How to Reduce Taxation If I Sell My Real Estate
Stock prices may be down, but real estate is proving more resilient. Many owners of real estate are considering selling for all manner of reasons. Some are looking at the economic headwinds and wondering if the market has peaked, at least for the foreseeable future. Whether the real estate was purchased a long time ago or fairly recently, the value of your property is likely significantly higher than when you purchased it. That warm feeling often proves fleeting, however, as the conversation inevitably pivots away from examining the large increase in value towards the enormous tax bill that would accompany any sale of the property. “Is there anything we can do?”, said every property owner.
As a matter of fact there is. Using certain charitable trust structures, the property can be sold without paying tax on the gain. Charitable Remainder Trusts and Charitable Lead Trusts are the two most common structures used for this purpose.
Charitable Remainder Trusts (CRTs) are irrevocable trusts into which the owner transfers property. The property is then sold and replacement assets are purchased with the proceeds. The owner retains the right to receive income from the trust. Income can be paid to the owner, his or her spouse, children, or anyone else. At the end of the term specified in the trust, which may be the trust creator’s lifetime, for example, any assets remaining in the trust will go to whichever charity was chosen by the trust creator. No capital gain tax is paid when the property is sold within the CRT. In fact, the trust creator is able to claim a tax deduction that will allow you to reduce your adjusted gross income by up to 30%.
Charitable Lead Trusts (CLTs) work similarly, except that the owner contributes property to the trust and gives one or more charities (rather than the owner) an income interest in the trust for a period of time. At the end of the term specified in the trust, assets in the trust will transfer back to the non charitable beneficiaries (ie the owner or his or her family members). This structure is popular with those families who do not need to receive income from the trust assets, or who want to see the charitable benefits during their lifetime.
One of the concerns where a CRT is used is that charities will ultimately inherit the assets in the trust instead of children or other family members. Sometimes it is appropriate to address this concern with life insurance planning. Life insurance could be purchased to replace the assets that the children would otherwise have received. If the family could potentially be subject to estate tax, it is important to purchase the life insurance in the name of an irrevocable trust. This ensures that the life insurance proceeds will pass to heirs free of tax.
Which families are subject to estate tax? Currently an individual can leave behind $12 million (and a married couple $24 million) and the family will not have to pay any estate tax. If the assets left behind exceed those amounts, tax is payable on the surplus, currently at a rate of 40%. These thresholds are scheduled to be cut (approximately) in half at the beginning of 2026, bringing many more families into the estate tax net. This is relevant when considering whether to use the charitable trust structures outlined above. In addition to income tax benefits, transferring assets to charitable trusts can, depending on the structure used, also remove those assets and any appreciation thereon from being subject to estate tax.
If you are thinking of selling highly appreciated assets there is no one size fits all. Every situation is unique. However, there are certainly options that can be explored.