A life estate is a planning tool that is widely used to avoid probate, or help ensure your desired distribution of your real estate after death. However, it also features several significant drawbacks that must be carefully considered.
How Do Life Estates Work?
Basically, a life estate is a binding legal arrangement in which the owner of a property (the grantor) gives the property to another person but retains the right to live in and use that property for the rest of his or her life.
Benefits of a Life Estate
The life tenant retains most of the benefits of home ownership, such as:
- The right to live in the home until death;
- Maintaining a $250,000 capital gains exclusion provided you resided in the home two (2) of the last five (5) years;
- The right to keep a portion of the sale proceeds of the house if it is later sold;
- The right to rental income;
- Retaining STAR exclusions and veterans’ exemption for real estate tax.
Drawbacks to Life Estates
- Restricts the ability to finance the property;
- Subject to attachment of donee for their creditors, divorces, death or bankruptcy;
- Donee cannot be changed later;
- All parties must agree to sell the property;
- Must wait five (5) years from the date of transfer to protect from the costs of a nursing home;
- Loss of $250,000 exclusion for capital gains for any owner not residing there;
- Entire value of the home will be includible in the life tenant’s taxable estate for estate tax purposes.
In short, life estates have their advantages and disadvantages, but there are more favorable estate planning methods available, such as a trust that does not have any of the above noted caveats.