Planning to pass a cottage to the next generation is complicated. Sometimes it’s tempting to take the easy path and just leave it to them to deal with. Until a recent law was passed, the next generation didn’t have many viable options other than to work through their differences, or if they couldn’t, to sell the cottage.
However, a new law that went into effect on April 2, called the Uniform Partition of Heirs Property Act (the “Act”), changes that. It allows a co-owner of a cottage or other inherited property to have a court facilitate a sale of that co-owner’s interest or the cottage overall. This right to partition did exist in Michigan prior to the new Act, but it didn’t typically result in a fair market value sale, so it was undesirable.
On the surface, the Act seems like a welcome change to families inheriting a cottage. But it could have an unintended effect. One family member who inherits an ownership interest in the cottage may decide he’s more interested in his share of the proceeds from a sale rather than retaining the cottage in the family. That family member could use the Act to force a sale of his interest and put the other family members in a position to have to buy him out. Cottages in Michigan have grown significantly in value over many decades, and having to buy out one or more family members may be financially feasible. If the other family members aren’t able to do so, the Act requires the court to put the cottage on the market and allow it to be sold to a third party.
These are some planning considerations to keep in mind with the impact of the Act and to properly plan to pass the cottage onto the next generation:
1. Avoid naming children as the beneficiaries on a Ladybird Deed. Ladybird Deeds have become a very common option for owning a home or cottage. In a Ladybird Deed, a person or couple who owns the real estate names a beneficiary to receive it upon their passing. That beneficiary can be a person or a group of people. Creating a Ladybird Deed for a cottage is very simple, avoiding probate and having it go directly to the children. However, a Ladybird Deed that names the children as the beneficiary will be subject to the rights of the Act and put the cottage at risk of one of the children forcing a later buy-out and/or sale. For this reason, naming children as the beneficiaries on a Ladybird Deed for a cottage may not allow it to remain in the family.
2. Avoid having your trust distribute the cottage outright to the children. It’s very common for a trust to distribute assets outright to beneficiaries. This is especially the case when children are adults and no longer need their inheritance to be held back and managed by a trustee until a certain age. A cottage can also be distributed outright to the children so that they personally co-own it. However, structuring a trust this way will subject the cottage to the Act. As a result, the children will co-own the cottage and it would be at risk of one of them forcing a buy-out or sale. As a result, having a trust distribute the cottage outright to the children isn’t an effective succession plan.
3. Include a Cottage Trust in a living trust. A living trust is a very effective way to avoid having property go through probate. Also, the provisions of the trust that deal with the distribution of assets can be drafted in a number of different ways. For example, a trust can include another trust (i.e. a subtrust) for the cottage. This Cottage Trust allows the cottage to be owned by the trust as opposed to the children or family members. It spells out how the cottage will be used, who manages it, how expenses to operate and maintain the cottage will be paid, and a variety of other issues. Importantly, the Act doesn’t apply to a Cottage Trust, so it removes the risk of a court forcing a buy-out or sale of the cottage. For this reason, a Cottage Trust is a beneficial planning option for passing along a cottage.
If you have any questions about this Act or planning to pass a cottage to the next generation, feel free to contact me at phmulder@cunninghamdalman.com.
