- Limited Applicability: A Transfer on Death (TOD) deed only applies to real estate. It cannot be used to transfer other types of assets like bank accounts or personal property.
- No Asset Protection: The property transferred through a TOD deed is still part of the decedent’s estate for purposes of creditor claims. If the decedent had debts, creditors can potentially place liens on the property, even after the transfer.
- Potential for Disputes: If the TOD deed is not properly executed, or if there are multiple beneficiaries with conflicting interests, it could lead to legal disputes among heirs. This can be particularly problematic if the deed’s language is ambiguous.
- Medicaid Recovery: If the property owner received Medi-Cal benefits, the state may seek reimbursement from the estate after the owner’s death. A TOD deed does not necessarily protect the property from Medi-Cal estate recovery. (Law changed recently so in California it generally does protect from estate recovery)
- Lack of Flexibility: Once a TOD deed is recorded, it can be difficult to change or revoke without a new deed. This might be cumbersome if circumstances change, such as a change in the intended beneficiary.
- Unclear Title Issues: If the TOD deed is not properly recorded or there are errors in the documentation, it can create problems with the title after the owner’s death, making it difficult for the beneficiary to sell or refinance the property.
- Incapacity Issues: If the property owner becomes incapacitated, they may be unable to change or revoke the TOD deed unless they have a durable power of attorney in place. This could limit flexibility in managing the property.
- No protection for minors : Minors cannot inherit so a TOD deed would result in minor children going to probate court.
- Limited Tax Planning Opportunities:
- Property Tax Implications: Using a TOD deed may limit advanced property tax planning strategies. For example, transferring property through a trust can help preserve property tax exemptions or exclusions, such as Proposition 13 benefits in California. A direct transfer via TOD deed might trigger a reassessment, leading to higher property taxes for the beneficiary.
- Income Tax Considerations: TOD deeds may not allow for sophisticated income tax planning. Establishing trusts can offer opportunities to manage income taxes more effectively, such as leveraging step-up in basis rules or distributing income in tax-advantaged ways. Without these strategies, beneficiaries might face higher income taxes upon sale or income generation from the property.
- Estate Tax Planning: For individuals with substantial estates, TOD deeds do not provide mechanisms to reduce estate taxes. Trusts and other estate planning tools can be structured to minimize estate tax liabilities, which is not possible with a simple TOD deed.
- Capital Gains Tax: While beneficiaries generally receive a step-up in basis to the property’s fair market value at the time of the owner’s death, certain advanced strategies available through trusts can further mitigate capital gains taxes if the property is sold. A TOD deed lacks these nuanced planning capabilities.
- Long-Term Cost Implications: Due to the inability to implement advanced tax strategies, beneficiaries may incur higher taxes over time, making the TOD deed a more expensive option in the long run compared to other estate planning methods like revocable living trusts.
Conclusion: While a TOD deed can be a straightforward and cost-effective tool for transferring real estate outside of probate, it has several limitations, particularly concerning advanced tax planning and long-term financial implications. It’s important to assess your individual circumstances and consider consulting with an estate planning attorney or tax professional to determine the most appropriate strategy for transferring your property and optimizing tax outcomes.
