Case of the Week

Case:

Rhea Jones, 75, lives in a beautiful coastal town in northern California. Rhea's home occupies three magnificent acres of bluff property that overlooks the crashing waves of the Pacific. Since her home sits just steps away from the dramatic cliffs, Rhea frequently jokes to her friends about her "living on the edge" lifestyle.

John, Rhea's husband of 50 years, built the custom home 10 years ago. It was truly the realization of their lifelong dream. Unfortunately, John passed away unexpectedly five years ago. Now, Rhea lives alone in the large home. Nevertheless, Rhea is looking forward to spending her remaining days in this lovely home. Not surprisingly, she frequently plays host to her children, grandchildren and friends.

Rhea is an active philanthropist. In fact, she spends three days a week volunteering with local charities. While very wealthy and philanthropic, Rhea makes only modest yearly gifts. However, she intends to make a substantial bequest upon her death. Specifically, Rhea plans on distributing her entire estate to her children and grandchildren, except for her cliffside home. Rhea's estate plan provides that the home passes to John and Rhea's favorite charity upon her death. The home is worth $13 million.

At a recent estate planning presentation, Rhea discovered the benefits of a gift of a remainder interest in a personal residence. In particular, she liked the potential significant tax savings and avoiding the probate process. Also, because the gift is irrevocable, the local charity would recognize and honor Rhea for her generous gift at the annual fundraising gala. Of course, Rhea retains the right to live in her home for the rest of her life, which is an absolute requirement to any potential gift arrangement.

Question:

Rhea is very excited about this gift arrangement, but she has many questions for her attorney. Before she commits to the gift plan, she wants to address several issues. First, how is the transfer of the home accomplished? Is a trust involved? Is a contract required?

Solution:

An individual may receive a charitable income tax deduction for the gift of a remainder interest in a personal residence or farm. See Sec. 170(f)(3)(B)(i). Specifically, Rhea would deed the home to the qualified charity but reserve a life estate in the property. For simplicity, a quitclaim deed may be used. A warranty deed or similar deed may be used and are preferred. After the deed transfer, the deed should be recorded. This process is very similar to any other transfer of property, except for the lack of consideration (i.e., money changing hands) and the reservation of a life estate in the home.

A charitable trust is not part of this gift plan. However, a contract is commonly an additional part of this gift plan. Under the common law of most states, Rhea, the life tenant, is obligated to maintain the home during her life. However, it is prudent to create a written agreement that clarifies the roles and responsibilities of both Rhea and the charity.

The written agreement, called a maintenance, insurance and taxes ("MIT") agreement, defines the responsibilities of Rhea as a life tenant. Specifically, Rhea maintains the property in its current condition. Since she is residing in the property, Rhea also maintains insurance and pays real estate taxes. A sample MIT agreement is available in GiftLaw Pro Chapter 3.7.2.

Editor's Note: While Rhea is required to maintain insurance, many charities take the additional precaution of adding the home to their master insurance list. On another note, the deed of the remainder interest in the home to charity must not be restricted. When Rhea passes away, the charity must receive title to the home. If the charity does not receive an unrestricted right to the property, Rhea's charitable deduction could be denied.