Life estates can be an excellent tool for Medicaid planning, probate avoidance and tax efficiency, but there are potential problems to look out for. Knowing the implications and risks of a life estate is essential in determining whether it is appropriate for your situation. 

In a life estate, two or more people each have an ownership interest in a property, but for different periods of time. The person holding the life estate — the life tenant — possesses the property during his or her life. The other owner — the remainderman — has a current ownership interest but cannot take possession until the death of the life estate holder. The life tenant has full control of the property during his or her lifetime and has the legal responsibility to maintain the property as well as the right to use it, rent it out, and make improvements to it.

Life estates are excellent planning techniques in many circumstances. They permit parents to pass ownership in their homes to their children while retaining absolute possession of the property during their lives. By executing a life estate deed, the property avoids probate at the parents' deaths, is protected from a Medicaid lien, and receives a step-up in tax basis.

However, there are potential issues that may arise with life estates and it’s important to fully understand the following risks:

• As a life tenant, you may not easily sell or mortgage property with a life estate interest. The remaindermen must all agree if you decide to sell or borrow against the property. One thing that can help is a testamentary power of appointment in the deed. This is a mechanism that permits the life tenants to change who ultimately receives the property by directing its disposition in their wills. It won’t allow the life tenant to sell the property, but it does give the life tenant more bargaining power with the remaindermen. Another option is a nominee realty trust. This type of trust permits one or more children to act as trustee or trustees for all the children, and provides that they must follow the direction of a majority of the beneficiaries. So, if there are four children and one child objects to the sale or mortgage of the property, but the other three are on board, the majority can direct the trustee to sign the papers necessary to facilitate the sale or borrowing.
• If the property is sold, the remaindermen are entitled to a share of the proceeds equal to what their interest is determined to be at that time.
• It is not as easy to remove or change a name once it is on a deed to real estate as it is to change the beneficiary on a life insurance policy or bank account.
• Once a remainderman is named on the deed to your house, he or she has an interest in the home and his or her legal problems could become yours. For example, if your child, who is a remainderman, is sued or owes taxes, a lien could be filed against your home. Your child’s interest in the home is not protected if he or she files for bankruptcy. If your child gets a divorce, his or her spouse could claim all or part of your child’s interest in your home. Should your child die before you do, the child’s estate would have to go through probate unless at least one other remainderman was listed as a joint tenant. However, while these claims may be made against the property, no one can kick you out of it during your life.
• Giving away an interest in property could disqualify you from receiving assistance from Medicaid, should you require long-term care within five years of the transfer. In addition, if you and the remaindermen were to sell the property while you were in a nursing home, the state could have a claim against your share of the proceeds for payments it has made on your behalf, but the share of the proceeds allocated to your children would be protected.

As with most planning tools, a life estate can be very useful with valuable benefits, but it is not for everyone. In many cases, the potential problems outweigh the benefits. As the law in this area is complex, it’s important to talk to a lawyer who knows about this in-depth. 

Medicare premiums are set to rise a modest amount next year, but still cut into any Social Security gains. The basic monthly premium will increase $3.90, from $144.60 a month to $148.50.

The Centers for Medicare and Medicaid Services (CMS) announced the premium and other Medicare cost increases on November 6, 2020. The hike could have been much worse due to rising costs during the coronavirus pandemic, but the bipartisan budget bill passed in October capped the increase. While the majority of beneficiaries will pay the added amount, a “hold harmless” rule prevents Medicare recipients' premiums from increasing more than Social Security benefits, which are going up only 1.3 percent in 2021. This “hold harmless” provision does not apply to Medicare beneficiaries who are enrolled in Medicare but who are not yet receiving Social Security, new Medicare beneficiaries, seniors earning more than $88,000 a year, and “dual eligibles” who get both Medicare and Medicaid benefits.

Meanwhile, the Part B deductible will rise from $198 to $203 in 2021, while the Part A deductible will go up by $76, to $1,484. For beneficiaries receiving skilled care in a nursing home, Medicare's coinsurance for days 21-100 will increase from $176 to $185.50. Medicare coverage ends after day 100.  

Here are all the new Medicare payment figures:
•    Part B premium: $148.50 (was $144.60)
•    Part B deductible: $203 (was $198)
•    Part A deductible: $1,484 (was $1,408)
•    Co-payment for hospital stay days 61-90: $371/day (was $352)
•    Co-payment for hospital stay days 91 and beyond: $742/day (was $704)
•    Skilled nursing facility co-payment, days 21-100: $185.50/day (was $176)

So-called “Medigap” policies can cover some of these costs. 

Premiums for higher-income beneficiaries ($88,000 and above) are as follows: 

• Individuals with annual incomes between $88,000 and $111,000 and married couples with annual incomes between $176,000 and $222,000 will pay a monthly premium of $207.90.
• Individuals with annual incomes between $111,000 and $138,000 and married couples with annual incomes between $222,000 and $276,000 will pay a monthly premium of $297.
• Individuals with annual incomes between $138,000 and $165,000 and married couples with annual incomes between $276,000 and $330,000 will pay a monthly premium of $386.10.
• Individuals with annual incomes above $165,000 and less than $500,000 and married couples with annual incomes above $330,000 and less than $750,000 will pay a monthly premium of $475.20.
• Individuals with annual incomes above $500,000 and married couples with annual incomes above $750,000 will pay a monthly premium of $504.90.

Rates differ for beneficiaries who are married but file a separate tax return from their spouse. Those with incomes greater than $88,000 and less than $412,000 will pay a monthly premium of $475.20. Those with incomes greater than $412,000 will pay a monthly premium of $504.90.

The Social Security Administration uses the income reported two years ago to determine a Part B beneficiary's premium. So the income reported on a beneficiary's 2019 tax return is used to determine whether the beneficiary must pay a higher monthly Part B premium in 2021. Income is calculated by taking a beneficiary's adjusted gross income and adding back in some normally excluded income, such as tax-exempt interest, U.S. savings bond interest used to pay tuition, and certain income from foreign sources. This is called modified adjusted gross income (MAGI). If a beneficiary's MAGI decreased significantly in the past two years, she may request that information from more recent years be used to calculate the premium. You can also request to reverse a surcharge if your income changes.

Those who enroll in Medicare Advantage plans may have different cost-sharing arrangements. CMS estimates that the Medicare Advantage average monthly premium will decrease by 11 percent in 2021, from an average of $23.63 in 2020 to $21 in 2021.

For Medicare’s press release announcing the new premium, co-payment and deductible amounts, click here.   

In some circumstances, immediate annuities can be ideal Medicaid planning tools for spouses of nursing home residents. Careful planning is needed to make sure an annuity will work for you or your spouse. 

An immediate annuity, in its simplest form, is a contract with an insurance company under which the consumer pays a certain amount of money to the company and the company sends the consumer a monthly check for the rest of his or her life.

In most states the purchase of an annuity is not considered to be a transfer for purposes of eligibility for Medicaid, but is instead the purchase of an investment. It transforms otherwise countable assets into a non-countable income stream. As long as the income is in the name of the community spouse, it's not a problem.

In order for the annuity purchase not to be considered a transfer, it must meet the following basic requirements:

1. It must be irrevocable–you cannot have the right to take the funds out of the annuity except through the monthly payments.
2. You must receive back at least what you paid into the annuity during your actuarial life expectancy. For instance, if you have an actuarial life expectancy of 10 years, and you pay $60,000 for an annuity, you must receive annuity payments of at least $500 a month ($500 x 12 x 10 = $60,000).
3. If you purchase an annuity with a term certain (see below), it must be shorter than your actuarial life expectancy.
4. The state must be named the remainder beneficiary up to the amount of Medicaid paid on the annuitant's behalf.

Example: Mrs. Jones, the community spouse, lives in a state where the most money she can keep for herself and still have Mr. Jones, who is in a nursing home, qualify for Medicaid (her maximum resource allowance) is $128,640 (in 2020). However, Mrs. Jones has $238,640 in countable assets. She can take the difference of $110,000 and purchase an annuity, making her husband in the nursing home immediately eligible for Medicaid. She would continue to receive the annuity check each month for the rest of her life.

In most instances, the purchase of an annuity should wait until the unhealthy spouse moves to a nursing home. In addition, if the annuity has a term certain — a guaranteed number of payments no matter the lifespan of the annuitant — the term must be shorter than the life expectancy of the healthy spouse. Further, if the community spouse does die with guaranteed payments remaining on the annuity, they must be payable to the state for reimbursement up to the amount of the Medicaid paid for either spouse.

All annuities must be disclosed by an applicant for Medicaid regardless of whether the annuity is irrevocable or treated as a countable asset. If an individual, spouse, or representative refuses to disclose sufficient information related to any annuity, the state must either deny or terminate coverage for long-term care services or else deny or terminate Medicaid eligibility.

Annuities are of less benefit for a single individual in a nursing home because he or she would have to pay the monthly income from the annuity to the nursing home. However, in some states immediate annuities may have a place for single individuals who are considering transferring assets. Income from an annuity can be used to help pay for long-term care during the Medicaid penalty period that results from the transfer. In such cases, the annuity is usually short-term, just long enough to cover the penalty period.

In short, immediate annuities are a very powerful tool in the right circumstances. They must also be distinguished from deferred annuities, which have no Medicaid planning purpose. The use of immediate annuities as a Medicaid planning tool is under attack in some states, so be sure to consult with a your attorney before pursuing the strategy described above.

As we enter the giving season, there is an additional reason to be charitable. Congress enacted a special provision that allows more people to easily deduct up to $300 in donations to qualifying charities this year.

Since the increase in the standard income tax deduction in 2018, only 11 percent of taxpayers itemize deductions, so fewer taxpayers take advantage of the charitable deduction. But to both encourage and reward giving in this difficult year, as part of the Coronavirus Aid, Relief and Economic Security (CARES) Act Congress created a one-time $300 charitable deduction for people who do not itemize on their tax returns. To qualify, you must give cash (including paying by check or credit card) to a 501(c)(3) charity. Gifts of goods or stock do not qualify.

While $300 may not seem like much, it can make a big difference to smaller charities. And a lot of $300 gifts can add up.  One thing that's not clear is whether a married couple filing jointly can deduct $600. While it's logical that they should be able to do so, the IRS has not clarified this yet. With just four weeks left in the year, time is a-wasting.

Here are some places you might take a look at to determine which charity you would like to support before the end of the year:

• Give Directly
• Giving Compass
• Community Foundation Locator
• Philanthropy Together
• Grapevine
• Charity Navigator
• Charity Watch
• Kristof Impact

For more information from the IRS about the tax deduction, click here. 

Estate planning—it is an incredibly important tool, not just for the uber wealthy or those thinking about retirement. On the contrary, estate planning is something every adult should do.

Estate planning can help you accomplish any number of goals, including appointing guardians for minor children, choosing healthcare agents to make decisions for you should you become ill, minimizing taxes so you can pass more wealth onto your family members, and stating how and to whom you would like to pass your estate on to when you pass away.

While it should be at the top of everyone’s to-do list, it can be an overwhelming topic to dive into. To help you get situated, below are some important terms you should know as you think about your own estate plan.

Assets

Generally, anything a person owns, including a home and other real estate, bank accounts, life insurance, investments, furniture, jewelry, art, clothing, and collectibles.

Beneficiary

A person or entity (such as a charity) that receives a beneficial interest in something, such as an estate, trust, account, or insurance policy.

Distribution

A payment in cash or asset(s) to the beneficiary, individual, or entity who is entitled to receive it.

Estate

All assets and debts left by an individual at death.

Fiduciary

A person with a legal obligation (duty) to act primarily for another person’s benefit, e.g., a trustee or agent under a power of attorney. “Fiduciary” implies great confidence and trust, and a high degree of good faith.

Funding

The process of transferring (re-titling) assets to a living trust. A living trust will only avoid probate at the trustmaker’s death if it is fully funded, meaning it contains all of the decedent’s assets.

Incapacitated/Incompetent

Unable to manage one’s own affairs, either temporarily or permanently; often involves a lack of mental capacity.

Inheritance

The assets received from someone who has died.

Conservatorship

The court-supervised process of managing the assets of an incapacitated person.

Marital deduction

A deduction on the federal estate tax return, it lets the first spouse to die leave an unlimited amount of assets to the surviving spouse free of estate taxes. However, if no other tax planning is used and the surviving spouse’s estate is more than the amount of the federal estate tax exemption in effect at the time of the surviving spouse’s death, estate taxes will be due at that time.

Settle an estate

The process of winding down the final affairs (valuation of assets, payment of debts and taxes, distribution of assets to beneficiaries) after someone dies.

Trust

A fiduciary relationship in which one party, known as the trustmaker or settlor, gives another party, known as the trustee, the right to hold property or assets for the benefit of another party, the beneficiary. The trust should be memorialized by a written trust agreement, outlining how the trust assets will be distributed to the beneficiary.

Will

A written document with instructions for disposing of assets after death. A will can only be enforced through a probate court. A will can also contain the nomination of guardian for minor children.

If you have any additional questions about estate planning, or would like to consult an estate planning professional, reach out to us at 401.272.6300 or via email at astratton@mswri.com or kmoonan@mswri.com.We can make sure you have a comprehensive plan that is tailored to your unique needs and goals.

With a push by the Democratic party to return federal estate taxes to their historic norms, taxpayers need to act now before Congress passes legislation that could adversely impact their estates.

Currently, the federal estate and gift tax exemption is set at $11.58 million per taxpayer. Assets included in a decedent’s estate that exceed the decedent’s remaining exemption available at death are taxed at a federal rate of 40 percent (with some states adding an additional state estate tax). However, each asset included in the decedent’s estate receives an income tax basis adjustment so that the asset’s basis equals its fair market value on the date of the decedent’s death. Thus, beneficiaries realize capital gain upon the subsequent sale of an asset only to the extent of the asset’s appreciation since the decedent’s death.

If the election results in a political party change, it could mean not only lower estate and gift tax exemption amounts, but also the end of the longtime taxpayer benefit of stepped-up basis at death. To avoid the negative impact of these potential changes, there are a few wealth transfer strategies it would be prudent to consider before the year-end.

Intrafamily Notes and Sales

In response to the COVID-19 crisis, the Federal Reserve lowered the federal interest rates to stimulate the economy. Accordingly, donors should consider loaning funds or selling one or more income-producing assets, such as an interest in a family business or a rental property, to a family member in exchange for a promissory note that charges interest at the applicable federal rate. In this way, a donor can provide a financial resource to a family member on more flexible terms than a commercial loan. If the investment of the loaned funds or income resulting from the sold assets produces a return greater than the applicable interest rate, the donor effectively transfers wealth to the family members without using the donor’s estate or gift tax exemption.

Swap Power for Basis Management

Assets such as property or accounts gifted or transferred to an irrevocable trust do not receive a step-up in income tax basis at the donor’s death. Gifted assets instead retain the donor’s carryover basis, potentially resulting in significant capital gains realization upon the subsequent sale of any appreciated assets. Exercising the swap power allows the donor to exchange one or more low-basis assets in an existing irrevocable trust for one or more high-basis assets currently owned by and includible in the donor’s estate for estate tax purposes. In this way, low-basis assets are positioned to receive a basis adjustment upon the donor’s death, and the capital gains realized upon the sale of any high-basis assets, whether by the trustee of the irrevocable trust or any trust beneficiary who received an asset-in-kind, may be reduced or eliminated.

Example: Phoenix purchased real estate in 2005 for $1 million and gifted the property to his irrevocable trust in 2015 when the property had a fair market value of $5 million. Phoenix dies in 2020, and the property has a date-of-death value of $11 million. If the trust sells the property soon after Phoenix’s death for $13 million, the trust would be required to pay capital gains tax on $12 million, the difference between the sale price and the purchase price. Let us say that before Phoenix died, he utilized the swap power in his irrevocable trust and exchanged the real estate in the irrevocable trust for stocks and cash having a value equivalent to the fair market value of the real estate on the date of the swap. At Phoenix’s death, because the property is part of his gross estate, the property receives an adjusted basis of $11 million. If his estate or beneficiaries sell the property for $13 million, they will only pay capital gains tax on $2 million, the difference between the adjusted date-of-death basis and the sale price. Under this scenario, Phoenix’s estate and beneficiaries avoid paying capital gains tax on $10 million by taking advantage of the swap power.

Grantor Retained Annuity Trust

A grantor retained annuity trust (GRAT) is an efficient way for a donor to transfer asset appreciation to beneficiaries without using, or using a minimal amount, of the donor’s gift tax exemption. After the donor transfers property to the GRAT and until the expiration of the initial term, the trustee of the GRAT (often the donor for the initial term) will pay the donor an annual annuity amount. The annuity amount is calculated using the applicable federal rate as a specified percentage of the initial fair market value of the property transferred to the GRAT. A Walton or zeroed-out GRAT is intended to result in a remainder interest (the interest that is considered a gift) valued at zero or as close to zero as possible. The donor’s retained interest terminates after the initial term, and any appreciation on the assets in excess of the annuity amounts passes to the beneficiaries. In other words, if the transferred assets appreciate at a rate greater than the historic low applicable federal rate, the GRAT will have succeeded in transferring wealth!

Example: Kevin executes a GRAT with a three-year term when the applicable federal rate is 0.8 percent. He funds the trust with $1 million and receives annuity payments of $279,400 at the end of the first year, $335,280 at the end of the second year, and $402,336 at the end of the third year. Assume that during the three-year term, the GRAT invested the $1 million and realized a return on investment of 5 percent, or approximately $95,000. Over the term of the GRAT, Kevin received a total of $1,017,016 in principal and interest payments and also transferred approximately $95,000 to his beneficiaries with minimal or no impact on his gift tax exemption.

Spousal Lifetime Access Trust

With the threat of a lowered estate and gift tax exemption amount, a spousal lifetime access trust (SLAT) allows donors to lock in the current, historic high exemption amounts to avoid adverse estate tax consequences at death. The donor transfers an amount up to the donor’s available gift tax exemption into the SLAT. Because the gift tax exemption is used, the value of the SLAT’s assets is excluded from the gross estates of both the donor and the donor’s spouse. An independent trustee administers the SLAT for the benefit of the donor’s beneficiaries. In addition to the donor’s spouse, the beneficiaries can be any person or entity including children, friends, and charities. The donor’s spouse may also execute a similar but not identical SLAT for the donor’s benefit. The SLAT allows the appreciation of the assets to escape federal estate taxation and, in most cases, the assets in the SLAT are generally protected against credit claims. Because the SLAT provides protection against both federal estate taxation and creditor claims, it is a powerful wealth transfer vehicle that can be used to transfer wealth to multiple generations of beneficiaries.

Example: Karen and Chad are married, and they are concerned about a potential decrease in the estate and gift tax exemption amount in the upcoming years. Karen executes a SLAT and funds it with $11.58 million in assets. Karen’s SLAT names Chad and their three children as beneficiaries and designates their friend Gus as a trustee. Chad creates and funds a similar trust with $11.58 million that names Karen, their three children, and his nephew as beneficiaries and designates Friendly Bank as a corporate trustee (among other differences between the trust structures). Karen and Chad pass away in the same year when the estate and gift tax exemption is only $6.58 million per person. Even though they have gifted more than the $6.58 million exemption in place at their deaths, the IRS has taken the position that it will not punish taxpayers with a clawback provision that pulls transferred assets back into the taxpayer’s taxable estate. As a result, Karen and Chad have saved $2 million each in estate taxes assuming a 40 percent estate tax rate at the time of their deaths.

Irrevocable Life Insurance Trust

An existing insurance policy can be transferred into an irrevocable life insurance trust (ILIT), or the trustee of the ILIT can purchase an insurance policy in the name of the trust. The donor can make gifts to the ILIT that qualify for the annual gift tax exclusion, and the trustee will use those gifts to pay the policy premiums. Since the insurance policy is held by the ILIT, the premium payments and the full death benefit are not included in the donor’s taxable estate. Furthermore, the insurance proceeds at the donor’s death will be exempt from income taxes.

When Should I Talk to an Estate Planner?

If any of the strategies discussed above interest you, or you feel that potential changes in legislation will negatively impact your wealth, we strongly encourage you to schedule a meeting with us at your earliest convenience … and definitely before the end of the year. We can review your estate plan and recommend changes and improvements to protect you from potential future changes in legislation.

Reach out to us at 401.272.6300 or via email at astratton@mswri.com or kmoonan@mswri.com.