A close-up of the numbers behind the qualified personal residence trust

By Thomas J. Stemmy
Stemmy, Tidler and Morris, PA
Submitted by the MACPA Taxation and Planning for Estates, Gifts, and Trusts Committee

Notwithstanding the generosity of the '97 Tax Act (which serves to ensure a more tolerable exemption from the federal estate tax) many taxpayers remain more concerned than ever about the burdensome liability still facing their families. With general market conditions and inflationary trends on the horizon, they sense that, over time, their overall estate will continue to grow (and grow ...) well beyond the protective boundaries of the expanded unified credit. The tax professional senses the frustration and is often expected to provide a quick-fix solution. However, many feel that there is little left in the estate planner's bag of tricks that could make a real difference.

Enter the QPRT. Although the qualified personal residence trust is not for everyone, it has been observed as one of the most under-rated tax savers in the estate planner's arsenal today. The QPRT is an arrangement that allows an individual to transfer his or her primary (or secondary) residence to a trust and retain the right to live in the property for a stated number of years. At the end of that period, the property goes to the grantor's beneficiaries (usually his or her children who were expected to get the property in the first place). The end result? The donor usually winds up with an enormously leveraged discount on the gift value of the property transferred.

OBSERVATION: According to numerous cites in professional guidebooks and literature, QPRT discounts often reach as high as 50 percent or 60 percent (and beyond) — a handsome savings in estate taxes indeed. However, you should also be reminded that an even greater savings will often prevail because of future appreciation of the residential property transferred. And, with the QPRT vehicle, the donor does not have to make separate gifts of the future appreciation of the retained interests.

In earlier years, discounts like this were actually too good to be true because they usually involved transfers into trust by grantors who had "retained powers" in the property being transferred. However, as the estate planner is well aware, the stigma of retained powers does not apply when the property happens to be a personal residence. For this, the IRS provides its imprimatur in Regs. Sec. 25.2702-5(c). Here, the guesswork is eliminated and a definition is provided for QPRT purposes (a definition which, incidentally, also includes a second home of the taxpayer). The regulation also provides a succinct summary of the seven requirements that need to be covered when you set out to draw up the governing instrument for your plan. Arguably, the toughest hurdle seems to be in the underlying premise that the donor simply needs to live long enough to survive the term of the trust period. If he doesn't, the value of the residence will simply be included in the donor's estate — making him no worse for the wear.

So, you may ask, if the QPRT allows such a generous discount for a lifetime gift transfer and the playing rules are so clearly defined, why are they not used more frequently? The author cites the following common "excuses:"

too much cost to draft the trust documents;
the psychological barrier associated with physically transferring controlling ownership of a family owned residence to a trust; or
the client simply doesn't want to go through the trouble.

However, I submit that the real reason for not aggressively pursuing the QPRT alternative is even more fundamental: The practitioner may not have a firm handle on how the calculation is made in order to meet the definition set by IRS.

Most small practitioners (like me) do not make sophisticated calculations involving reversionary and remainder interests every day. And, only a scant few have the specialized software to present their client with a precise determination of gift value that involves retained interests. And so, if you are among the majority, you may just find that the manual approach (shown next page) will help you get a better grasp of the workings of the QPRT formula.

NOTE: It is not my intention to oversimplify the extensive rules on gift transfers into trust when a retained interest is involved. Instead, the purpose is to provide a rule-of-thumb insight into the application of two IRS Tables that hold the secret for calculating gift value in commonplace scenarios involving QPRT transfers.

First, a look at two underlying IRS tables

For QPRT purposes, you first need to observe the nexus between two specific IRS Tables if you want to know how to calculate the amount of the taxable gift. That is, assuming you don't want to rely blindly on a computer software package to do the work for you.

First, Table 90CM (see below): This is a mortality table based on the 1990 census. Table 90CM is provided in Reg 20.2031-7T(d) (7)and is reproduced in most major tax services.

Yaakov Ziskind, a prominent actuary based in New York City describes Table 90CM aptly as a configuration which takes a statistical look at the odds of a person surviving a given number of years. In the accompanying table, he points out, if you take 100,000 individuals, 71,357 will survive to age 70 (a 71.357% chance). And, 47,084 will make it to age 80 (or 47.084%) Thus, it might be said, if you are already at age 70, there is a 65.984% probability that you will live another 10 years (47,084/71,357).

Treasury Valuation Tables Appendix
TABLE 90CM.: Life Table Applicable after April 30, 1999
Age x	1(x)	Age x	1(x)	Age x	1(x)
(1)	(2)	(1)	(2)	(1)	(2)
0	100000	37	95969	74	62852
1	99064	38	95780	75	60449
2	98992	39	95581	76	57955
3	98944	40	95373	77	55373
4	98907	41	95156	78	52704
5	98877	42	94928	79	49943
6	98850	43	94687	80	47084
7	98826	44	94431	81	44129
8	98803	45	94154	82	41091
9	98783	46	93855	83	37994
10	98766	47	93528	84	34876
11	98750	48	93173	85	31770
12	98734	49	92787	86	28687
13	98713	50	92370	87	25638
14	98681	51	91918	88	22658
15	98635	52	91424	89	19783
16	98573	53	90885	90	17046
17	98497	54	90297	91	14466
18	98409	55	89658	92	12066
19	98314	56	88965	93	9884
20	98215	57	88214	94	7951
21	98113	58	87397	95	6282
22	98006	59	86506	96	4868
23	97896	60	85537	97	3694
24	97784	61	84490	98	2745
25	97671	62	83368	99	1999
26	97556	63	82169	100	1424
27	97441	64	80887	101	991
28	97322	65	79519	102	672
29	97199	66	78066	103	443
30	97070	67	76531	104	284
31	96934	68	74907	105	175
32	96791	69	73186	106	105
33	96642	70	71357	107	60
34	96485	71	69411	108	33
35	96322	72	67344	109	17
36	96150	73	65154	110	0

Second, Table B (see below): This old familiar table, found in the back of most accounting and financial textbooks, gives you the percentage representing the remainder interest of an investment. The remainder interest (which will ultimately wind up as the amount of the taxable gift amount) is nothing more than the value remaining after a donor has used the property himself for a given number of years. This projected value is, of course, predicated on a given interest rate which (for QPRT purposes) is the IRS Sec. 7520(a) rates. If you did the math in September 1999 — when the rate was 7.2 percent — you would have found that the remainder interest of an investment asset which would be retained for 10 years would only be worth 49.8944 percent of its current value.

TABLE B
Showing the present worth of an annuity, of an income interest, and of a remainder interest for a term certain
Interest rate
7.0%
(1)	(2)	(3)	(4)
Years	Annuity	Income Interest	Remainder
1	0.9346	.065421	.934579
2	1.808	.126561	.873439
3	2.6243	.183702	.816298
4	3.3872	.237105	.762895
5	4.1002	.287014	.712986
6	4.7665	.333658	.666342
7	5.3893	.37725	.62275
8	5.9713	.417991	.582009
9	6.5152	.456066	.543934
10	7.0236	.491651	.508349
11	7.4987	.524907	.475093
12	7.9427	.555988	.444012
13	8.3577	.585036	.414964
14	8.7455	.612183	.387817
15	9.1079	.637554	.362446
16	9.4466	.661265	.338735
17	9.7632	.683426	.316574
18	10.0591	.704136	.295864
19	10.3356	.723492	.276508
20	10.594	.741581	.258419

7.2%
(1)	(2)	(3)	(4)
Years	Annuity	Income Interest	Remainder
1	.9328	.067164	.932836
2	1.803	.129817	.870183
3	2.6148	.188262	.811738
4	3.372	.242782	.757218
5	4.0783	.29364	.70636
6	4.7373	.341082	.658918
7	5.3519	.385338	.614662
8	5.9253	.426621	.573379
9	6.4602	.465132	.534868
10	6.9591	.501056	.498944
11	7.4245	.534567	.465433
12	7.8587	.565827	.434173
13	8.2637	.594988	.405012
14	8.6415	.62219	.37781
15	8.994	.647566	.352434
16	9.3227	.671237	.328763
17	9.6294	.693318	.306682
18	9.9155	.713916	.286084
19	10.1824	.73313	.26687
20	10.4313	.751054	.248946

Putting it together

By combining the data secured from both tables, you can easily calculate the "present value of the remainder interest" This is the value that we will refer to as the taxable gift.

TO ILLUSTRATE: Reference is made to: (a) a 70-year-old donor; (b) a trust term period of 10 years (see example); (c) a vacation home worth $500,000 to be transferred to a QPRT trust. Before the donor goes ahead with the plan, he will ask, just how much value will the IRS recognize for gift tax purposes?

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