Options for the Family Cabin Hand-off to the Next Generation

The hand-off of the family cabin or vacation home to the next generation is fraught with emotional, legal and financial considerations at any time, but particularly when the goal is to keep the cabin or vacation home in the family.

There are several options in Minnesota for executing the hand-off – each with its own pros and cons.

Perhaps the best option for the long run is to transfer the cabin to a limited liability company (LLC) because it provides a ready mechanism for spelling out in a written document how the cabin will be shared and used by family members, and how ownership of the cabin will be allowed to change in the future.

The LLC option and some of the other methods for transferring the cabin from parents to their children are outlined below. For purposes of this blog, it is assumed that the cabin is jointly held by the parents.

Option 1: Wait Until Death. Parents could decide to do nothing during their lifetimes and let their estates deal with the transfer. This is the easiest option for the parents, and parents have complete control of the cabin during their lifetimes.

The children inherit the cabin at the value of the cabin on the date of death of the second-to-die parent. This is known as a “step-up in basis”. If the cabin is later sold, this value is used as the children’s cost basis in calculating capital gains tax on any gain from the sale.

Option 2: Gift the Cabin to the Children. With a gift, the children acquire their parents’ “carryover” basis for purposes of calculating any capital gains tax owed. “Carryover” means that the children’s basis would be the same as what the parents paid to purchase the property, which could be a much lower price than what the property would sell for today. Stated another way, for assets that have appreciated in value, capital gains taxes are higher with a “carryover” basis than with a “step-up in basis” because the gap between the sale price and the “cost” is larger. Of course, the “carryover” tax basis isn’t an issue if the children don’t sell the cabin in their lifetimes.

Gifting the cabin gets the asset off the parents’ book when calculating the value of the parents’ estate for estate tax purposes. And, if the transfer occurs at least 60 months prior to a claim for Medical Assistance by the parents, the asset will not be subject to a Medical Assistance lien from the State of Minnesota. (Minnesota’s Medicaid program is called Medical Assistance. Medical Assistance provides long-term care in nursing facilities, home and community settings for certain persons with insufficient financial resources.)

Of course, a disadvantage of gifting the cabin to your children is that creditors and/or divorcing spouses of your children may make claims on the cabin.

Option 3: Sell the Cabin to the Children. On the plus side, a sale yields the parents cash from an illiquid asset, and the children get a “step-up in basis” to the price they paid for the cabin. The parents may have capital gains taxes to pay, however, if the cabin appreciated in value from the time they purchased it or inherited it.  Moreover, this option may not work well if the children have unequal financial resources for purchasing the cabin.

Option 4: Transfer the Cabin to a Trust.  The trust could be a Revocable Living Trust or a Qualified Personal Residence Trust (QPRT), an irrevocable trust. QPRT’s work best when the real estate involved is rapidly appreciating. Because that isn’t the case with cabins these days, we’ll skip discussion of the QPRT in this blog.

The parents, as trustees, retain complete control during their lifetime, and their hand-picked successor trustee is in charge upon the parents’ incapacity or death. On the downside, the value of the cabin is included in the parent’s estate for calculating the size of the parent’s estate for estate tax purposes, and a trust is not the best method for managing property or resolving disputes.

Option 5:  Transfer the Cabin to an LLC. A key benefit of an LLC is that the LLC owners, called members, can use a Member Control Agreement to spell out how the LLC will operate. For example, how will family members decide who has dibs on the cabin for any particular period, and how will repairs and maintenance be handled and paid for? The Member Control Agreement can also specify what happens when a family member no longer wants to share in the ownership of the cabin. It can also address potential unintended transfers that may be triggered, for example, due to the divorce or bankruptcy of one of the children.

An LLC also offers better liability protection than a trust. Liability protection is important due to the potential of personal injuries from chainsaw, swimming, boating and snowmobiling accidents.

Consult an attorney for a more thorough discussion of these options, including other pros and cons, and a review of which options may work best for your situation and goals.

©2012, 2013 Wittenburg Law Office, PLLC. All rights reserved.

Disclaimer: This Blog is for informational purposes only and is not to be construed as legal advice. If you have questions, please seek the advice of an attorney. An attorney-client relationship is not formed by reading this Blog. If you are interested in Wittenburg Law’s representation of you, you must contact Wittenburg Law for a determination of whether your matter is one for which Wittenburg Law is willing and able to accept representation of you.  

 Bonnie Wittenburg, Wittenburg Law Office PLLC, 601 Carlson Parkway, Minnetonka, MN 55305   952-649-9771  bonnie@bwittenburglaw.com   www.bwittenburglaw.com