A Qualifed Personal Residence Trust (QPRT) is an estate-planning tool. It's purpose is to reduce your assets below the estate tax limit, currently $5 Million for single individuals and $10 Million for marrieds. It also has some asset protection benefits, in that you no longer own the contents of the trust and it would probably be harder for your creditors to get to the asset. Certainly after the trust matures the house would be protected, although from YOUR creditors, not those of your heirs.
How a QPRT works
You form the trust, then transfer your home into it. Your home is assigned a reduced value based on IRS calculations. For example, if it were a $1 Million home, it might be valued at $600,000 based on interest rates and your life expectancy. You specify the term of the trust. The longer the term the lower the home's calculated gift value (which is what you want if you're forming one of these.) At the end of the term, the home passes from your control to that of your heirs as a gift. But it passes at the reduced value calculated when you put it in the trust, no matter what it is worth at the time the trust expires, or $600K in our example.
The main benefit is that you get to pass on a valuable asset at a much-reduced value, so it takes up less of your estate tax exemption. In this example, after 10 years your home might be worth $1.5 Million, but it only takes up $600K of your $5 Million exemption, possibly saving you up to $315K in estate taxes, maybe even more if there is a state estate tax. If you'd like to get into the nuts and bolts of how much you could save, take a look at this link.
Of course, several things can go wrong. First, if you die before the trust matures, it is as though it was never formed, so you get no benefit, but you're still out the attorney fees. Second, when the trust does mature, the house belongs to your heirs, not the trust, and thus you no longer control it. They could make you move out. At the very least, you have to pay fair market rent to them. That's not necessarily a bad thing, as it further reduces your estate, which was the point of the whole trust anyway. Third, the trust is irrevocable. Although you can sell and replace the house while the trust is in effect, you basically can't take the money out of the trust. Fourth, you lose the step-up in basis at death, so it is possible that you could be trading estate taxes for your heir's capital gains income taxes. Last, the IRS rules can always change. For example, a lot of people that made one of these when the estate tax exemption was $1 Million might not need it with a $5 Million exemption.
I've mentioned before that most docs won't need any estate planning (at least to avoid estate taxes) at all under current law. With a $10 Million exemption for married couples (likely to increase with inflation) and given current physician salaries, most of us just won't owe any “death taxes.” But for those who do, consider using a QPRT to reduce that tax bite.