I often hear from clients and potential clients that they want to add a relative’s name to a piece of real estate as “joint tenants” in order to avoid probate. Although this is probably the cheapest estate planning tool you can do in the short term, it is the least favorable for most circumstances for several reasons. This article highlights the disadvantages of using joint tenancy as an estate planning tool.
What is Joint Tenancy?
Under joint tenancy, each co-owner of real estate owns an undivided equal interest in the real estate. Upon the death of one joint tenant, the deceased joint tenant’s interest passes on to the other surviving joint tenants. This is accomplished after a joint tenant’s death by recording an Affidavit of Death of Joint Tenant in order to remove the deceased joint tenant’s name from the real estate.
For several reasons, joint tenancy is not the best method to pass on property after your death.
Loss of Control and Creditor Protection
First and foremost, you lose control of the real estate because you will now own the property with co-owners.If a co-owner wants to sell, he can force the sale through a partition action. Relationships can change over years that could alter the relationship co-owners have with the real estate owned together.
Further, if the co-owner has judgments against him, a creditor can put a lien on the real estate. This can be extremely disadvantageous because even if you do not have judgments or liens, a creditor can attach a lien to the property because of a co-owner’s debt and potentially force a sale.
A great estate planning tool is to take advantage of the “step up in basis” of real estate when it is within a trust or passed through probate. Generally, if real estate is inherited, the heirs receive a “step up in basis” meaning that their basis for the asset is the value of the property upon the death of the previous owner. For example, John purchases an apartment building in 1980 for $100,000. It is currently worth $1,000,000. If he sells it today, he will pay capital gains taxes on $900,000 (this is oversimplifying it because you also have to take into account depreciation). However, if he dies and his children inherit it and then sell it, they do not pay any capital gains taxes because the children’s basis is $1,000,000.
However, if you own real estate in joint tenancy, the surviving joint tenant assumes the deceased joint tenant’s basis. So in the example above if John owned the apartment building with his children as joint tenants and John’s children decide to sell upon his death, they would be liable for capital gains taxes on the $900,000 gain.
There is an also an issue of gift taxes when you “give” an asset away during your lifetime.
What to do instead?
By drafting a revocable living trust, there is still a way to avoid probate without adding co-owners to any real estate you own. If you are interested in learning more, please contact Attorney Anthony Marinaccio at (818) 839-5220 for more information.