What is a Will Substitute for Pennsylvania Realty Transfer Tax Purposes? The Pennsylvania Supreme Court Provides Some Guidance in Miller v. Commonwealth

January 23, 2014Articles

A recent decision by the Pennsylvania Supreme Court highlights the need for estate planners to consider issues that go beyond estate and gift tax planning when developing and implementing a client’s estate plan. In Miller v. Commonwealth, 43 MAP 2011 (2013), the Pennsylvania Supreme Court ruled that an irrevocable trust was not a “will substitute” for purposes of meeting the “living trust” exclusion from the Pennsylvania Realty Transfer Tax. Pennsylvania’s Realty Transfer Tax is typically imposed at a rate of 2% of the value of the real estate transferred.

The “living trust” exclusion from the transfer tax provides an exemption for a transfer to “any trust, other than a business trust, intended as a will substitute by the settlor which becomes effective during the lifetime of the settlor, but from which trust distributions cannot be made to any beneficiaries other than the settlor prior to the death of the settlor.”

In Miller v. Commonwealth, Mrs. Miller created a trust to hold legal title to Mrs. Miller’s house and farm until the death of her husband. She intended for the trust to be a will substitute.

The Court made clear that the intent to create a will substitute must be reflected in the written terms of the trust, and not on Mrs. Miller’s subjective intent. The Court reasoned that Mrs. Miller’s trust was not a will substitute because (1) the trust terminates and the principal was to be distributed at Mrs. Miller’s husband’s death, not at Mrs. Miller’s death, and (2) Mrs. Miller did not retain legal title to the property or the ability to change the trust terms or revoke the trust entirely, all of which left Mrs. Miller without the substantial lifetime rights of dominion and control over, and possession of, the property. The Court also said that the trust did not meet the “living trust” definition because trust principal would be distributed to Mrs. Miller’s daughter, if Mr. Miller died before Mrs. Miller.

We don’t know whether Mrs. Miller was aware of the risk that the transfer of her home and farm into trust would result in a $4,300 Realty Transfer Tax bill. We also don’t know if the transfer triggered a “due on sale” clause in a mortgage, or whether the trustees, as the new owners, are insured under homeowners, liability and title insurance policies. This ruling reminds us that there is more to think about than estate and gift taxes when real estate forms part of an estate plan.