Q: I inherited land upon my father’s death. His wish was for the property to remain in the family for my children. To avoid the hassle of probate upon my death, I formed a limited liability company (LLC) with myself and all of my children as members. Are there any tax implications I should be aware of?
A: Before we get into the tax implications, I’m not sure if using an LLC was the best option. You were trying to avoid probate and ensure that your assets would pass from you to your children after your death.
An LLC is a corporate organization. You and your child can become members of that LLC. However, there are some caveats to choosing this structure. First, is your child a minor? If so, who will represent their interests in the LLC and make decisions after your death? Work to transfer your LLC membership to your children in the event of your death. Have you documented it?
LLCs cannot automatically answer these questions. We encourage you to carefully address these questions with your attorney. Otherwise, your child may need probate to transfer her LLC membership. We want our LLC operating agreement to provide a structure that allows assets to be transferred from each member to another upon the death of one of the members. This document will require a specific mechanism to allow the transfer of membership rights without going through probate.
Dear reader, another reason to think twice before putting your property into an LLC just to avoid probate is that creating an LLC structure is expensive. You pay a fee to create an LLC and pay an annual fee to the state in which the LLC is formed. You must file an annual tax return for your LLC, and you may have to pay an accountant to file the return.
Frankly, we think a living trust would have been the cheaper option. A living trust gives you full control of your estate during your lifetime, with control and ownership automatically transferred upon your death.
This is a great continuation to the topic of taxes. We don’t know how you set up the structure. As such, we can only speculate about some of the potential problems you may face now and in the future by holding real estate in an LLC.
It is true that when your father passed away, you inherited his property in stages. This means that the land will be valued at its current market value at the time of his death. If you keep the property in your name, your children will inherit the land at the market value of the land at the time of your death. The graduated basis allows heirs to acquire the land at an increased value and avoid paying taxes if they sell the land immediately after the new generation inherits the property.
Here’s how it plays out. Let’s say the land was worth his $1,000 when your father bought it. When your father died, the land was worth $100,000. If he turns around and sells the land immediately after he dies, he won’t have to pay taxes on that sale. For Internal Revenue Service (IRS) purposes, you inherited his $100,000 piece of land and sold it for $100,000. Therefore, there was no profit and no taxes had to be paid.
The same will be true in the future, assuming tax laws remain unchanged. If the land was worth $500,000 to him at the time of your death, and you sell it immediately after your death, your children can sell the land and pay no taxes on that sale.
However, if your children are given title to the land immediately after their father dies, your children will not receive the full stepped-up basis upon your death.
For example, let’s say you have three children and four of them are equal owners in the LLC. Each person will own her 25% of the LLC. If the estate is worth $100,000, you each have a basis of $25,000, and when you die, your children will inherit your girlfriend’s 25% interest.
If you sell the land immediately after your death, your three children may not have to pay tax on your 25% interest. However, given that her cost basis is $25,000, she must pay tax on the gain from the sale of the land. So if the land was worth $500,000 when you died and your children sold it, each child would pay a lot of tax on their share in the LLC, but you There will probably be no tax on the 25% stake that everyone would have to pay. What I inherited from you.
This example has been greatly simplified. There are also other tax issues associated with LLC ownership that require a longer explanation. These issues include whether your children are minors, what other assets they all own, who pays for the costs of owning the land, including real estate taxes, insurance, and maintenance, and whether you This may vary depending on whether you receive income from the land. property.
For these and other reasons, you should consult a real estate attorney, tax professional, or someone else who can work with you to find the right solution for your situation.
(Iliese Grink is the author of “.100 Questions Every First-Time Home Buyer Should Ask (4th Edition). She is also the CEO of best money move, a financial wellness technology company. Samuel J. Tamkin is a Chicago-based real estate attorney. Contact Ilyce and Sam through their website. ThinkGlink.com. )
©2023 Ilyce R. Glink and Samuel J. Tamkin. Distributed by Tribune Content Agency, LLC.