The Dangers of Not Seeking Counsel

Mature woman talking to financial planner at homeSometimes people want to simplify how to pass their house to their children.  At the same time, many are hesitant to spend money to seek legal advice.  Unfortunately, these two factors can converge to create harmful results—often leading to the proverb “you get what you pay for.”

A father wanted to leave his house to his daughter without going through probate.  One of his friends suggested he add her name to the title.  Four years prior to his death, he created a new deed that named him and his daughter as joint tenants with rights of survivorship.  He assumed this would transfer his home to his daughter in the easiest and most efficient manner.

Upon his death, his actions did avoid a probate.  But his plan had a key flaw.  It removed an opportunity to save his daughter capital gains taxes when she sold the home after his death.  He had purchased his home many years ago for $25,000.  When he died, the house was worth $225,000, meaning it had gained $200,000 in value during his many years living in the home.

A tax rule provides that the basis (the value of one’s initial investment) of assets in one’s estate at death is stepped up to the asset’s value at date of death.  Had father kept the home in his own name, after his death, his daughter would have owed nothing in capital gains taxes.  But because he had transferred half the interest to his daughter, only the half he owned received the step-up.  The daughter’s half kept the low basis her father had transferred with the new deed.  This meant the daughter owed capital gains taxes on half the gain ($100,000).  At her 15% capital gains tax rate, this meant a $15,000 tax bill.

Had father sought good legal advice, he would have learned that he had a much better option than transferring half the house to daughter to avoid a probate but create a $15,000 tax bill.  Instead he could have used a beneficiary deed to avoid both the probate and the daughter’s future tax bill.  The beneficiary deed would have cost a few hundred dollars.

As a colleague likes to say, “an ounce of prevention is worth a pound cure.”

An article recently sent by a client inspired me to write this blog.  Thanks M.