June 29, 2023

Asset Protection for the Elderly

I.PROTECTING THE RESIDENCE

a. Life Estates

            An estate is used to express the nature, duration or extent of an interest in land. A life estate is an estate which is measured by the life of a specified person, by the joint lives of two or more specified persons, of by the last survivor of two or more specified persons.[1] A right to use and occupy is not a life estate.[2]

Advantages of a Life Estate:

1. Right to live in house.
2. Removes remainder interest in the house from Medicaid estate after five (5) years of transfer. 
3. Medicaid will only count the value of the remainder interest on transfer, which is a significantly lower value than if the whole were transferred. 
4. Original owner still maintains full control of property and its management also retains Veterans and STAR tax exemptions.
5. Full value is included in original owner’s estate for tax purposes, but remainderman still receive a full basis step up to fair market value upon death.[3]

Disadvantages of Life Estate:

1. Restricts ability to finance.
2. Subject to attachment of remainderman for creditors.
3. Remainderman’s interest passes by Will or intestacy.
4. Remainderman cannot be changed.
5. Must wait five (5) years from the date of transfer in order ensure that the entire interest is not available for Medicaid attachment.
6. Prior to the death of original owner all parties must agree to sell property.
7. If property is sold by merging the interests, the cash from the sale of the life estate portion is attachable by Medicaid and a capital gains tax could be incurred by remainderman.
8. Loss of $250,000 exclusion for capital gains for remainderman not residing there.
9. If grantor goes into a nursing home before the five-year waiting period is up and does not return home, Medicaid could deem the life estate void for purposes of the reduced waiting period.
10. If house is sold while receiving Medicaid, the actuarial value of the life estate will be an available resource based on the IRS tables and not 96 adm-8.

            A home subject to a mortgage may be transferred with reserved life estate without bank calling loan due.[4]

b. Gift Tax Consequences of Life Estates

If a donor transfers by gift less than his entire interest in property, the gift tax is applicable to the interest transferred and the gift is complete. The tax is applicable, for example, to the transfer of a life estate when the grantor retains the remainder interest.[5] If the grantor reserves a limited or special power of appointment as to the property, then the gift is incomplete to the extent of the ascertainable value of any rights thus retained by the grantor.[6] Incomplete gift still necessitates a gift tax return.[7]

Value of the gift is the fair market value of the gifted property on the date the gift is made. Deed transfer with a retained life estate is governed by IRC §2702. As such, the value of the retained interest is zero causing the full value of the property to be subject to gift tax if the gift is made to a family member. A family member includes a donor’s spouse, ancestor or lineal descendant of the donor and the donor’s spouse, a sibling or the donor and the spouse of such ancestor, descendant or sibling. Gift splitting between spouses is allowed on life estate gift.

c. Income Tax on Life Estates

Rents are taxed to life tenant.

Deductions. Life tenant may deduct real estate taxes and mortgage interest if actually paid by the life tenant. [8] Remainderman may deduct real estate taxes and mortgage interest if actually paid by the life tenant.

Property sold during lifetime of life tenant. The life tenancy may be taxed as a trust depending on the facts and circumstances (i.e. does the life tenant hold a fiduciary relationship with respect to the remainderman to the extent that the property is not required for the life tenant’s own needs, maintenance and comfort, does the life tenant has the duty to protect and conserve the property for the remainderman?).[9] Prior to Sept 26, 2011, there were three (3) ways to determine sharing of proceeds:

a. IRS tables 7520(a)[10]

b. Medicaid agency chart[11] (now IRS chart is used Administrative Directive 11 OHIP/ADM-8)

c. New York Courts Direct NY Commissioner of Insurance to value life estates based on the age of life tenant.[12]

Capital Gains Exclusion. Applies to life tenant assuming they resided in residence two (2) of the last five (5) years.[13] Time spent in nursing home counts.[14] Remainderman who does not meet the requirements of IRC §121 will have to pay capital gains. Allocate basis between life estate and remainderman on same percentage set forth under IRC §7520 table at date of sale.

d. Estate Tax Consequences of Life Estates

            The value of the gross estate shall include the value of all property to the extent of any interest therein of which the decedent has at any time made a transfer under which he has retained for his life the possession or enjoyment of, or the right to the income from the property.[15] Therefore, the entire value of the residence will be includible in the grantor’s taxable estate.

Even though the retention of limited or special power of appointment by the grantor causes the gift to be incomplete, the value of the property will be included in the grantor’s taxable estate.[16] For all other years any property included in the gross estate receives a full step up in basis.[17]

II. RETIREMENT ACCOUNTS: ARE THEY PROTECTED?

IRAs and any qualified retirements accounts will not be counted as resources (Matter of Arnold S., Case #MA0582399, April 9, 2002). Before Arnold S., IRAs and qualified retirement plans were available for Medicaid purposes, therefore applicant had to liquidate retirement account, pay income tax and “rule of halves” with net remaining. If Medicaid applicant is privately paying, may be beneficial to liquidate IRA and pay income tax. 

It is important to note that Suffolk County uses the IRS tables for minimum required distributions if individual is married, and will use Medicaid tables for single individuals.

Recently, in Rameker v. Clark, No. 12-1241 & 12-1255, United States Court of Appeals held that a non-spousal inherited IRA was not to be an exempt asset in bankruptcy proceeding.

III.  TRUSTS

            Medicaid rules differ from the various types of trusts. Below are the three (3) different types of trusts and the impact of Medicaid requirements for each:

a. Revocable Trusts

According to 18 NYCRR §360-4.5(b)(2), the trust principal and income of a revocable trust must be considered an available resource. Payments made from a revocable trust to or for the benefit of the applicant/recipient must be considered to be available income in the month paid.

b. Irrevocable Trusts

Irrevocable Trusts created by an applicant/recipient are governed under 18 NYCRR §360-4.5(b)(1). Availability of assets held in an irrevocable trust to an applicant/recipient depends on the trustee’s authority, under the specific terms of the trust agreement, to make payments to or for the benefit of the applicant/recipient.

Any portion of the trust principal, and of the income generated by the trust principal, from which no payments may be made to the applicant/recipient under any circumstances, must be considered to be assets transferred by the applicant/recipient for purposes of the transfer of assets rules (transfer subject to 60 month look back period and will create a penalty period for applicant/recipient).[18]

Any portion of the trust principal, and of the income generated from the trust, which can be paid to or for the benefit of the applicant/recipient, under any circumstances, must be considered to be an available resource. [19]

Payments made from the trust to or for the benefit of the applicant/recipient must be considered to be available income in the month paid.[20]

c. Testamentary Trusts 

Testamentary Trusts are trusts that are created under a Will and deemed a third party trust. Social Services districts are authorized, but not required, to commence court proceedings on behalf of applicant/recipients who are beneficiaries of third party trusts, seeking to compel the trustee to use trust assets to pay for necessary medical care.[21]

Based on 18 NYCRR §360-4.5(c), payments made from a testamentary trust to the applicant or recipient are available income in the month received. Neither the principal of such a trust nor any in-kind benefits received by the applicant or recipient as a result of disbursements from the trust will be counted as or deemed to be an available resource for purposes of determining eligibility for Medicaid purposes.

Careful consideration of Medicaid rules is important in drafting testamentary trusts such as Credit Shelter Trusts and Marital QTIP trusts since distributions may be considered available income to the surviving spouse.

d. Drafting Recommendations for Irrevocable Trusts

When drafting irrevocable trusts for Medicaid purposes, the following trust terms should be considered:

– Net income from the trust to or for the benefit of the Grantor.

– Absolutely no principal distributions from the trust to Grantor.

– Ability for the Grantor to remove and replace Trustees

– EPTL §7-1.6(b) allows principal to be distributed to any income beneficiary whose support or education is not sufficiently provided for, whether or not such person is entitled to the principal of the trust, unless otherwise provided in the disposing instrument. The trust instrument should specifically state EPTL §7-1.6(b) shall not apply.

– Include ability for Grantor to reside in house to maintain New York STAR and Veteran’s benefits.[22]

-Add Power of Substitution for Grantor Trust status of corpus (IRC §675-4).

            – Include inter vivos Limited Power of Appointment during the Grantor’s lifetime and/or Testamentary Power of Appointment.

            The courts in Spetz v. New York State Dep’t of Health, 737 N.Y.S.2d 524 (Sup. Ct., Chautauqua Co., Jan. 15, 2002), and Verdow v. New York State Dep’t of Health, 209 F.R.D. 309 (N.D.N.Y. 2002) ruled that assets held in an irrevocable trust created by a Medicaid applicant or his/her spouse can not be considered an available resource based on the grantor’s retention of a Limited Power of Appointment. [23]

            Both courts rejected the argument that since EPTL §7-1.9 allows any trust to be revoked with the consent of all beneficiaries, the retention of a power to remove beneficiaries would allow the applicant to exercise control over the beneficiaries and therefore over the trust itself. [24]

            In addition, the courts held that absence evidence of bad faith or fraud, assets in an irrevocable trust cannot be considered available to the applicant based on the remote possibility of collusion among the grantor, the trustee and the beneficiaries. [25]

e. Medicaid Trust Taxation

            A self-settled trust created to shield assets from Medicaid (pursuant to Federal law). Grantor Trust under IRC §677 and possibly IRC §675. A grantor trust is a trust in which all items of income, gain, loss or deduction will be reported on the grantor’s personal income tax return.[26] No gift by Grantor because of Special Power of Appointment under Treas. Regs. §25.2511(2)(b). A TIN and Form 1041 are always required under general method.

IV. Planning for Long-Term Care: Is Medicaid an Option?

Medicaid can still be a good viable form of paying for long term care costs, despite it being a program for the indigent as a payor of last resort. The maximum resource allowance level for 2014 in New York State is $14,550. Home care is a good option since no five (5) year look back period applies. However, if nursing home Medicaid only option at $14,000-$16,000 per month (Nassau and Suffolk County average price is $12,112 for 2014), then consider:

a. Transfer all assets to the well spouse or “community spouse”. A spouse with excess resources may refuse to make these assets available, called “spousal refusal”. After a spousal refusal, the community spouse can then in turn transfer assets to the children one month after the ill spouse has received a final approval to the Medicaid program.  Such a transfer may be made so long as a claim has not been made at that time against the community spouse for excess resources.  It is unclear whether a secondary transfer could be utilized as a defense to a lawsuit that would be initiated later.  Transfers may be made either outright to a third party such as children or into an Irrevocable Income Only Trust for the benefit of the community spouse.  An Income Only Trust means that no principal may be accessed for his/her benefit during the lifetime of the community spouse.

b. Promissory Note: Used to convert resources of an individual who has substantial assets into a stream of income without incurring penalty period. Payments can’t exceed Medicaid reimbursement rate. Any unpaid amount of note is an available resource if paid to estate. Acceptance varies by county. Terms of Promissory note:

1. Non-Cancelable
2. Non-Assignable
3. Non-Negotiable
4. No balloon payments
5. Not self-canceling at death
6. Income must be not be greater than Medicaid rate paid to nursing facility
7. Based on 31 day month
8. Recommended interest rate is IRS §7520

[1] Horner Probate Practice and Estates §74:1

[2] Bartholomew v. Horan, 37 A.D.2d 643, 322 N.Y.S.2d 401, N.Y.A.D. (1971)

[3] Not applicable for death occurring in 2010 unless electing Estate Tax.

[4] 12 U.S.C.A §1701j-3(d)(6): prohibits lender from calling loan if property is transferred to a spouse or child (or in trust for the benefit of the grantor 12 U.S.C.A §1701j-3(d)(8)).

[5] Treas. Reg. § 25.2511-1(e)

[6] Treas. Reg. § 25.2511-2(b) and (c)

[7] Treas. Reg. §25.2511-2(j) and Treas. Reg. §301.6501(c)-1(f)(5): a grantor must report incomplete gifts if he takes position that the transfer is not subject to gift tax.

[8] IRC §163 and IRC § 164

[9] U.S.v. De Bonchamps, 278 F.2d 127 (C.A.9 1960)

[10] Revenue Ruling 71-122

[11] 96 ADM-8

[12] In re Sauer, 195 Misc.2d 232, 757 N.Y.S.2d 709, N.Y.Sur. (2003)

[13] IRC §121

[14] IRC §121(d)(7)

[15] IRC §2036(a)(1)

[16] IRC §2036(a)(2)

[17] IRC §1014

[18] 18 NYCRR §360-4.5(b)(1)(i)

[19] 18 NYCRR §360-4.5(b)(1)(ii)

[20] 18 NYCRR §360-4.5(b)(1)(iii)

[21] 96 ADM-8

[22] Office of Real Property Services, Counsel Opinion SBRPS No. 44

[23] GIS 04 MA/001

[24] GIS 04 MA/001

[25] GIS 04 MA/001

[26] IRC §671-677

  Circular 230 Disclosure: 

*** The Treasury Department has newly promulgated Regulations effective June 20, 2005, that applies to those attorneys and accountants (and others) practicing before the IRS that require such individuals to provide extensive disclosure in certain written communications to clients.  In order to comply with our obligations under these Regulations, we want to inform you that since this communication is not intended to and does not contain such disclosure, you may not rely on any tax advice contained in this document to avoid tax penalties.