Commercial Property and Ladybird Deeds Uncapping the Taxable Value and What You Need to Know for Estate Planning
When it comes to estate planning, particularly in Michigan, understanding the ins and outs of property transfers, Ladybird deeds, and how they affect property taxes is crucial. If you own commercial property and are considering the use of a Ladybird deed to transfer it to your heirs, this guide will walk you through the key considerations, including the implications for uncapping the taxable value of the property.
What is a Ladybird Deed?
A Ladybird deed—also known as an enhanced life estate deed—is a legal tool that allows property owners to retain control over their property during their lifetime while ensuring a smooth transfer to a designated beneficiary upon death, without the need for probate. This estate planning tool is often favored for residential properties due to its simplicity, cost-effectiveness, and the fact that it helps avoid probate.
With a Ladybird deed, the property owner retains the right to:
- Sell or mortgage the property
- Make changes to the property
- Revoke or change the beneficiary designation
Upon the property owner’s death, the property automatically transfers to the beneficiary without the need for probate, streamlining the estate administration process.
How Does a Ladybird Deed Impact Estate Planning?
For many individuals, avoiding probate is a key goal in estate planning. Probate can be a lengthy, expensive, and public process, so tools like Ladybird deeds are particularly useful when it comes to transferring residential property to family members. By using a Ladybird deed, you can ensure that your property passes seamlessly to your heirs, avoiding probate entirely.
Additionally, a Ladybird deed allows property owners to maintain control of their property throughout their lifetime, which can be especially important if their financial or personal circumstances change. The ability to revoke or alter the deed gives flexibility to the owner without locking them into a decision prematurely.
The Uncapping Issue: Taxable Value in Michigan
Michigan law plays a major role when it comes to property taxes and estate planning, particularly with regard to uncapping the taxable value of real estate upon transfer.
Under Michigan’s General Property Tax Act (GPTA), specifically MCL 211.27a, the taxable value of a property is capped and only increases annually by the rate of inflation or 5%, whichever is lower. This cap is designed to prevent significant property tax hikes even if the property’s market value increases substantially.
However, when there is a “transfer of ownership”, the property’s taxable value is “uncapped” and reset to the current state equalized value (SEV), which is typically much higher than the capped value. This can result in a large increase in property taxes for the new owner.
What Triggers Uncapping of Taxable Value?
A transfer of ownership generally triggers the uncapping of taxable value, meaning the new owner will pay taxes based on the property’s current market value rather than the previously capped taxable value. Some common examples of transfers that trigger uncapping include:
- Sale of the property to a new owner
- Transfer of property to heirs upon the death of the owner
- Certain trust distributions
However, MCL 211.27a includes several exemptions that prevent uncapping in specific circumstances. For example, transfers between spouses or between parents and children for residential property may avoid uncapping, provided certain conditions are met.
The 2014 Amendment and Family Exemptions
In 2014, Michigan passed Public Act 310, which amended MCL 211.27a to provide an exemption from uncapping for certain family-to-family transfers. This amendment allows residential property to pass between parents and children without triggering uncapping, provided the property remains a principal residence.
However, these exemptions do not apply to commercial property. As a result, commercial properties transferred via a Ladybird deed (or any other means) will trigger the uncapping of taxable value, causing the new owner to face significantly higher property taxes based on the property’s current SEV.
The Problem with Ladybird Deeds for Commercial Property
While Ladybird deeds are an excellent tool for avoiding probate and maintaining control over residential property, they may not be suitable for commercial property—especially when it comes to property taxes.
For commercial property, there are no exemptions from uncapping under MCL 211.27a. This means that even if a commercial property is transferred via a Ladybird deed, the taxable value will be uncapped upon the death of the original owner. The new owner will then be required to pay property taxes based on the SEV, which could be significantly higher than the prior capped value, depending on how much the property has appreciated over time.
Case Study: Father and Son’s Commercial Property Transfer
To illustrate this issue, let’s consider an example involving a fictional client, Father, and his son, Son.
Father owns a commercial property in Michigan and wants to ensure that it passes smoothly to Son upon his death. In reviewing his estate planning options, Father initially considered using a Ladybird deed to transfer the property to Son. His primary goal was to avoid probate and ensure that Son would inherit the property without the delays and costs typically associated with the probate process.
However, after careful analysis of Michigan’s property tax laws, it became clear that using a Ladybird deed for commercial property presents a major issue: uncapping of taxable value.
Because Father’s property is commercial and not residential, the transfer to Son via a Ladybird deed would result in the uncapping of the property’s taxable value under MCL 211.27a. As a result, the taxable value of the property would reset to its current SEV, potentially increasing the property taxes dramatically. This increase could represent a financial burden for Son, especially if the commercial property has appreciated significantly over the years.
Why the Law Matters: Legal Citations and Analysis
The legal framework governing this situation comes from Michigan’s General Property Tax Act and the Michigan State Tax Commission’s (STC) guidance on taxable value.
- MCL 211.27a(3): States that the property’s taxable value will be uncapped upon a “transfer of ownership.”
- MCL 211.27a(6): Defines “transfer of ownership” and includes a detailed list of exemptions, most of which apply only to residential property.
- Public Act 310 (2014): Introduced an exemption for family transfers of residential property, allowing parents to transfer their principal residence to their children without uncapping the taxable value. This does not apply to commercial property.
Relevant Case Law: Klooster v. City of Charlevoix
The Klooster v. City of Charlevoix, 488 Mich. 289 (2011), ruling by the Michigan Supreme Court emphasized the importance of interpreting exemptions to uncapping narrowly. In this case, the court ruled that property transfers must fit squarely within the defined exemptions under MCL 211.27a to avoid uncapping.
This case is instructive in understanding the limitations of Ladybird deeds for commercial properties. Since the statute’s exemptions focus primarily on residential property, commercial properties transferred via Ladybird deeds do not qualify for protection from uncapping.
Better Alternatives for Commercial Property in Estate Planning
Given the issues surrounding Ladybird deeds and the uncapping of taxable value for commercial property, what alternatives exist for property owners?
- Living Trusts: One alternative is to keep the commercial property in a living trust. Unlike a Ladybird deed, transferring property through a living trust may not trigger the same uncapping concerns if the trust is structured properly. A living trust also allows for greater control over how the property is managed and transferred upon the owner’s death, while avoiding probate.
- LLC or Business Entity Transfers: Another option is to transfer the commercial property into a limited liability company (LLC) or other business entity. This can provide additional layers of asset protection, limit personal liability, and help facilitate the smooth transfer of the business and its assets to heirs. However, the property’s taxable value may still be subject to uncapping, so it’s important to consult with an experienced estate planning attorney to ensure the transfer is structured effectively.
- Outright Transfer During Lifetime: In some cases, property owners may opt to transfer commercial property to their heirs during their lifetime, rather than waiting for the property to pass upon their death. By making an outright transfer now, the heirs can begin managing the property immediately. However, this may result in immediate uncapping of the taxable value, so it’s critical to weigh the pros and cons carefully.
Commercial Property, Ladybird Deeds, and Tax Planning
Estate planning for commercial property owners involves a complex interplay of tax law, real estate law, and probate avoidance strategies. While Ladybird deeds are often an excellent tool for transferring residential property to heirs while avoiding probate, they are generally not appropriate for commercial property due to the risk of uncapping the taxable value and dramatically increasing property taxes.
In the case of Father and Son, using a Ladybird deed for commercial property would lead to unintended tax consequences. Instead, keeping the property in a living trust or exploring other transfer strategies may be more beneficial for both Father’s estate planning goals and Son’s future financial obligations.
If you own commercial property and are considering your estate planning options, consult with an experienced Michigan estate planning attorney to ensure you fully understand the implications of property transfers, uncapping rules, and the most effective ways to pass on your assets while minimizing tax burdens.
Get Expert Help with Estate Planning for Commercial Property
At Sumner & Associates, P.C., we specialize in helping clients navigate complex estate planning issues, including the risks of uncapping taxable value on commercial property. Our team can help you choose the best tools to protect your property, minimize tax liabilities, and ensure a smooth transition to your heirs. If you’re a Michigan business owner concerned about how to pass your commercial property to the next generation, contact us today for a consultation. Let us help you protect your legacy while avoiding the pitfalls of rising property taxes.
