Sale of condo after death with life estate

[Margaret CPA in OH]

Client was gifted mother's condo in 2017 with a life estate provision.  Mother died in the fall, condo was sold in March.

I have the mother's 2008 original purchase price/basis and mother did file a gift tax return at the time of gift with that value (not market value).

This is the first I've had.  Was it correct to have the original basis of the condo on the gift? I think that's my only question.  I'm not sure whether client or mother paid taxes, etc. in the interim but they would not have been deductible anyway.  So it was a second home for client and no rent was charged.  Basic sale with LT cap gains?

[mcbreck]

I'm confused. If ownership changed via a gift made to the daughter, why should the IRS care that the previous owner died?

[Margaret CPA in OH]

IRS cares not a whit.  My question relates to the client selling this condo that was gifted to her by now dead mother.  I'm asking about the basis in order to determine gain on sale.  That's all.  If the gift tax return should have had FMV, it would make a difference.  If original basis to mother is correct, I've got it.  Just asking for reassurance.

 

[Abby Normal]

12 minutes ago, mcbreck said:

I'm confused. If ownership changed via a gift made to the daughter, why should the IRS care that the previous owner died?

Because a life estate changes the gift into an incomplete gift.

https://www.stoufferlegal.com/blog/navigating-life-estate-remainderman-tax

But the death of the "previous owner" essentially wipes out the life estate and the beneficiaries get a full step up in basis. Basis is more complicated if the house is sold before the life estate owner dies.

[Abby Normal]

5 minutes ago, Margaret CPA in OH said:

IRS cares not a whit.  My question relates to the client selling this condo that was gifted to her by now dead mother.  I'm asking about the basis in order to determine gain on sale.  That's all.  If the gift tax return should have had FMV, it would make a difference.  If original basis to mother is correct, I've got it.  Just asking for reassurance.

 

It's my understanding that basis gets full step up in value as if the life estate never existed.

[Margaret CPA in OH]

Thanks, AbbyNormal!  I did not expect that.  Even though the client/daughter owns it now?  Research ahead!

[mcb39]

In the case of a Life Estate, the basis is stepped up to the value on date of death.  Besides which, being an inheritance as well as a (gift), there are no tax repercussions unless there was a profit on value on date of death.  The gift tax return was unnecessary at the time that the Life Estate was drawn up.  In the  case of a Life Estate, the property is not (gifted) until the date of death.

[Margaret CPA in OH]

Thank you, Marilyn!  As I wrote, this is my first, so unsure of how to handle.  Client will be so happy!  I have no idea why there was a gift tax return, not my client at the time or maybe I would have known all this already.  I will double check on documentation showing life estate rather than just letting mother live there.  Client told me 'life estate,' but I want to see it.

I will still do research but have great guidance now.

 

[mcb39]

19 minutes ago, Margaret CPA in OH said:

Thank you, Marilyn!  As I wrote, this is my first, so unsure of how to handle.  Client will be so happy!  I have no idea why there was a gift tax return, not my client at the time or maybe I would have known all this already.  I will double check on documentation showing life estate rather than just letting mother live there.  Client told me 'life estate,' but I want to see it.

I will still do research but have great guidance now.

 

If it truly became a Life Estate, it should be so noted and recorded on the deed.  In a Life Estate, the mother would retain a remainder ownership until she passed.  She would also be responsible for all expenses and taxes until she died.  The gift tax return woud have been moot.   I just had my first gift tax return this year.  Seems we are never too old to learn something.  I don't believe that Life Estates are any longer a legal option unless drafted before 2017.  Then, it would be Grandfathered in.  (This may only be true in WI.  I have no further knowledge pertaining to other states.)

[BulldogTom]

And I learned something new today.   Thanks for the education.

Tom
Longview, TX

[Margaret CPA in OH]

Thanks again.  I'm now wondering if this was something thought to be a solution outside of actual legal guidance. It seems to me that the gift tax returning, gifting the condo to the daughter, was a way to 'transfer' ownership without specifying a life estate, that it was de facto.  I've asked the questions. 

The closing document shows daughter's name only as seller.  I wonder what the deed shows.

[mcb39]

2 hours ago, Margaret CPA in OH said:

 

The closing document shows daughter's name only as seller.  I wonder what the deed shows.

That could be correct, because in a Life Estate, the mother would no longer have  a remainder interest.

[Margaret CPA in OH]

After a bit more research, I found this on Cornell Law website:

life estate

A life estate is an interest in property that lasts only for the life of a specific person, usually the possessor of the estate. The owner of a life estate cannot leave the property to anyone in their will as their interest in the property will terminate at their death. The holder has full rights to possess and use the property, and may also transfer their interest during their lifetime. 

If the measuring life for the life estate is someone other than the possessor, the estate is considered a life estate pur autre vie.

A life estate is created by a deed that gives the property to the person "for life" and identifies what should happen to it after that person dies. For example, a deed stating that land would go "to John Doe for life, then to Jane Doe" gives John a valid life estate, and Jane a remainder. John could use the land during his lifetime, and even sell his interest to a third party, but that third party would have to surrender the property to Jane upon John's death.  

So I'm wondering now and again about the deed.  I'm reading this as though the mother (the possessor orignally) transferred the interest during her lifetime (gifted to daughter).  But then it seems that the deed must state that the property is given to the person (mother) "for life."  The client has not yet responded. I hope they used an estate or real estate attorney. 

 

[Sara EA]

The remainder interest is subject to gift tax and Form 709 should be filed.  This from the instructions:  "The value of all annuities, life estates, terms for years, remainders, or reversions is generally the present value on the date of the gift."  Since this is a gift of a future interest, there is no annual exclusion.

[Abby Normal]

https://www.law.cornell.edu/uscode/text/26/2036

The value of the gross estate shall include the value of all property to the extent of any interest therein of which the decedent has at any time made a transfer (except in case of a bona fide sale for an adequate and full consideration in money or money’s worth), by trust or otherwise, under which he has retained for his life or for any period not ascertainable without reference to his death or for any period which does not in fact end before his death.

Sounds to me like as long as they had the right to possess the house until they died, it is included in their estate and the kids get a step up in value. In other words, a de facto life estate should work.

In instances where the owner of the property has deeded the property to others but did not retain a life estate in the deed, but nevertheless continued to live in the property as a life tenant, see IRC § 2036 which uses the word “retained” not “reserved”. It has been successfully argued in the past that a right can be retained without being reserved, and that the continued occupancy of the home after the transfer of title, without paying fair market rent, is evidence of an implicit agreement, understanding or assumption of the parties of the transaction. Estate of Linderme v. Commissioner, 52 T.C. 305 (1969)
 

[Margaret CPA in OH]

You are amazing!  I still have not heard back from the client but will be sure to ascertain that the understanding followed this expectation - as I think it did.  I just want to be sure.

Thanks to all who chimed in!  Always more to learn.