The QPRT, or Qualified Personal Residence Trust, is a legal tool which is designed to reduce estate or gift taxes on the transfer of a personal residence to family members. By transferring a personal residence into the trust, the owner may continue to use the residence while potentially reducing the tax burden on himself and his beneficiaries.
In any trust situation, the owner of assets will relinquish legal control of his property by transferring it into the trust. However, the QPRT is a very specific type of trust that only deals with a personal residence. The owner, who is the settlor of the trust, permanently transfers the residence into the QPRT. Once the transfer has taken place, the settlor holds a retained interest that allows him to live in the house for a set number of years. However, at the end of the allotted years, the house is legally transferred to the beneficiaries designated in the trust, who are usually family members. These people, known as remainder beneficiaries, hold a "remainder interest". At the moment of this transfer, the settlor has no more legal rights in the residence.
Purpose of QPRT
Historically, estate taxes on family residences were sometimes so high that family members were forced to sell the property. The QPRT is designed to allow people to transfer their personal residence to relatives without paying estate tax on the transfer. However, this benefit only applies if the settlor outlives the term of the trust. If the settlor dies before the legal end of the trust, then normal estate tax rates will apply to the transfer of the personal residence. But if the settlor survives beyond the term of the trust, then at the end of the trust the personal residence is treated as a gift to the remainder beneficiaries, with potentially significant tax benefits in calculating the value of the gift.
Gift Tax Considerations
When an owner transfers property via gift during her lifetime, she will generally face federal, state and sometimes local taxation on the transfer. The IRS allows lifetime exemptions to this taxation; in 2012, Internal Revenue Service rules provide for more than $5 million worth of assets to be transferred over the course of one's lifetime without being subject to estate or gift tax. (However, in 2013, the IRS exemption will reduce to $1 million.) Therefore, in any gift transaction, such as a QPRT, it's advantageous to reduce the legal value of the gift, in order to use as little as possible of this exemption.
In a typical gift transaction, the value of the gift for tax purposes is calculated at the time the gift is made. However, the QPRT calculates value by taking the fair market value of the personal residence at the time of transfer into the trust, then subtracting the value of the settlor's retained interest. Valuation of the retained interest is complex, dependent on the term of the trust and interest rates, among other things. However, in a typical QPRT, the longer the settlor holds his retained interest, the less the final value of the residence for gift tax purposes.