Executors usually liquidate all of the decedent’s property and distribute cash to the beneficiaries. Occasionally, however, a beneficiary wants to receive the decedent’s real property in kind, as part of his share. The beneficiary may already live in the property, or may want to move there in the future. Another example is vacation property. What might seem like a simple transaction can become contentious and complicated. Selected issues and recommendations follow.
● Is the Residence Worth More than the Beneficiary’s Inheritance? The threshold focus should be a comparison of the value of the beneficiary’s share of the estate with the value of the residence. If the beneficiary’s share of the estate is greater, the transaction is easy. For example, if the beneficiary stands to inherit $400,000 and the residence is worth $300,000, the executor will simply deed the residence to the beneficiary (when the estate closes) and also provide him a $100,000 check. The more difficult transaction is when the value of the residence exceeds the value of the beneficiary’s share.
● What is the Value of the Residence? Value is negotiable. For example, is the hypothetical realtor commission subtracted? Also, even if the executor obtains an appraisal, the value may need to be reduced to reflect repairs that the appraisal assumes have been made.
● Pro Rates and Closing Costs. Should the executor adjust the price for property taxes? For example, if the property taxes are paid in November and the house is distributed in December, the beneficiary would realize a windfall (if not for prorates) of roughly half the property tax bill. The situation might be reversed if the house is conveyed in October. What about title insurance? An executor normally does not purchase title insurance on property distributed to beneficiaries. Does it make a difference that the property will be transferred to only one beneficiary who pays for it with part of his inheritance? Everything is negotiable.
● If Residence is Worth More than Inheritance. The more difficult scenario occurs when the beneficiary’s share of the estate is less than the value of the residence. It is generally not a problem if the beneficiary can readily write a check to the executor for the difference. Unfortunately, this is seldom the case. Instead, the beneficiary usually needs to borrow against the property. Under one approach, when the estate is ready to close, the executor might tender a deed to the escrow agent with instructions that authorize him to record the deed at such time as the lender has tendered a check in the required amount. The cash needed to equalize is a moving target, so it is better if the executors requests slightly more cash than needed. The executor can easily write the beneficiary a check if there is an overpayment, but it is much harder to extract additional cash from the beneficiary if his equalization payment is insufficient.
● Selling the Residence Before Estate Closes. In general, it is a “win-win” if the residence can be conveyed to the beneficiary as soon as possible after the decedent’s death. This will cut off the continuing cash drain to the estate for utilities, maintenance, taxes and insurance. It also avoids rent disputes if the beneficiary is currently living in the residence. If the residence is conveyed prior to closing the estate, the transaction is usually a sale, rather than a distribution in kind of the beneficiary’s share. Beneficiaries often view this as a purchase of an undivided interest in the residence equal to the percentage allocable to the other beneficiaries. It isn’t; instead, the beneficiary is purchasing 100% of the residence just as if it were sold to a third party. If the beneficiary’s share of the estate is expected to exceed the value of the residence, the price will be paid with a promissory note in the amount of the price. (The note will eventually be distributed to the beneficiary as part of the beneficiary’s share of the estate.) If the value of the residence exceeds the beneficiary’s share, a combination of cash and a promissory note will be necessary. The note should not exceed the beneficiary’s share of the estate. If it does, some of the note will pass to the beneficiary’s siblings, etc., and they will become his creditors. This all but guarantees friction. The better approach is to insist on third-party financing that completely disentangles the beneficiaries when the estate is closed.
In conclusion, an executor should carefully think through all of the details before selling or conveying the decedent’s residence to a beneficiary. Hasty decisions can lead to unnecessary grief.