Life estates are popular devices for estate planning. A life estate grants a person the use of the property for the duration of her life and upon her death the property is promptly transferred to another beneficiary. This property interest can be created by a deed or will. The creation of this estate has tax implications for the creator of the estate, and possibly to the life tenant. The laws that define property rights, such as life estates, are the exclusive jurisdiction of the state where the property is located.
Drafting Life Estate by Deed
A deed normally contains a description of the property, the name of the transferring owner and the name of the new owner. To create a life estate, most states require that a certain phrase is included in the new owner section of the deed. That phrase is generally some version of "to A for life, to B for the remainder." A is the life tenant who controls the property for the rest of her life, and B gains exclusive ownership after A dies.
Recording Life Estate by Deed
For a life estate by deed to be valid, the deed generally must be signed by the original owner of the property and the persons receiving the property. The life tenant and the person receiving the property after the life tenant may both need to sign. The deed is also generally required to be notarized. The deed is normally required to be recorded in the county recorder office where the property is located. When drafting and recording the deed, consider hiring an attorney to ensure that all legal requirements are met.
Life Estate by Will
Another way for an individual to create a life estate is through a valid will. Most states do not require specific language in a will to create a life estate. If the will clearly states that the property goes to one beneficiary for the rest of her life and then the property is transferred to another when the first beneficiary dies, the will creates a life estate. To ensure that this intent is clearly conveyed, consider using your state-approved language for conveying a life estate through a deed, or using the phrase "life estate" when discussing the property in question.
Read More: How Can the Executor of an Estate of a Life Tenant Allocate the Appreciation to the Beneficiaries?
Donor as Life Tenant
Often, a creator of a life estate will make himself life tenant. The donor may do this so he can use the property for the rest of his life, but then after his death the property can immediately be transferred to his beneficiaries without it having to go through probate. Because the donor is still alive, the life estate must be created by deed. When drafting the deed, the donor uses the state's chosen language to identify himself as the life tenant and his beneficiaries as the property owners after his death.
Tax Issues With Donor as Life Tenant
If the donor of property retains its use through a life estate, the entire value of the property is included in the creator’s estate for tax purposes. When the property is transferred, the beneficiary receives the property with a tax basis equal to the fair market value of the property as of the life estate creator’s death.
John Cromwell specializes in financial, legal and small business issues. Cromwell holds a bachelor's and master's degree in accounting, as well as a Juris Doctor. He is currently a co-founder of two businesses.