As a CPA working with a lot of estate planning attorneys, I get pulled into conversations about the tax consequences of putting real estate into a revocable living trust. Clients typically arrive with a pile of misinformation from the internet and a lot of anxiety. The reality is much simpler than most people fear — but there are a few details worth knowing.
The Overarching Principle: The Trust Is Transparent
For income tax purposes, the IRS treats a revocable living trust as a “grantor trust.” That means the trust is essentially invisible to the tax system during the grantor’s lifetime. The grantor reports all income and claims all deductions on their personal tax return, exactly as if they owned the assets individually.
No separate tax return for the trust. No separate EIN needed. No change to how income flows to your 1040. From the IRS’s perspective, nothing has changed at all.
Mortgage Interest Deduction
The mortgage interest deduction remains intact when a home is held in a revocable trust. You continue to report the interest on Schedule A (if you itemize) exactly as you did before. The 1098 from your lender should still come in your name or can be re-addressed to list the trust as the owner without changing anything on your return.
One practical note: if you put an existing property into a trust, you may not receive a 1098 for the trust’s EIN (if you elect to have one) — the IRS generally doesn’t require this. The mortgage holder can continue to report under the grantor’s Social Security number.
Property Tax and Homestead Exemption
This is where state-by-state variation creeps in. In Michigan, transferring a primary residence into a revocable living trust does not trigger a property tax uncapping under Proposal A, as long as the grantor retains beneficial ownership. The homestead (Principal Residence Exemption) stays in place. The taxable value remains capped.
Other states have different rules. In California, for example, a transfer into a revocable trust is generally exempt from Proposition 13 reassessment — but specific variations can trigger reassessment in edge cases. Before making the transfer, confirm the state-specific rules with a local CPA or real estate attorney.
Capital Gains: The Big Win at Death
This is where the trust structure really shines from a tax perspective — though the benefit is identical to individual ownership, so credit is due to the underlying estate tax rules, not the trust specifically.
When you pass away, assets you own (or are treated as owning, which includes assets in a revocable trust) receive a step-up in basis to the fair market value on the date of death. If you bought your home for $80,000 in 1985 and it’s worth $400,000 when you die, your heirs inherit it with a $400,000 basis. If they sell immediately, their capital gain is roughly zero.
This is a massive tax benefit, and it works identically whether the home was held in your individual name or your revocable trust. The trust doesn’t change the basis step-up — but it also doesn’t mess it up, which is what matters.
Sale of a Primary Residence Exclusion
Section 121 of the Internal Revenue Code allows single homeowners to exclude up to $250,000 of capital gain on the sale of a primary residence ($500,000 for married couples filing jointly). This exclusion continues to apply when the home is held in a revocable living trust — the IRS treats the grantor as the owner for this purpose.
The two-out-of-five-years ownership and use test is satisfied as long as the grantor lived in the property and owned it (directly or through the trust) for the requisite period.
Rental Properties and the Trust
For rental properties held in a revocable trust, income and expenses continue to flow through to the grantor’s personal return on Schedule E. Depreciation continues to be calculated on the original basis (or the adjusted basis). Nothing about the rental property’s tax treatment changes.
One note: if the property is later transferred out of the trust (for example, distributed to a beneficiary upon the grantor’s death), the beneficiary takes the stepped-up basis for future depreciation calculations. This is generally a positive, as it resets the depreciation schedule with a higher basis.
Transfer Tax and Recording Fees
Most states exempt transfers between an individual and their own revocable trust from real estate transfer tax. Michigan is among them — the transfer of property from an individual to their own revocable trust is exempt from transfer tax under Michigan law. Recording fees still apply (typically $30-$100 for filing the deed with the county register of deeds), but the transfer tax is avoided.
What Changes at Death
At death, the trust typically becomes irrevocable. At that point, if there’s still income being generated (say, continued rental income or investments), the trust requires its own tax return (Form 1041). Distributions to beneficiaries may carry out income on Schedule K-1.
This is where the tax complexity genuinely increases, and successor trustees should work with a CPA familiar with fiduciary tax returns. The lifetime simplicity gives way to more complex administration after the grantor’s death.
The Bottom Line on Taxes
For a client wondering about tax implications before putting their home into a revocable trust, I give the honest answer: almost nothing changes during your lifetime, and the transfer itself is typically tax-free. The question of who owns the property in a revocable trust has almost no tax consequence during your life because the IRS treats you and the trust as the same taxpayer. The real tax considerations arise at death, and they’re generally favorable for your heirs.
If you’re weighing the pros and cons of a revocable trust, tax consequences probably shouldn’t be a major factor either way. Focus on the probate avoidance and incapacity planning benefits — those are where the real value lies.