A qualified personal residence trust lets you continue to live in your home but transfer it to your children now so you will save estate taxes when you die.
When you set up a qualified personal residence trust, you transfer your home or vacation home to an irrevocable trust. For a specified period of time (often 10 to 15 years), you retain the right to use and live in the residence. After that time, the residence transfers to your beneficiaries (usually your children).
In effect, you are giving your home to your children today. But because your children will not receive it until sometime in the future, the value of this gift is discounted (reduced). This uses less of your federal gift and estate tax exemptions than if you had kept the home (and any future appreciation) in your estate.
If you die before the term of the trust is over, there is no penalty. Your home will just be included in your taxable estate, which is what would happen anyway without the trust. If you live longer than the duration of the trust and want to keep living there, you will have to pay rent (at fair market value).
And, of course, the house will not receive a stepped-up basis when you die. So you will want to see whether it's better for your beneficiaries to save the capital gains taxes or to save the estate taxes.
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