A hundred years ago, an immigrant couple built a beachside cottage and raised a large family there. The kids grew up and built their own cottages nearby, and the beach became a kind of communal area where family reunions would happen spontaneously. As the family expanded into a third generation, questions about ownership of these various cottages became complicated.
Soon enough, cousins began fighting with cousins over time-sharing and ownership, causing friction in this otherwise close-knit group. In one instance, three cousins inherited a cottage together. One wanted to buy the other two out, and while one cousin was happy to sell, the other refused. This type of struggle results in costly litigation, severs family ties and is tragic because it all can be avoided.
Disputes over ownership and use of a family cottage are among the most common problems that crop up when multiple people inherit property. Problems also arise when family members who use the cottage fail to share in the expense of maintaining it. Has your family struggled to handle an inherited vacation property equally and fairly? How do you protect a family cottage you'd like to leave to future generations and avoid family conflicts? For most families, the best way is to create an LLC or put the cottage in a trust.
What Happens When There's No Cottage Succession Plan?
If you pass away without a plan for your family vacation home, your heirs will inherit the property together, usually as tenants in common. While that may work well for the first generation, as in our example at the beginning of this article, you can have more than a dozen joint owners once a second or third generation inherits their parents' portion of the cottage. Problems arise when one family member wants to sell their portion or has a creditor who tries to force a sale. On top of this, there may be disputes over who uses the cottage, and when, and who is responsible for maintenance and taxes.
To avoid conflicts over ownership, expenses, and sharing, you should consider creating a cottage trust or an LLC for your family vacation home. An experienced Michigan trusts and estates attorney can guide you through your options and help develop the best plan to protect your family cottage for future generations.
Developing a Cottage Succession Plan
Even if you're convinced your family can cooperatively share a cottage for generations to come, there are other advantages to creating a cottage succession plan. You can save your family taxes over the long term, avoid a forced sale, prevent portions of the property interest from transferring out of the family, and protect the cottage from creditor claims.
- Property Tax Savings
Under Michigan law, transferring a family vacation home into a trust—often called a cottage trust—allows you to transfer the property to benefit your children or grandchildren without increasing its taxable value. The transfer of the cottage to the trust can happen during your lifetime or after your death, depending on your needs.
- Preventing a Forced Sale
If there are multiple joint owners of a family cottage, one owner can file a lawsuit to ask the court to partition the property. This suit can force the court to divide the property among all the owners or force the owners to sell the property and share the proceeds. But in Michigan, partition actions like these aren't available for properties owned by an LLC or a trust.
- Protection from Creditor Claims
Creditors can place liens on a jointly owned family cottage to secure the debts of one owner if the property is not protected by a trust or LLC. While those creditors can't collect from the other owners' share of the property, they can force a sale of the cottage to collect from the debtor's share of the property. A cottage succession plan that includes an LLC or places the property in a trust can prevent a situation where one heir's creditors force a sale of the cottage to pay off debts.
- Preventing Transfers of the Property
In some cases, any heir who jointly owns the family cottage can transfer their share of the property to anyone they choose—even someone outside the family. How the property is jointly owned can affect the other owners' rights. When property passes to two or more people who aren't married and there's no specific plan, the heirs typically own the property as “tenants in common.” For example, if three siblings inherit the family cottage as tenants in common and one dies, the other two won't automatically inherit the deceased sibling's share unless the sibling has arranged for this in their will. The sibling's spouse could inherit their share. If they remarry or will the property elsewhere, a portion of the family cottage could transfer outside of the family.
- Protecting Your Family from Future Conflicts
Over time, coordinating timeshares, paying expenses, and managing regular upkeep on an inherited property can become complicated and problematic. A cottage succession plan can help prevent conflicts in your family by providing a framework for making decisions, paying expenses, and divvying up time in the home.
A cottage succession plan can also require that your heirs or beneficiaries go through mediation or arbitration when disputes arise. This can prevent your heirs from jumping to litigation if cooperation breaks down over time.
- Avoiding Probate
Finally, creating a plan for your vacation home can help your estate avoid probate. Probate, a court-supervised process that settles your estate if you own assets in your own name exceeding $25,000 (in the year 2022), can be expensive and lengthy. Since probate is a public process, avoiding it can help keep the details of your estate private.
Cottage Succession Options
The two most popular options for cottage succession plans involve creating a limited liability company or a trust for the vacation home. Transferring ownership of the property to one of these legal entities can help your family avoid many of the problems associated with long-term tenancy-in-common arrangements.
- Limited Liability Co.
Creating a limited liability company (LLC) is a popular option in Michigan for preserving family vacation homes. Once you transfer ownership of the cottage to the LLC, there are simple record-keeping requirements, and the income and expenses from the LLC are passed through to the owners of the LLC, simplifying matters at tax time. An LLC can also prevent creditors from attaching the property and forcing a sale if one heir runs into financial difficulties.
An LLC can also allow family ownership of the cottage in perpetuity. Many trusts can only exist for 90 years under the “rule against perpetuities.” After that time, the trust dissolves, and the trustee distributes the assets according to the terms of the trust. While some trusts can exist in perpetuity, only an experienced trusts and estates attorney can advise you on whether this is an option for your family.
There are some disadvantages to an LLC as well. While an LLC can simplify many financial and record-keeping issues, an LLC won't prevent the uncapping of property taxes. This means that the property tax on the cottage will increase to the property's current value when it passes to the next generation, or the taxes are “uncapped.” The ability to prevent property tax increases with each successive generation can have a big financial impact over the years, keeping property taxes on the cottage manageable.
- Cottage Trusts
Another popular option for Michigan family cottages is the creation of a cottage trust. You can transfer ownership of the family cottage to the trust during your lifetime or upon your death. An attorney can tailor a trust to your needs, addressing:
- Beneficiaries and future beneficiaries;
- Payment of cottage expenses, utilities, repairs, taxes, and maintenance;
- Allocation of income;
- Scheduling and scheduling conflicts; and
- Designation of a trustee and successor trustees.
A Michigan Domestic Asset Protection Trust (DAPT) is one popular option for cottage trusts. A DAPT is an irrevocable trust, so it can't be changed or revoked. However, you can still benefit from the use of the trust during your lifetime and protect the cottage from possible creditors. This could be a good option if you or your family may face liability because of a risky profession, a contentious divorce, or financial difficulties. If you don't want to permanently give up control over the property, you can also consider a revocable trust.
One major advantage of a trust over an LLC for a family cottage is that transferring a cottage to a trust can prevent the uncapping of property taxes when you die. This means that the cottage can pass to the next generation without increasing its taxable value, adding up to significant savings over the years. The trust may not qualify for this tax exemption if you rent out the cottage for 15 or more days a year.
- Hybrid Cottage Trusts
In some cases, a hybrid cottage trust may be the right choice. This hybrid option allows you the benefits of a trust with the flexibility and simplicity of an LLC. You create a trust which can hold title to your cottage through many generations. However, when the trust creators die, the trustee sets up an LLC for the cottage, using it to schedule time, manage expenses, and manage income. As the creator of the trust, you will also create an LLC operating agreement that can include management instructions for the cottage. This LLC operating agreement becomes attached to the trust documents.
Hire an Experienced Trust & Estates Attorney
If you're concerned about protecting a family vacation home for generations to come, you need the guidance of a skilled trusts and estates attorney. The experienced attorneys at Great Lakes Family Probate & Estates PLLC can help. For years, we've been helping Michigan clients solve both complex estate planning issues with simple solutions. Give us a call at 888-554-5373 to schedule your consultation.