Should You Put Your House in a Trust? Pros, Cons, and Tax Implications

When deciding whether to put a house in a trust, it’s important to weigh both the advantages and potential downsides. On the one hand, placing a home in a trust can offer significant asset protection benefits, particularly in the context of Medicaid planning. But on the other hand, it can also carry significant tax consequences that affect you or your heirs.

Why You Might Consider Placing Your House in a Trust

One of the main reasons people place their homes in a trust is for Medicaid planning. If the homeowner needs to go into a nursing home and apply for Medicaid, a house placed in an irrevocable trust may be protected from Medicaid’s asset recovery provisions, preserving the house for heirs.  However, there’s an important five-year look-back rule to consider.

Medicaid looks back at transfers made within five years before applying for benefits. If the house was transferred into an irrevocable trust during this period, Medicaid could delay eligibility for benefits.  However, if a spouse continues to live in the home after the transfer, the house may still be protected from Medicaid claims—even if the Medicaid applicant no longer resides there.

Why You Might Decide Against Placing Your House in a Trust

1. Beneficiaries Would Lose Step Up in Basis If Home is Transferred to an Irrevocable Trust

One of the biggest disadvantages of placing your home in an irrevocable trust is that your beneficiaries may not receive a stepped-up basis when they inherit it.

Normally, inherited property is adjusted to its fair market value at the date of death. This prevents heirs from paying capital gains tax on appreciation during the original owner’s lifetime.

Example:

• You purchased your home for $150,000.
• At the time of your death, the home is worth $400,000

If the house is not placed in an irrevocable trust your heirs’ cost basis becomes $400,000. If they sell it for $400,000, they owe no capital gains tax (and may even be able to claim a capital loss for closing costs).

By contrast, if the home is owned by an irrevocable trust, your beneficiaries generally inherit your original purchase price as their cost basis (plus any documented improvements). In the same example, their basis would remain $150,000. If they sell for $400,000, less the $20,000 in closing costs, they face a taxable gain of $230,000.  At a 15% tax rate, this translates to $34,500 in capital gains tax. 

2. Homeowners Lose The Capital Gain Exclusion

Another important tax break is the primary residence exclusion. Individuals can exclude up to $250,000 of gain ($500,000 for married couples) when selling their home, as long as it was their primary residence for two of the last five years and have not taken this exclusion on another home in the last two years.

However, once the home is transferred to an irrevocable trust, you give up ownership and control. For tax purposes, the IRS generally does not view you as the “owner.” That means you may no longer qualify for the $250,000/$500,000 exclusion if the home is sold during your lifetime.

3. Homestead Exemption and Property Tax Deduction 

One other thing to think about is the potential loss of any homestead exemption or benefit received from an owner-occupied property when thinking about property taxes on the primary residence.  However, a well-crafted Irrevocable Trust should include language to guard against the loss of the homestead exemption and property tax deduction.

Conclusion: Is It Worth Putting a House in an Irrevocable Trust?

Placing a house in an irrevocable trust, particularly for purposes like Medicaid planning, can be a great way to protect assets and ensure they are distributed according to your wishes. However, it’s important to be aware of the trade-offs in terms of taxes.

Careful planning and understanding the tax and legal implications of irrevocable trusts are crucial to making the right choice for your specific situation.

^{This material is presented solely for information purposes and has been gathered from sources believed to be reliable, however, Landing Point cannot guarantee the accuracy or completeness of such information, and certain information presented here may have been condensed or summarized from its original source. Nothing in this presentation is intended to serve as personalized investment, tax, or insurance advice, as such advice depends on your individual facts and circumstances.  Advisory services are only offered to clients or prospective clients where Landing Point and its representatives are properly licensed or exempt from licensure. No advice may be rendered by Landing Point unless a client service agreement is in place}