that have appreciated over time. At the same time, you’re confused about which estate planning solutions can help you preserve your assets and allow you to pass on your wealth without your having to pay exorbitant state or federal capital gains taxes.
This post will introduce you to an exciting solution to that end: the Tennessee Community Property Trust. [Alaska has created an identical solution, but we have found our clients are more comfortable with the Tennessee solution simply because it seems less foreign to our clients.]
Here’s some essential background. Two basic systems govern how assets transfer when one spouse dies. Common law jurisdictions are, perhaps unsurprisingly, the most common: they include 41 of the 50 U.S. states. Community property jurisdictions, on the other hand, include just nine states: Louisiana, Texas, New Mexico, Arizona, California, Wisconsin, Nevada, Washington, and Idaho.
What’s the difference? If you live in a community property jurisdiction, and your spouse dies, the value of the property that you own together gets what’s known as a “step up” on cost basis. This means that after the first spouse dies, you can sell your assets without having to pay estate or federal capital gains on any appreciation on those assets that occurred prior to your spouse’s death. Common law jurisdictions also allow the step up basis but only for one-half the value of the assets.
Both Alaska and Tennessee have adopted statutes designed to take advantage of tax laws that benefit those who own property that’s appreciated in value. Even if you don’t live in Alaska or in Tennessee, you can still establish a Community Property Trust and obtain community property treatment on those. The way this generally works is that, when the first spouse dies, the trust will terminate and be “poured back” into the revocable trust. At that point, the surviving spouse can sell the appreciated assets without incurring capital gains tax on pre-death appreciation.
It doesn’t matter which spouse dies first. The 100% basis step up still holds. This tool usually works best for couples who have a lot of holdings in real estate, business assets and stocks – assets that have increased substantially in value over time. The good news is that establishing these trusts is generally simple; the requirements tend to be easy to satisfy.
An Alaska or Tennessee Community Property Trust is just one potential tool for your estate planning arsenal. For a more complete, thorough assessment of what you and your spouse can do to accomplish your goals, minimize risks and plan for contingencies, please call us at (800) 827-7784 for a free consultation.
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