Establishing Co-Ownership Among Your Vacation Property Heirs

When you are establishing co-ownership of a vacation property among multiple heirs, it’s important to approach your estate plan with your eyes wide open to certain inevitable challenges. Initially, it is not uncommon to have more questions than answers. If a substantial repair, such as a new roof or HVAC system, is needed down the road, will each of your heirs be able to financially support an equal share of the cost? If one of your heirs lives farther away from the property, should they have the same level of financial commitment to maintaining the property if they are less likely to reap the benefits? If ownership is not equal, will family tensions arise? What happens if one heir rents out the property to a third party? If an heir wants out, can they sell their share, and under what terms? What happens to an heir’s share of the property when they pass away? 

Many of the answers lie in the applicable federal and state gift and estate tax and real estate laws. Because your estate plan for your vacation property ultimately has to comply with those laws, it is important to understand how they affect your plans. To address the issues that may not be covered by state law and avoid unintended tax consequences, it is also essential to understand all of your options for titling the property, including tenancy ownership, entity ownership, and the benefits and limitations of operating agreements. 

While real estate laws are determined at the individual state level, most states generally offer three main options for establishing co-ownership of your vacation property: joint tenancy, tenancy in common, and tenancy in entirety. All three of these options are available under Massachusetts law. 

Joint Tenancy & Tenancy in Entirety

In a joint tenancy, all of your heirs would share common ownership of the whole property, and your heirs would receive their ownership shares at the same point in time by the same deed. In most states, each joint tenant must own an equal share of the property.

When an owner passes away, the surviving owner or owners automatically receive the deceased owner’s share of the property while avoiding the probate process. To remove the deceased owner from the deed, the surviving owner(s) must file an Affidavit of Survivorship.

In a joint tenancy, one of the joint tenants can terminate the arrangement by selling or transferring their share to another person. In this case, the ownership changes to a tenancy in common. Additionally, most states permit a joint tenant to terminate a joint tenancy without the approval of the other tenant(s). 

A tenancy in entirety is similar to a joint tenancy; however, this option is only available to married couples, and individual ownership cannot be transferred freely.

Tenancy in Common 

In a tenancy in common, each co-owner has ownership interest in the entire property; however, the shares do not have to be equal. In this case, one of your heirs could own 60% of the property, while the other owns 40%. A tenancy in common can be created at different points in time by different deeds, which means an initial owner may sell a portion of their shares to another person who then becomes a tenant in common with all original owners. 

When a tenant in common passes away, the property share they owned will become the property of the deceased tenant’s estate, so the property does pass through probate in this scenario. In this case, the owner of the deceased tenant’s share is determined by the deceased tenant’s will. If the individual did not have a will, the ownership is determined by the applicable state’s laws of intestacy.

Ownership Agreements

Ownership agreements are contracts that allow co-owners to, among other things, come to a legal agreement on who can use the property and when, whether to waive their right of partition, and how to handle majority or full consent related to the transfer or mortgage of a co-owner’s property share. An ownership agreement can also be used to set the parameters for legal decisions, insurance coverage, cost distribution, and the management of improvements and repairs. 

In order to be binding, an ownership agreement must be signed by all co-owners. When a co-owner dies, and their share of the property is passed on to the next heir or heirs, the new heir(s) are not bound by the ownership agreement.

Entity Ownership

Entity ownership through a partnership, LLC, or a trust can present its own share of unique challenges. For example, in a general partnership, all partners take on unlimited liability, which could affect their personal assets if legal issues related to the property or renters arise. In a limited partnership, a general partner must be designated, and in doing so, that individual takes on all full legal liability for the property. In an LLC, all members share limited liability. Because the oversight of assets held in a trust is the responsibility of the trustee, the decision-making process is not legally shared among co-owners.

Still, depending on your circumstances, it may be beneficial to set up ownership of the property through an entity. This option can be helpful, particularly for a vacation home located in a different state than your primary residence. If you still own the property at the time of your death and it is in a different state than your primary residence, your heirs may be required to go through a second probate proceeding in the ancillary state. However, your heirs can avoid the potential hassle and costs if ownership of the property is held in a trust or by an LLC. 

In Massachusetts, inter-vivos, or living or nominee trusts, are commonly used in co-ownership. These trusts allow for property titles to be passed to successor trustees or the beneficiaries and help the owners avoid the probate process in the event of a co-owner’s death. 

Gifting Property & Other Tax Considerations

As you assess your options, there are a few tax considerations of note, including ensuring the proportionate ownership interests of the co-owners will reflect the portion of the consideration each provided to avoid potential gift tax issues. You may also want to consider whether each co-owner has sufficient other property to take advantage of their remaining federal or state estate tax exemption amounts.

If you gift the property, once your vacation property belongs to your heirs, their tax cost basis for the property will be the same as your basis, plus the amount of any gift tax paid. If you still own the property at the time of your death, current tax law dictates the basis will be stepped up to fair market value.

Some properties may be eligible for ownership transfer through a qualified personal residence trust (QPRT). In this case, you may retain the right to use the home for a specified term until you pass it on to your children. However, the rules related to QPRTs, including eligibility, taxable gift value, and other tax-related requirements, are significantly more complex. 

Contact Livingston & Haynes

The team at L&H helps individuals create comprehensive estate plans to ensure their assets are protected now and for their legacy. I work with clients to develop strategies that account for the tax and compliance-related complexities, including those involved in establishing co-ownership of a vacation property among multiple heirs. Contact me today to learn more. 

by Steven J. Haynes, MBA

Steven Haynes, MBA, is an administrative partner at Livingston & Haynes. Steve’s firm, Emerging Business Partners (EBPI), became an affiliate of L&H in 2007. Steve specializes in individual tax planning and compliance services and bookkeeping, payroll, and business advisory services, including tax, M&A, and funding and equity transactions, for privately-held businesses and technology, entrepreneurial, and emerging growth firms.