How a QPRT Works to Reduce Estate and Gift Taxes

A qualified personal residence trust, or QPRT, is an irrevocable trust that lets you transfer your home to your heirs at a fraction of its gift tax cost by splitting ownership in two: your right to live in the home for a set number of years, and your beneficiaries’ right to receive it afterward. Only that future right, called the remainder interest, counts as a taxable gift, and because your beneficiaries have to wait, its present value is far below the home’s actual worth. The federal estate tax applies a top rate of 40% to estates above the basic exclusion amount, which is $15 million per person in 2026.¹² For someone whose estate is approaching or exceeding that threshold, a QPRT can move a high-value, appreciating asset out of the taxable estate while using up only a small slice of the lifetime exemption.

How the Trust Is Set Up

You create the QPRT by transferring your home’s deed into an irrevocable trust and naming remainder beneficiaries, usually children or grandchildren. The trust document gives you the right to live in the home rent-free for a specific number of years. Once that term expires, the home belongs to your beneficiaries outright.

The property has to qualify as a personal residence under the Treasury regulations, meaning either your principal home or one other residence you use personally. Adjacent land reasonably appropriate for residential use and structures like a detached garage count; personal property like furniture does not.³ You can hold up to two QPRTs at the same time, one for a primary home and one for a secondary residence. Spouses who both own interests in the same home can transfer them to a single QPRT if the document prohibits anyone other than those two spouses from holding a term interest at the same time.

The trust generally cannot hold assets other than the residence and insurance on it. It may accept limited cash for property taxes, mortgage payments, and improvements, but only enough to cover expenses expected in the next six months. Cash for buying a replacement home is allowed only if the trustee has already signed a purchase contract.⁴

Two more requirements are easy to miss. The trust must prohibit commutation, meaning you cannot buy out your retained interest early and collapse the trust ahead of schedule.³ And the trust document has to spell out what happens if the home stops qualifying as a personal residence, for instance if you sell it and don’t replace it. Skipping either provision can disqualify the trust, which means the IRS treats the transfer as a gift of the home’s full market value rather than the discounted remainder.

How the Discounted Gift Is Calculated

The tax benefit of a QPRT comes from the fact that you are not making a gift of the full home value. Under the special valuation rules of Section 2702, the IRS reduces the home’s fair market value by the actuarial worth of your right to live there during the retained term.⁵ What’s left, the remainder, is the taxable gift. Three variables drive the number:

The fair market value of the home, typically set by an independent appraisal at the transfer date.
The length of the retained term. A longer term produces a bigger discount because beneficiaries wait longer.
The Section 7520 rate, a discount rate the IRS publishes monthly and calculates as 120% of the federal midterm rate, rounded to the nearest two-tenths of a percent. For January 2026, that rate is 4.6%.⁶

A higher Section 7520 rate works in your favor. The rate acts as an assumed rate of return on the trust property for the entire term, so when the assumed return is higher, more value gets assigned to your retained right to use the home and the remainder shrinks. Planners watch the monthly rate and try to fund the trust when it is relatively high.

Because the remainder interest is a future interest, the annual gift tax exclusion does not shield any part of the transfer.⁷ The discounted value instead consumes part of your $15 million lifetime gift and estate tax exemption. That is the point: you use a smaller slice of the exemption to move a much larger asset out of your estate. The transfer gets reported on IRS Form 709 for the year of the gift, even when the exemption covers the full amount and no tax is owed.⁸

Any appreciation after the transfer date passes to your beneficiaries free of estate and gift tax. A home worth $4 million today that grows to $8 million over a 15-year term adds nothing to your taxable estate. Your exemption was consumed only by the discounted remainder valued at the time of the original gift.

Living in the Home During the Term

For income tax purposes, a QPRT is treated as a grantor trust during the retained term. The IRS disregards the trust as a separate taxpayer, and all income, deductions, and credits flow onto your personal Form 1040.⁹ The trust itself generally does not file a separate income tax return.

You continue to pay property taxes, insurance, and routine upkeep. Those payments are not treated as additional gifts to the beneficiaries. They are the cost of using the home you still have the right to occupy. Property taxes and mortgage interest remain deductible on your personal return, subject to the usual limits on state and local tax deductions and mortgage interest.

What Happens When the Term Ends

When the retained term expires, the home has to leave the trust. The trustee executes a new deed transferring legal ownership to the remainder beneficiaries, and from that point you no longer own or control the property.

If you want to keep living there, you need a written lease at fair market rent. This part matters: the IRS will pull the full home value back into your taxable estate if you stay without paying market rent. The rent should be set by an independent appraisal, and the lease has to look and function like an arm’s-length transaction, because a sweetheart deal between parent and child gets treated exactly as it sounds.

The leaseback has a secondary benefit. Every rent check reduces your taxable estate further while putting cash in your beneficiaries’ hands. They report the rental income on their own returns, but for families trying to shift wealth across generations, that ongoing cash transfer is part of the design.

The Risk of Dying During the Term

The biggest risk is dying before the retained term expires. If that happens, the tax benefit disappears. The home’s full fair market value snaps back into your gross estate as though the QPRT never existed.¹⁰ Section 2036 drives the result: because you kept the right to use and enjoy the home during the term, the IRS treats the property as still belonging to you at death.

The value included is the home’s fair market value on the date of death, though your executor can elect the alternate valuation date six months later if it would reduce total estate value.¹¹

There is a partial silver lining. The original discounted gift reported on Form 709 is not taxed a second time; it gets removed from adjusted taxable gifts so the estate tax calculation doesn’t double-count it. And because the home is included in your gross estate, your heirs receive a stepped-up income tax basis equal to fair market value at death.¹² That step-up wipes out built-in capital gain, so if they sell, they owe little or no capital gains tax on the appreciation during your lifetime.

The Carryover Basis Trade-Off When It Works

When the QPRT works exactly as planned and you outlive the term, there is a tax cost that catches many families off guard. Because the transfer is a completed gift, your beneficiaries inherit your original cost basis rather than a stepped-up basis. They get carryover basis: whatever you paid for the property plus the cost of improvements you made over the years.

That matters when the home is eventually sold. If you bought for $400,000, added $100,000 in renovations, and the home is worth $4 million when your beneficiaries sell, they face capital gains tax on $3.5 million of gain. At federal capital gains rates of up to 20%, plus the 3.8% net investment income tax, the bill can easily exceed $800,000.

Whether the QPRT still makes sense depends on weighing that capital gains exposure against the estate tax savings. For a home that has appreciated sharply and would otherwise face a 40% estate tax rate, the estate tax savings usually dwarf the capital gains cost. For a home with modest appreciation or an estate that would only just exceed the exemption, the carryover basis penalty can eat into the benefit meaningfully. Run the numbers before funding the trust.

Choosing the Term Length

The retained term is the single most consequential decision in the entire setup, because it drives both the tax discount and the survival risk. A longer term produces a larger discount, since beneficiaries wait longer and the present value of their future ownership shrinks. But a longer term also means more years you need to survive for the plan to work. Die one day before the term ends and the full home value comes back into your estate.

There is no universally correct answer, but the practical range for most grantors falls between 10 and 20 years. Someone in their mid-50s in good health might choose a 15-year term to maximize the discount. Someone in their late 60s or with health concerns might opt for 8 to 10 years, accepting a smaller discount for a higher probability of outliving the term.

Actuarial tables guide this but don’t dictate it. A grantor with a terminal illness or very advanced age faces two problems at once: the actuarial discount shrinks because the IRS tables assume less expected occupancy, and the risk of estate inclusion becomes prohibitively high. At some point the numbers stop working. The right time to consider a QPRT is when you’re healthy enough that a meaningful term is realistic, the home has strong appreciation potential, and your estate is large enough that the 40% tax rate represents real money.¹

Special Situations: Mortgages and Mid-Term Sales

A mortgage does not disqualify the residence.³ But debt creates gift tax complications. When you transfer encumbered property, the outstanding balance is treated as consideration you received in return, which reduces the value of the initial gift to net equity rather than gross value. The wrinkle is what comes next: if you continue making mortgage payments on behalf of the trust, which is typical since you’re still living there, each payment is treated as an additional transfer to the trust. Those payments get discounted for the retained interest just like the original gift, but they still consume exemption. Most estate planners recommend paying off the mortgage before funding the QPRT, or at minimum understanding the cumulative gift tax impact of ongoing payments over a long term.

You can also sell the home during the term, but the rules are strict. After a sale, the trust may hold the cash proceeds for up to two years while the trustee reinvests in a replacement residence of equal or greater value. If no replacement is bought, the trust has 30 days to either distribute the cash to you or convert the remainder into a grantor retained annuity trust that pays you an annuity for the rest of the original QPRT term. The trust document has to permit the trust to hold sale proceeds and address these contingencies from the start; otherwise the QPRT status can be lost the moment the sale closes.

1
Office of the Law Revision Counsel. 26 USC 2001 – Imposition and Rate of Tax
2
Office of the Law Revision Counsel. 26 USC 2010 – Unified Credit Against Estate Tax
3
eCFR. 26 CFR 25.2702-5 – Personal Residence Trusts
4
Internal Revenue Service. Revenue Procedure 2003-42 – Qualified Personal Residence Trust
5
Office of the Law Revision Counsel. 26 USC 2702 – Special Valuation Rules in Case of Transfers of Interests in Trusts
6
Internal Revenue Service. Section 7520 Interest Rates
7
Office of the Law Revision Counsel. 26 USC 2503 – Taxable Gifts
8
Internal Revenue Service. About Form 709, United States Gift (and Generation-Skipping Transfer) Tax Return
9
Internal Revenue Service. Abusive Trust Tax Evasion Schemes – Questions and Answers
10
Office of the Law Revision Counsel. 26 USC 2036 – Transfers With Retained Life Estate
11
Office of the Law Revision Counsel. 26 USC 2032 – Alternate Valuation
12
Office of the Law Revision Counsel. 26 USC 1014 – Basis of Property Acquired From a Decedent