Houses and Spouses: Part I
Spouses typically own their primary residence either as joint tenants or as tenants by the entirety. However, estate planners often encourage couples to consider other ownership forms because joint ownership may not always be the best option for estate tax purposes. There are several ways that spouses may hold title to real estate. In this Part I, we begin with an exploration of the forms of joint ownership for a married couple. This information is specific to Massachusetts. We are happy to advise you on the best choice for your situation.
Joint Tenancy. If two people own real estate in a joint tenancy, then if one owner dies the surviving owner succeeds to ownership of the property by operation of law, avoiding probate. Because survivorship happens as a matter of law, no bequest by will can affect title except in the case of the surviving joint owner. A deed creating a joint tenancy says: “A and B, as joint tenants” (with or without the words “with right of survivorship”). In Massachusetts, a sale or transfer of a joint interest during life “breaks” the joint tenancy and turns it into a “tenancy in common” between owners.
Tenancy by the Entirety. Only spouses may own real estate as tenants by the entirety, which is a stronger form of joint ownership that is permitted in Massachusetts and about half the other states. A deed creating a tenancy by the entirety says: “A and B, as tenants by the entirety.” Unlike a joint tenancy, one spouse cannot unilaterally break a tenancy by the entirety by sale or transfer, and while both spouses are alive they must join together to convey the property. As with joint tenancy, upon the death of the first spouse, the surviving spouse succeeds to ownership by operation of law. Divorce breaks a tenancy by the entirety and creates a tenancy in common.
These two forms of joint ownership may serve a married couple well if there is no estate tax issue or if there are adequate assets owned by each spouse to take advantage of each person’s federal and state estate tax exemptions. Joint tenancy and tenancy by the entirety ownerships are simple, familiar and inexpensive to implement – just use the correct language in the deed.
Homestead Exemption. A homestead exemption is a kind of protection of an owner’s principal residence from creditors. Couples owning as joint tenants or as tenants by the entirety are entitled to a total homestead exemption of up to $500,000 ($500,000 each, or a total of $1 million, if both are age 62 or older or if disabled and both file). With respect to a home owned as joint tenants or tenants by the entirety, the homestead exemption remains whole and unallocated between the owners. Homestead protection for the surviving spouse generally continues on the death of a spouse. However, if the homestead exemption was filed only by a spouse who filed under the elderly or disabled exemption provision, that exemption is personal to the qualifying spouse and will terminate at death. If only one spouse qualifies for an elderly or disabled homestead protection, it is advisable for each spouse to file a homestead declaration to maximize the protection. Homestead exemptions are normally created by filing a declaration of homestead, but there is an automatic homestead exemption of $125,000 for which no declaration of homestead is required.
What happens at the death of one spouse? When one spouse dies, even though the ownership of the whole jointly owned property automatically transfers to the surviving spouse, federal and state estate tax laws treat one-half of the property as owned by the deceased spouse. That half gets a “step up” in tax basis to the fair market value of that half on the death of the first spouse to die, which may benefit the surviving spouse if that spouse sells the house. If the surviving spouse dies owning the house, then at his or her death, the beneficiaries who inherit the house enjoy a step-up in basis of the entire value of the property and on a sale would incur a gain or loss based on fair market value on the death of survivor.
Joint Ownership and Estate Planning. Sometimes joint ownership is not efficient for estate tax planning purposes. In Massachusetts, each spouse can pass, state estate-tax free, up to $1 million in assets to anyone, and each spouse can pass, state estate-tax deferred, an unlimited amount to his or her spouse. Jointly owned property cannot be used to take advantage of any of the $1 million exclusion of the first spouse, and the entire value of the property is included in the taxable estate of the surviving spouse. Using other forms of ownership, it is possible to remove half or all of the value of a residence presently owned jointly from the taxable estate of surviving spouse. We will discuss that in a subsequent article.
Mortgages and joint ownership. It sometimes comes as an unpleasant surprise that one spouse can secure a promissory note by a mortgage on jointly-owned real estate without the knowledge or consent of the other spouse. The signatory spouse is liable for the debt, but the entire property serves as collateral for the note. If a property is owned in a joint tenancy, then on the death of the signatory spouse the mortgage remains in effect. If the property is owned in a tenancy by the entirety and the signatory spouse dies first, then on the death of the signatory spouse the mortgage is no longer effective; but if the non-signatory spouse dies first, the note continues to be secured by the mortgage.
In the next issue: Houses and Spouses Part II – tenancy in common ownership and ownership of the primary residence by the trust of one spouse.