15 Jul Should my son inherit or be gifted this home?

Q. I am a resident of Pennsylvania and I own one-third of a home in New Jersey. I want my share to go to my son. Should I make the transfer now or do it as part of my will? What will be better to minimize taxes? My share is worth less than $600,000.
— Planning

A. We’re glad to see you’re trying to plan ahead.

Both Pennsylvania and New Jersey have no state gift tax.

At the federal level, there is an annual federal gift tax exclusion of $15,000 in 2020, said Melissa Raimundo, a certified financial planner with Beacon Trust in Morristown.

“Any gifts beyond that would require you to file a Gift Tax Return — Form 709,” she said. “The portion of the gift above $15,000 would be netted from your total lifetime gift and estate tax exemption amount which is $11.58 million for 2020 — $23.16 million for a married couple.”

So, she said, as long as you do not intend to make gifts in excess of that amount, and your estate is not greater than that amount, no gift tax would be incurred.

Note that the federal gift and estate tax exemption amount is subject to change and it is set to sunset in 2025 back to its prior level of $5 million per person. This may impact whether or not a federal estate tax would be levied, depending on your estate size and date of death, Raimundo said.

Although it seems compelling that there would be no tax implication to making this gift in your lifetime, an important tax consideration to be made is the cost basis of the real estate.

“When you make a gift during lifetime, the purchaser’s cost basis carries over to the recipient of the gift,” she said. “Thus, your son would inherit the property with the cost basis equal to whatever you paid for your share of the property.”

If the property has had significant appreciation since you purchased it, or if you expect that it would have significant appreciation through the time at which you think your son will sell, you may inadvertently be subjecting him to a large capital gain tax, she said.

“While New Jersey and Pennsylvania have a reciprocal income tax agreement which exempts income tax of an individual who is a resident of either state but employed in the other to only be taxed in the state of residence, that agreement does not extend to income outside of compensation,” Raimundo said. “Thus, gains on a real estate sale would be taxed in both states.”

She said both New Jersey and Pennsylvania have inheritance taxes. Pennsylvania’s inheritance tax of 4.5% for lineal heirs, however, does not apply to assets outside of the state, she said, so your New Jersey real estate would not be subject to the Pennsylvania inheritance tax.

New Jersey also has an inheritance tax that would be levied on beneficiaries of a certain class.

“In your case, because you want your share of the property to go to your son, and he is considered a ‘Class A’ beneficiary, the property would also not be subject to a New Jersey Inheritance tax.

Further, she said, when a property is bequeathed via a will, it is included in the decedent’s estate so the the inheritor would get a step-up in cost basis to the fair market value on either the date of death or six months from the date of death.

That means it may be more advantageous from a tax perspective to make the transfer as part of your will, she said.

But it’s important to note that important decisions like this often involve other considerations outside of the tax implications, which can be equally significant depending on your goals, Raimundo said.

“You may, for example, feel strongly about being able to see your son get the enjoyment out of his share of the property whether financially, or through the potential use of the property,” she said. “Another factor that may play a part is whether your son would be in a financial position to cover ongoing expenses of the property such as taxes, insurance, general maintenance etc.”

It would make sense to meet with a qualified financial professional who can advise you based on your entire financial picture before you make this decision.

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This story was originally published on July 15, 2020.

NJMoneyHelp.com presents certain general financial planning principles and advice, but should never be viewed as a substitute for obtaining advice from a personal professional advisor who understands your unique individual circumstances.