How Transfer on Death (TOD) Accounts Help You Avoid Probate

As an investment firm, we typically encourage clients to add TOD beneficiaries to their individual brokerage accounts to avoid the probate process, should the owner of the account unexpectedly pass away.  TOD stands for “Transfer on Death”.   When someone passes away, their assets pass to their beneficiaries in one of three ways:

1. Probate

2. Contract

3. Trust

Passing Asset by Contract

When you set up an IRA, 401(K), annuity, or life insurance policy, at some point during the account opening process, the custodian or life insurance company will ask you to list beneficiaries on your account.  This is a standard procedure for these types of accounts because when the account owner passes away, they look at the beneficiary form completed by the account owner, and the assets pass “by contract” to the beneficiaries listed on the account.  Since these accounts pass by contract, they automatically avoid the headaches of the probate process.

Probate

Non-retirement accounts like brokerage accounts, savings accounts, and checking accounts are often set up in an individual's name without beneficiaries listed on the account.  If someone that passes away has one of these accounts, the decedent’s last will and testament determines who will receive the balance in those accounts - but those accounts are required to go through a legal process called “probate”.  The probate process is required to transfer the decedent’s assets into their “estate”, and then ultimately distribute the assets of the estate to the estate beneficiaries.

Since the probate process involves the public court system, it can often take months before the assets of the estate are distributed to the beneficiaries of the estate.  Depending on the size and complexity of the estate, there could also be expenses associated with the probate process, including but not limited to court filing fees, attorney fees, accountant fees, executor fees, appraiser fees, or valuation experts.

For this reason, many estate plans aim to avoid probate whenever possible.

Transfer On Death Designation

A very easy solution to avoid the probate process for brokerage accounts, checking accounts, and savings accounts, is to add a TOD designation to the account.  The process of turning an individual account into a Transfer on Death account is also very easy because it usually only involves completing a Transfer-on-Death form, which lists the name and percentages of the beneficiaries assigned to the account. Once an individual account has been changed into a TOD account, if the account owner were to pass away, that account no longer goes through the probate process; it now passes to the beneficiaries by contract, similar to an IRA.

Frequently Asked Questions About TOD Accounts

After we explain the TOD strategy to clients, there are often several commonly asked questions that follow, so I’ll list them in a question-and-answer format:

Q:  Can you change the beneficiaries listed on a TOD account at any time?

A:  Yes, the beneficiaries assigned to a TOD account can be changed at any time by completing an updated TOD designation form

Q:  If I list TOD beneficiaries on all of my non-retirement accounts, do I still need a will?

A:  We strongly recommend that everyone execute a will for assets that are difficult to list TOD beneficiaries, such as a car, jewelry, household items, and for any other assets that don’t pass by contract or by trust.

Q: Can I list TOD beneficiaries on my house?

A:  It depends on what state you live in.  Currently, 31 states allow TOD deeds for real estate. New York became the newest state added to the list in 2024.

Q:  Can my TOD beneficiaries be the same as my will?

A:  Yes, you can make the TOD beneficiaries the same as your will. However, since TOD accounts pass by contract and not by your will, you can make beneficiary designations other than what is listed in your will. 

Q:  Can I list different beneficiaries on each TOD account (brokerage, checking, savings)?

A: Yes

Q:  Can I list a trust as the beneficiary of my TOD account?

A:  Yes

About Michael……...

Hi, I’m Michael Ruger. I’m the managing partner of Greenbush Financial Group and the creator of the nationally recognized Money Smart Board blog . I created the blog because there are a lot of events in life that require important financial decisions. The goal is to help our readers avoid big financial missteps, discover financial solutions that they were not aware of, and to optimize their financial future.

How to Avoid the New York State Estate Tax Cliff

When someone passes away in New York in 2025, there is a $7.16 million estate tax exclusion amount, which is significantly lower than the $13.9M exemption amount available at the federal level. However, in addition to the lower estate tax exemption amount, there are also two estate tax traps specific to New York that residents need to be aware of when completing their estate plan. Those two tax traps are:

1. The $7.5 million Cliff Rule

2. No Portability between spouses

With proper estate planning, these tax traps can potentially be avoided, allowing residents of New York to side-step a significant state tax liability when passing assets onto their heirs.

New York Estate Tax Cliff Rule

When it comes to estate planning, it’s important to understand that estate tax rules at the federal and state levels can vary.  Some states adhere to the federal rules, but New York is not one of those states.  New York has a very punitive “cliff rule” where once an estate reaches a specific dollar amount, the New York estate tax exemption is eliminated, and the ENTIRE value of the estate is subject to New York state tax.  

As mentioned above, the New York estate tax exemption for 2025 is $7,160,000. So, for anyone who lives in New York and passes away with an estate that is valued below that amount, they do not have to pay estate tax at the state or federal level.

For individuals that pass away with an estate valued between $7,160,000 and $7,518,000, they pay estate tax to New York only on the amount that exceeds the $7,160,000 threshold.

But the “cliff” happens at $7,518,000.  Once an estate in New York exceeds $7,518,000, the ENTIRE estate is subject to New York Estate Tax, which ranges from 3.06% to 16% depending on the size of the estate.

Non-Portability Between Spouses in New York

Married couples that live in New York must be aware of how the portability rules vary between the federal and state levels.  “Portability” is something that happens at the passing of the first spouse, and it refers to how much of the unused estate tax exemption can be transferred or “ported” over to the surviving spouse.  The $13.9M federal estate tax exemption is “per person” and “full portable”. Why is this important?  It’s common for married couples to own most assets “jointly with rights of survivorship”, so when the first spouse passes away, the surviving spouse assumes full ownership of the asset.  However, since the spouse who passed away did not have any assets solely in their name, there is nothing to include in their estate, so the $13.9M federal estate tax exemption at the passing of the first spouse goes unused.

At the federal level that’s not an issue because the federal estate tax exemption for a married couple is portable, which means if the first spouse that passes away does not use their full estate tax exemption, any unused exemption amount is transferred to the surviving spouse. Assuming that the spouse who passes away first does not use any of their estate tax exemption, when the second spouse passes, they would have a $27.8 million federal estate tax exemption ($13.9M x 2).

However, New York does not allow portability, so any unused estate tax exemption at the passing of the first spouse is completely lost.  The fact that New York does not allow portability requires more proactive estate tax planning prior to the passing of the first spouse. 

Here is a quick example showing how this works: Larry & Kathy are married and have an estate valued at $10M in which most of their assets are titled jointly with rights of survivorship.  Since everything is titled jointly, if Larry were to pass away in 2025, the $10M in assets would transfer over to Kathy with no estate taxes due at either the Federal or State level.  The problem arises when Kathy passes away 2 years later.  Assuming Kathy passes away with the same $10M in her name, there is still no federal estate taxes due because she more than covered by the $27.8M exemption at the federal level, however, because New York’s estate tax exemption is not portable, and her assets are well over the $7.5M cliff, the full $10M would be taxed by the New York level, resulting in close to a $1M tax liability.  A tax liability that could have been completely avoided with proper estate planning.

If instead of Larry and Kathy holding all of their assets jointly, they had segregated their assets to $5M owned by Larry and $5M owned by Kathy, when Larry passed away, he would have been able to use his $7.1M New York State estate tax exemption to protect the full $5M. Then, when Kathy passed with her $5M two years later, she would have been able to use her full $7.1M New York State tax exemption, resulting in $0 in taxes paid to New York State — avoiding nearly $1M in unnecessary tax liability.

Setting Up Separate Trusts

A common solution that our clients will use to address both the $7.5M cliff and the non-portability issue in New York is that each spouse will set up their own revocable trust, and then split the non-retirement account assets in a way to maximize the $7.1M New York State exemption amount at the passing of the first spouse. 

I will sometimes hear married couples say “Well, we don’t have to worry about this because our total estate is only $6 million.” That would be true today, but if that married couple is only 70 years old, and they are both in good health, what if their assets double in size before the first spouse passes? Now they have a problem. 

Special Legal Disclosure:  This article is for educational purposes only, and it does not contain any legal advice.  For legal advice, please contact an attorney.

About Michael……...

Hi, I’m Michael Ruger. I’m the managing partner of Greenbush Financial Group and the creator of the nationally recognized Money Smart Board blog . I created the blog because there are a lot of events in life that require important financial decisions. The goal is to help our readers avoid big financial missteps, discover financial solutions that they were not aware of, and to optimize their financial future.

How To Protect A Roth IRA from the Medicaid Spenddown Process

Individuals often use Irrevocable Trusts or Medicaid Trusts to protect assets from future long-term care events. However, it’s historically been challenging to protect Roth IRAs from the Medicaid spenddown process due to the fact that:

1. Roth IRAs cannot be owned by a trust

2. Roth IRAs do not have an RMD requirement

It’s especially problematic with the rise in popularity of processing Roth Conversions in retirement to take advantage of lower tax rates, reduce future RMDs, and pass more Roth dollars onto the next generation, which is arguably the most valuable type of asset to inherit. Not only are Roth IRAs inherited tax free, but the beneficiary can earn investment returns within that Inherited Roth IRA for another 10 years before receiving the full account balance tax free.

Things have also gotten better for residents of New York with Roth IRAs because the full balance of a Roth IRA may no longer be subject to the Medicaid spenddown process, thanks to a new strategy from our friends in the trust and estate arena.

A Trust Cannot Own Roth IRAs

While trusts can be set up to own brokerage accounts, real estate, and checking accounts, one of the long-standing challenges associated with protecting a Roth IRA is that an individual cannot transfer ownership of an IRA to a trust.  This obstacle has not changed, but another workaround to this limitation has surfaced.

No RMD Requirement for Roth IRAs

One of the advantages of a Roth IRA over a Traditional IRA is that a Roth IRA does not have a Required Minimum Distribution (RMD) requirement.  For traditional IRAs and other pre-tax retirement accounts, individuals born after 1960 are required by the IRS to begin RMDs at age 75 and continue them annually thereafter. This is a way for the IRS to collect some income tax on all the tax-deferred balances in these pre-tax retirement accounts.

Roth IRAs do not have an RMD requirement, which is viewed as an advantage, except when it comes to a long-term care event and the Medicaid spenddown process.

When an individual experiences a long-term care event, Medicaid tallies up all of that individual’s “countable assets” to determine how much needs to be spent on their care before Medicaid will start picking up the tab.  Traditional IRAs are not considered a “countable asset,” but the annual required minimum distributions (RMDs) from traditional IRAs are considered income that must be applied to that individual's cost of care. 

For example, Jim has a $300,000 brokerage account and a $800,000 traditional IRA.  He sets up an Irrevocable Trust to own his brokerage account, makes it past the 5-year look-back period, and then has a long-term care event at age 83 that requires him to enter a nursing home.  The brokerage account is completely protected, not subject to spending down. However, the Traditional IRA has a $800,000 balance, still owned by Jim, and he is receiving a $45,000 per year RMD.  Instead of Jim having to spend down the entire IRA account, he just needs to commit the $45,000 RMD towards his care, and Medicaid will cover the remaining expenses. Using this strategy, Jim has been able to preserve both his $300,000 brokerage account and his $800,000 Traditional IRA, less the annual required minimum distributions (RMDs), for his children.

Roth IRA Voluntary RMD

Historically, Roth IRAs have been considered a “countable asset” for purposes of the Medicaid spenddown process in New York because there is no RMD requirement to covert that countable asset into an income stream. Recently, however, professionals in the trust and estate arena have successfully protected Roth IRAs from the Medicaid spenddown process by voluntarily turning on RMD distributions from the Roth IRA account, even though RMDs are not required from Roth IRAs, and Medicaid has accepted this approach.

For example, Sarah has a $300,000 Roth IRA that would normally be subject to the Medicaid spenddown process. Sarah has a long-term care event, and her power of attorney contacts the custodian of the Roth IRA and instructs them to begin annual distributions from the Roth IRA based on the IRS RMD table.  The voluntary Roth RMD amount will be counted toward Sarah’s income threshold for purposes of Medicaid and eventually applied towards the cost of her care. Now that Sarah has converted the Roth IRA to a retirement income stream, Medicaid no longer requires Sarah to fully spend down the balance in the Roth IRA before submitting her Medicaid application.

Disclosure: I am a Certified Financial Planner, not a trust and estate attorney.  The information in this article was obtained through firsthand experience consulting with trust and estate attorneys in New York, as well as with clients who have undergone the Medicaid application process.   For legal advice, please consult an attorney.  Additionally, note that Medicaid rules vary from state to state.  If you live outside of New York, the Medicaid rules in your state may vary from the rules covered in this article, which are specific to New York.

About Michael……...

Hi, I’m Michael Ruger. I’m the managing partner of Greenbush Financial Group and the creator of the nationally recognized Money Smart Board blog . I created the blog because there are a lot of events in life that require important financial decisions. The goal is to help our readers avoid big financial missteps, discover financial solutions that they were not aware of, and to optimize their financial future.

Can You Break an Irrevocable Trust?

Individuals will frequently set up an Irrevocable Trust and then transfer ownership of various assets, such as brokerage accounts, savings accounts, and real estate, into the trust to protect those assets from the Medicaid spenddown process in the event of a future long-term care need. As a part of the planning process, it is typically recommended that individuals only transfer assets into the trust that they will not need to access in order to meet future expenses. But what happens when someone realizes they have transferred too much into their trust, and they now need access to that asset? The options may be very limited.

Limited Access to Irrevocable Trust Assets

The primary reason that setting up an Irrevocable Trust, also known as a Medicaid Trust, can be an effective way to protect assets from a future long-term care event, is the “grantor” (the person giving the assets to the trust), it essentially giving away the ownership of that asset to their Irrevocable Trust.  By transitioning ownership away from the grantor, if a long-term care event occurs, those assets do not need to be “spent down” for the grantor to qualify for Medicaid for the purpose of paying the costs associated with their long-term care.

In order for this strategy to work, the irrevocable trust has to limit the grantor’s access to the “principal” of the trust assets.  In other words, if, as the grantor, you gift $100,000 into your Irrevocable Trust, you are not allowed to touch that $100,000 for the remainder of your life since you have “irrevocably” gifted those assets to your trust.

Grantors Typically Have Access to Trust Income

While the grantor is unable to access trust principal, most grantors of irrevocable trusts give the grantor access to any “income” generated by their trust. If the trust is holding investments, income refers to only the dividends and interest and does not include the “appreciation” in the trust assets, which is still considered principal.

Example: Sue gifts $200,000 in cash to her irrevocable trust, and then invests that $200,000 in stocks, bonds, CDs, and mutual funds. Over the course of the first year, the value of the trust grew from $200,000 to $220,000; $5,000 of that growth was dividends and interest, and the other $15,000 was the appreciation in the value of the investment holdings. If Sue’s trust document grants her access to the income generated by the trust assets, she would be allowed to withdraw the $5,000 in dividends and interest. However, she would not have access to the $200,000 initial investment or the $15,000 in gains from the appreciation of the underlying investment holdings, only the income from dividends and interest is available to the grantor.

Rules Vary from Trust to Trust

But what if the income is not enough? What if something has happened that now requires Sue, in the example above, to get access to $100,000 of the cash that she contributed to her Irrevocable Trust? The answer lies in the provisions that are built within Sue’s trust document.

This trust document governs what can and cannot be done with assets owned by the trust. Since trust and estate attorneys often take different approaches when drafting trust documents, the options are NOT UNIFORM for all irrevocable trusts. The grantor must work with the attorney drafting the trust to determine what fail-safes, if any, will be built into the trust document. 

Gifting Rights

The trust document can voluntarily allow the trustee, who may or may not be the same person as the grantor, to make gifts from the principal of the trust to the trust’s beneficiaries. The grantor is typically not a beneficiary of the trust.  A common scenario is a parent, or parents, are the grantor(s), fund the trust and select one of their children to serve as trustee (who oversees the trust assets), and then the beneficiaries of the trust are all of the children of the grantor(s).

If the trustee is given gifting powers, the trustee could gift cash directly from the trust to the grantor's children, and then the children could voluntarily turn around and gift cash back to their parents to cover expenses or pay expenses on their parents' behalf.

This is where trust documents vary as well. Some trusts, even with gifting power, do not allow the beneficiaries to make cash gifts back to the grantors, and in those cases, the kids (beneficiaries) have to pay the expenses directly on behalf of their parents (grantor), such as rent, medical expenses, roof, etc., without the parents every coming into contact with the cash that was distributed from the trust to the kids.

Caution: A note of caution when adding gifting powers to a trust. If you give the trustee the power to make gifts from the trust assets, you must 200% trust the person that you have selected to serve as your trustee. As financial planners, we have unfortunately seen a few cases of trustees abusing their gift powers, and it’s not a pretty sight. 

Revoking A Trust

The trust document may also permit a full or partial revocation of the trust assets, resulting in the dissolution of the trust and the return of the trust assets to the grantor. Often, when a trustee seeks to revoke all or a portion of the trust assets, it requires the approval of all the trust beneficiaries. For example, if there are three children, and one of them is money-hungry and does not want to see their inheritance go back to their parents and be spent, they may be able to stop the trust revocation process by simply not agreeing to the revoke the trust assets.

Partial Versus Full Revoke

Some trusts allow a partial revocation of trust assets, while other trust documents only permit a full revocation if approved by the trust’s beneficiaries.  Partial revocation can be an attractive option because it allows some of the trusts principal to be returned to the grantor, but any assets that remain in the irrevocable trust will continue to be protected from future long-term care events, assuming the trust has satisfied the Medicaid lookback period. 

For example, parents fund a trust with $400,000 in cash, and 10 years after the trust is established, an unexpected medical event occurs requiring them to pay $50,000 which they don’t have. If the trust allows a partial revocation of the trust assets, the trustees and beneficiaries could agree to revoke $50,000 of the trust assets, return them to the parents, and the remaining $350,000 stays protected in the irrevocable trust.

However, we have seen trust documents that only allow a full revocation, which then makes it an all-or-nothing decision.

Change Trust Investment Strategy to Generate More Income

We have encountered situations where the trust document does not permit gifts, and it does not allow for partial or full revocation of the trust assets - so what options are left?

From a return of trust principal standpoint, the grantors may be out of luck, however, since most grantor irrevocable trusts give the grantors access to “income” generated by the trust assets, the grantors may be able to work with their trustee to change the investment holdings within the trust to produce more dividends and interest income. For example, if the trust was holding mostly growth stocks that do not pay dividends, the trustee could work with the trust's investment advisor to reallocate the portfolio to stocks and bonds that produce more dividend and interest income, which can then be distributed to the grantors to cover their personal expenses.

Tax Note: When reallocating irrevocable trust accounts, the trustee must be cautious of the taxable realized gains that arise from selling investments in the trust that have significantly appreciated in value. Since most of these Medicaid trusts are set up as “grantor” trusts, even though the grantor does not have access to the principal of the trust, the grantor is typically responsible for paying any tax liability generated by the trust assets.  In other words, if the trust generates a significant tax liability from trade activity, the grantor may be required to pay that tax liability without being able to make a distribution from the trust assets.

Disclosure: I’m a Certified Financial Planner, not a trust and estate attorney. The information in this article was gathered through my firsthand interaction with trusts and our clients. This information is for educational purposes only. For legal advice, please contact an attorney.  

About Michael……...

Hi, I’m Michael Ruger. I’m the managing partner of Greenbush Financial Group and the creator of the nationally recognized Money Smart Board blog . I created the blog because there are a lot of events in life that require important financial decisions. The goal is to help our readers avoid big financial missteps, discover financial solutions that they were not aware of, and to optimize their financial future.

How to Title Your House To Avoid Probate

When we are working with clients on their estate plan, one of the primary objectives is to assist them in titling their assets so they avoid the probate process after they pass away.  For anyone that has had to serve as the executor of an estate, you have probably had firsthand experience with how much of a headache the probate process is. For that reason, it's typically a goal of an estate plan to avoid the probate process altogether. 

While it’s fairly easy to protect an IRA, a brokerage account, bank accounts, and life insurance policies from the probate process, it has historically been more difficult to protect the primary residence from the probate process without setting up a trust to own the house.

But there is good news on this front, especially for residents of New York State.  As of July 2024, New York allows residence to add a Transfer on Death (TOD) designation to their deed.  Adding a TOD designation is like naming beneficiaries on an IRA account or brokerage account.   Prior to July 2024, residents of New York State were not allowed to add a TOD designation to a deed for real estate, so their only ways to protect their house from the probate process was:

1. Gift the house to their child before they die (Not a good option)

2. Gift the house with a life estate (Ok….but not great)

3. Set up either a Revocable or Irrevocable Trust to own the house

Those three options are still available but now there is a fourth option which is simple and costs less money than setting up a trust. Change the deed on your house to a “TOD deed”. 

32 States Now Allow TOD Deeds

While New York just made this option available in 2024, there were already 31 other states that already allowed residents to add a TOD designation to their deed.  Depending on which state you live in, a simple Google search or contacting a local estate attorney, will help you determine if your state offers the TOD deed option.

What Is The Probate Process?

Why is it a common goal of an estate plan to have your assets avoid the probate process?  The probate process can be expensive and time consuming depending on what state you live in.  In New York, the state that we are located in, it’s a headache.  Any asset that is not owned by a trust or does not have beneficiaries directly assigned to it, pass to your beneficiaries through your will.  The process of moving assets from your name (the decedent) to the beneficiaries of your estate, it a formal legal process called the “probate process”.

It is not as easy as when someone passes away with a house, they just look at their will which list their children as beneficiaries of their estate, and then the ownership of the house is transferred to the kids the next day.  The probate process is a formal legal process in which the court system is involved, an estate attorney may need to be hired to help the executor through the probate process, an accountant may need to be hired to file an estate tax return, an appraiser may need to be hired to value real estate holdings, and investment advisors may be involved to help retitle assets to the beneficiaries. All of this costs money and takes time to navigate the process. We have seen some estates take years to settle before the beneficiaries receive their inheritance.  

How Assets Pass to Beneficiaries of an Estate

There are three ways that assets pass to a beneficiary of an estate:

1. Probate

2. By Contract

3. By Trust

Assets That Pass By Contract

Assets that pass “by contract” to beneficiaries of an estate avoid the probate process because there are beneficiaries contractually designated on those accounts. Examples of these types of assets are retirement accounts, IRAs, annuities, life insurance policies, and an asset with a TOD designation like a brokerage account, bank account, or a house with a TOD deed.   For these types of assets, you simply look at the beneficiary form that was completed by the account owner, and that's who the account passes to immediately after the decedent passes away.  It does NOT pass by the decedent’s will. 

Example: Someone could list their two children as 50/50 beneficiaries of their estate in their will but if they list their cousin as their 100% primary beneficiary on their IRA, when they pass away, that IRA balance will go 100% to their cousin because IRA assets transfer by contract and not through the probate process. Any assets that go through the probate process are distributed in accordance with a person’s will.

Asset That Pass By Trust

One of the primary reasons for an individual to set up either a revocable trust or irrevocable trust to own their house or other assets is to avoid the probate process, because assets that are owned by a trust pass directly to the beneficiaries listed in the trust document outside of the will.   Example: your brokerage account is owned by your Revocable Trust, when you pass away, the assets can be immediately distributed to the beneficiaries listed in the trust document without going through the probate process. The beneficiaries listed in your trust document may or may not be different than the beneficiaries listed in your will.

House With A Transfer of Death Deed

Prior to New York allowing residents to attach a TOD designation to the deed on their house, the only options for titling the house to avoid the probate process were to:

1. Gift the house to the kids before they pass (not a good option)

2. Gifting the house with a life estate

3. Setting up a trust to own the house

The most common solution was setting up a trust to own the house which costs money because you typically have to engage an estate attorney to draft the trust document.  If the ONLY objective of establishing the trust was for the house to avoid probate, the new TOD deed option could replace that option and be an easier, more cost-effective option going forward.

How To Change The Deed to a TOD Deed

Changing the deed on your house to a TOD deed is very simple.  You just need to file the appropriate form at your County Clerk’s Office. The TOD designation on your house does not become official until it has been formally filed with the County Clerk’s Office.

What If You Still Have A Mortgage?

Having a mortgage against your primary residence should not preclude you from changing your current deed to a TOD deed.  Even after you file the TOD deed, you still own the house, the bank still maintains a lien against your house for the outstanding amount, and even if you pass and the house transfers to the kids via the TOD designation, it does not remove the lien that the bank has against the property.  If the kids tried to sell the house after you pass, they would first need to satisfy the outstanding mortgage, potentially with proceeds from the sale of the house.

The TOD Deed Does Not Protect The House From Medicaid

While changing the deed on your house to a TOD deed will successfully help the house to avoid the probate process, it does not protect the house from a future long-term care event.  While the primary residence is not a countable asset for Medicaid, Medicaid, depending on the county that you live in, could put a lien against your house for the amount that they paid to the nursing home for your long-term care.   Individuals that want to fully protect their house from a future long-term care event will often set up an Irrevocable Trust, otherwise known as a Medicaid Trust, to own their house to avoid these Medicaid liens. That is an entirely different but important topic that we have a separate article on. If you are looking for more information on how to protect your house from probate AND a long-term care event, here are our articles on those topics:

Article: Gifting Your House with a Life Estate vs Medicaid Trust

Article: Don’t Gift Your House To Your Children!!

Article: How to Protect Assets From A Nursing Home

Changing the House TOD Beneficiaries

The question frequently comes up during our estate planning meetings, “What if I change my mind on who I want listed as the beneficiary of my house?” With a TOD Deed, it’s an easy change. You just go back to the County Clerks Office and file a new TOD Deed with your updated beneficiary designations. Remember, once you Change the deed to a TOD deed, the house no longer passes in accordance with your will, it passes by contract to the beneficiaries list on that TOD designation.

About Michael……...

Hi, I’m Michael Ruger. I’m the managing partner of Greenbush Financial Group and the creator of the nationally recognized Money Smart Board blog . I created the blog because there are a lot of events in life that require important financial decisions. The goal is to help our readers avoid big financial missteps, discover financial solutions that they were not aware of, and to optimize their financial future.

Gifting Your House with a Life Estate vs. Medicaid Trust

I recently published an article titled “Don’t Gift Your House To Your Children” which highlighted the pitfalls of gifting your house to your kids versus setting up a Medicaid Trust to own your house, as an asset protection strategy to manage the risk of a long-care care event taking place in the future.  That article prompted a few estate attorneys to reach out to me to present a third option which involves gifting your house to your children with a life estate.   While the life estate does solve some of the tax issues of gifting the house to your kids with no life estate, there are still issues that persist even with a life estate that can be solved by setting up a Medicaid trust to own your house.

In this article, I will cover the following topics:

• What is a life estate?

• What is the process of gifting your house with a life estate?

• How does the life estate protect your assets from the Medicaid spend-down process?

• Tax issues associated with a life estate

• Control issues associated with a life estate

• Comparing the life estate strategy to setting up a Medicaid Trust to own your house

3 Asset Protection Strategies

There are three main asset protection strategies when it comes to protecting your house from the Medicaid spend-down process triggered by a long-term care event:

1. Gifting your house to your children

2. Gifting your house to your children with a life estate

3. Gifting your house to a Medicaid Trust 

Gifting Your House To Your Children

Gifting your house outright to your children without a life estate is probably the least advantageous of the three asset protection strategies.  While gifting your house to your kids may be a successful strategy for getting the house out of your name to begin the Medicaid 5-Year Lookback Period, it creates a whole host of tax and control issues that can arise both while you are still alive and when your children inherit your house after you pass away.

Note: The primary residence is not usually a countable asset for purposes of Medicaid BUT some counties may place a lien against the property for any payments that Medicaid makes on your behalf for long-term care services.  While Medicaid can’t make you sell the house while you are still alive, once you pass away, Medicaid may be waiting to recoup the money they paid, so your house ends up going to Medicaid instead of passing to your children.

Here is a quick list of the issues:

No Control:  When you gift your house to your kids, you no longer have any control of that asset, meaning if the kids wanted to, they could sell the house whenever they want without your permission.

Tax Issue If You Sell Your House:  If you gift your house to your kids and then you sell your house while you are still alive it creates numerous issues.  First, from a tax standpoint, if you sell your house for more than you purchased it for, your children have to pay tax on the gain in the house.  Normally, when you sell your primary residence, a single filer can exclude $250,000 of gain and a married filer can exclude $500,000 of gain from taxation. However, since your kids own the house, and it’s not their primary residence, you lose the exclusion, and your kids have to pay tax on the property as if it was an investment property.

No Step-up In Cost Basis:  When you gift an asset to your kids while you are still alive, they inherited your cost basis in the property, meaning if you paid $100,000 for your house 30 years ago, their cost basis in your house is $100,000.  After you pass away, your children do not receive a step-up in cost basis, which means when they go to sell the house, they have to pay tax on the full gain amount of the property.   If your kids sell your house for $500,000 and you purchase it for $100,000, they could incur a $60,000+ tax bill.

Life Estate Option

Now let’s move on to option #2, gifting your house to your kids with a life estate.   What is a life estate?  A life estate allows you to gift your house to your children but you reserve the right to live in your house for the rest of your life, and your children cannot sell the house while you are still alive without your permission.

Here are the advantages of gifting your house with a life estate versus gifting your house without a life estate:

More Control: The life estate gives the person gifting the house more control because your kids cannot make you sell your house against your will while you are still alive. 

Medicaid Protection:  Similar to the outright gift your kids, a gift with a life estate, allows you to begin the Medicaid 5-year look back on your primary residence so a lien cannot be placed against the property if a long-term care event occurs.

Step-up in Cost Basis:  One of the biggest advantages of the life estate is that the beneficiaries of your estate receive a step-up in costs basis when they inherit your house.   If you purchase your house for $100,000 30 years ago but your house is worth $500,000 when you pass away, your children receive a step-up in the cost basis to the $500,000 fair market value when you pass, meaning if they sell the house the next day for $500,000, there are no taxes due on the full $500,000.   This is because when you pass away, the life estate expires, and then your house passes through your estate, which allows the step-up in basis to take place.

Lower-Cost Option:  Gifting your house to your children with a life estate only requires a simple deed change which may be a lower-cost option compared to the cost of setting up a Medicaid Trust which can range from $1,500 - $5,000. 

Disadvantages of Life Estate

However, there are numerous disadvantages associated with life estates:

Control Problems If You Want To Sell Your House:  While the life estate allows you to live in the house for the rest of your life, you give up control as to whether or not you can sell your house while you are still alive.  If you want to sell your house while you are still alive, you, and ALL of your children that have a life estate, would all have to agree to sell the house.  If you have three children and they all share in the life estate, if one of your children will not agree to sell the house, you won’t be able to sell it.

Tax Problem If You Sell It: If you want to sell your house while you are still alive and all of your children with the life estate agree to the sale, it creates a tax issue similar to the outright gift to your kids without a life estate.   Since you gifted the house to your kids, they inherited your cost basis in the property and would not be eligible for the primary gain exclusion of $250,000 / $500,000, so they would have to pay tax on the gain. 

One slight difference, the life estate that you retained has value when you sell the house, so if you sell your house for $500,000, depending on the life expectancy tables, your life estate may be worth $50,000, so that $50,000 would be returned to you, and your children would receive the remaining $450,000.    

Medicaid Eligibility Issue:  Building on the house sale example that we just discussed, if you sell your house, and the value of your life estate is paid to you, if you or your spouse are currently receiving Medicaid benefits, it could put you over the asset allowance, and make you or your spouse ineligible for Medicaid.  

Even if you are not receiving Medicaid benefits when you sell the house, the cash coming back to you would be a countable asset subject to the Medicaid 5-Year Lookback period, so the proceeds from the house may now become an asset that needs to be spent down if a long-term care event happens within the next 5 years.

Your Child’s Financial Problems Become Your Problem:  If you gift your house to your children with a life estate, similar to an outright gift, you run the risk that your child’s financial problems may become your financial problem.  Since they have an ownership interest in your house, their ownership interest could be exposed to personal lawsuits, divorce, and/or tax liens.

Your Child Predeceases You:  If your child dies before you, their ownership interest in your house could be subject to probate, and their ownership interest could pass to their spouse, kids, or other beneficiaries of their estate which might not have been your original intention.

Medicaid Trust

Setting up a Medicaid Trust to protect your house from a long-term care event solves many of the issues that arise compared to gifting your house to your children with a life estate.

Control:  You can include language in your trust documents that would allow you to live in your house for the rest of your life and your trustee would not have the option of selling the house while you are still living.

Protection From Medicaid: If you gift your house to a grantor irrevocable trust, otherwise known as a Medicaid Trust, you will have made a completed gift in the eyes of Medicaid, and it will begin the Medicaid look back period.

Step-up In Cost Basis:  Since it’s a grantor trust, when you pass away, your house will go through your estate, and your beneficiaries will receive a step-up in cost basis. 

Retain The Primary Residence Tax Exclusion:  If you decide to sell your house in the future, since it’s a grantor trust, you preserve the $250,000 / $500,000 capital gain exclusion when you sell your primary residence.

Ability to Choose 1 or 2 Trustees: When you set up your trust, you will have to select at least 1 trustee, the trustee is the person that oversees the assets that are owned by the trust.   If you have multiple children, you have the choice to designate one of the children as trustee, so if you want to sell your house in the future, only your child that is trustee would need to authorize the sale of the house.  You do not need to receive approval from all of your children like you would with a life estate.

Protected From Your Child’s Financial Problems:   It’s common for parents to list their children as beneficiaries of the trust, so after they pass, the house passes to them.  But the trust is the owner of the house, not your children, so it protects you from any financial troubles that could arise from your children since they are not currently owners of the house.

Protect House Sale Proceeds from Medicaid:  If your trust owns the house and you sell the house while you are still alive, at the house closing, they would make the check payable to your trust, and your trust could either purchase your next house, or you could set up an investment account owned by your trust. The key planning item here is the money never leaves your trust.  As soon as the money leaves your trust, it’s no longer protected from Medicaid, and you would have to restart the Medicaid look back period.

A Trust Can Own Other Assets: Trusts can own other assets besides real estate. A trust can own an investment account, savings account, business interest, vehicle, and other assets.  The only asset a trust typically cannot own is a retirement account like an IRA or 401(k) account. For individuals that have more than just a house to protect from Medicaid, a trust may be the ideal solution.

Comparing Asset Protection Strategies

When you compare the three Medicaid asset protection options:

• Gifting your house to your children

• Gifting your house to your children with a life estate

• Gifting your house to a Medicaid Trust

The Medicaid Trust tends to offer individuals a higher degree of control, flexibility, tax efficiency, and asset protection compared to the other two options.  The reason why people will sometimes shy away from setting up a trust is the cost.  You typically have to retain the services of a trust and estate attorney to set up your trust which may cost between $1,500 - $5,000. The cost varies depending on the attorney that you use and the complexity of your trust.

Does A Trust Have To File A Tax Return

For individuals that are using the Medicaid trust to protect just their primary residence, their only cost may be to set up the trust without the need for an annual trust tax filing because a primary residence is usually not an income-producing property.  However, if your trust owns assets other than your primary residence, depending on the level of income produced by the trust assets, an annual tax filing may be required each year.

About Michael……...

Hi, I’m Michael Ruger. I’m the managing partner of Greenbush Financial Group and the creator of the nationally recognized Money Smart Board blog . I created the blog because there are a lot of events in life that require important financial decisions. The goal is to help our readers avoid big financial missteps, discover financial solutions that they were not aware of, and to optimize their financial future.

Don’t Gift Your House To Your Children

A common financial mistake that I see people make when attempting to protect their house from a long-term care event is gifting their house to their children.   While you may be successful at protecting the house from a Medicaid spend-down situation, you will also inadvertently be handing your children a huge tax liability after you pass away.  A tax liability, that with proper planning, could be avoided entirely.

Asset Protection Strategy

As individuals enter their retirement years, they become rightfully more concerned about a long-term care event happening at some point in the future.  The most recent statistic that I saw stated that “someone turning age 65 today has almost a 70% chance of needing some type of long-term care services at some point in the future” (Source: longtermcare.gov). 

Long-term care is expensive, and most states require you to spend down your countable assets until you reach a level where Medicaid starts to pick up the tab.    Different states have different rules about the spend-down process.  However, there are ways to protect your assets from this Medicaid spend-down process. 

In New York, the primary residence is not subject to the spend-down process but Medicaid can place a lien against your estate, so after you pass, they force your beneficiaries to sell the house, so Medicaid can recoup the money that they paid for your long-term care expenses. Since most people would prefer to avoid this situation and have their house passed to their children, they we'll sometimes gift the house to their kids while they're still alive to get it out of their name.

5 Year Look Back Rule

Gifting your house to your kids may be an effective way to protect the primary residence from a Medicaid lien, but this has to be done well before the long-term care event.  In New York, Medicaid has a 5-year look back, which means anything that was gifted away 5 years before applying for Medicaid is back on the table for the spend down and Medicaid estate lien.   However, if you gift your house to your kids more than 5 years before applying for Medicaid, the house is completely protected.

Tax Gifting Rules

So what’s the problem with this strategy?  Answer, taxes.  When you gift someone a house, they inherit your cost basis in the property. If you purchased your house 30 years ago for $100,000, you gift it to your children, and then they sell the house after you pass for $500,000; they will have to pay tax on the $400,000 gain in the value of the house.  It would be taxed at a long-term capital gains rate, but for someone living in New York, tax liability might be 15% federal plus 7% state tax, resulting in a total tax rate of 22%.  Some quick math:

$400,000 gain x 22% Tax Rate = $88,000 Tax Liability

Medicaid Trust Solution

Good news: there is a way to altogether avoid this tax liability to your beneficiaries AND protect your house from a long-term care event by setting up a Grantor Irrevocable Trust (Medicaid Trust) to own your house.  With this solution, you establish an Irrevocable Trust to own your house, you gift your house to your trust just like you would gift it to your kids, but when you pass away, your house receives a “step-up in cost basis” prior to it passing to your children.   A step-up in cost basis means the cost basis of that asset steps up the asset’s value on the day you pass away. 

From the earlier example, you bought your house 30 years ago for $100,000, and you gift it to your Irrevocable Trust; when you pass away, the house is worth $500,000.  Since a Grantor Irrevocable Trust owned your house, it passes through your estate, receives a step-up to $500,000, and your children can sell the house the next day and have ZERO tax liability.

The Cost of Setting Up A Medicaid Trust

So why doesn’t every one set up a Medicaid Trust to own their house? Sometimes people are scared away by the cost of setting up the trust.  Setting up the trust could cost between $2,000 - $10,000 depending on the trust and estate attorney that you engage to set up your trust.   Even though there is a cost to setting up the trust, I always compare that to the cost of not setting up your trust and leaving your beneficiaries with that huge tax liability.   In the example we looked at earlier, paying the $3,000 to set up the trust would have saved the kids from having to pay $88,000 in taxes when they sold the house after you passed.

Preserves $500,000 Primary Residence Exclusion

By gifting your house to a grantor irrevocable trust instead of your children, you also preserve the long-term capital gain exclusion allowance if you decide to sell your house at some point in the future.  When you sell your primary residence, you are allowed to exclude the following gain from taxation depending on your filing status:

• Single Filer: $250,000

• Joint Filer: $500,000

If you gift your house to your children and then five years from now, you decide to sell your house for whatever reason while you are still alive, it would trigger a tax event for your kids because they technically own your house, and it’s not their primary residence.  By having your house owned by your Grantor Irrevocable Trust, if you were to sell your house, you would be eligible for the primary residence gain exclusion, and the trust could either buy your next house or you could deposit the proceeds to a trust account so the assets never leave the trust and remain protected for the 5-year lookback rule.

How Do Medicaid Trusts Work?

This article was meant to highlight the pitfall of gifting your house to your kids; however, if you would like to learn more about the Medicaid Trust solution and the Medicaid spend down process, please feel free to watch our videos on these topics below:

• Video: How To Protect Assets From The Nursing Home

• Video:  Should You Put Your House In A Trust?  

About Michael……...

Hi, I’m Michael Ruger. I’m the managing partner of Greenbush Financial Group and the creator of the nationally recognized Money Smart Board blog . I created the blog because there are a lot of events in life that require important financial decisions. The goal is to help our readers avoid big financial missteps, discover financial solutions that they were not aware of, and to optimize their financial future.

A CFP® Explains: Wills, Health Proxy, Power of Attorney, & Trusts

When we are constructing financial plans for clients, we inevitably get to the estate planning portion of the plan, and ask them “Do you have updated wills, a health proxy, and a power of attorney in place?”  The most common responses that we receive are: 

• “I know we should have but we never did”

• “I did but it was over 10 years ago”

• “I have a will but not a health proxy or a power of attorney”

• “I have heard about trusts, should I have one?”

The Will, Health Proxy, and Power of Attorney are the three main estate documents that most people should have.  In this article I will review: 

• How Wills work and items that you should include in your Will

• Why you should have a Health Proxy and how they work

• Power of Attorney

• The probate process

• Considering a testamentary trust

• Assets that pass outside of the Will

• Revocable Trusts & Irrevocable Trusts

• Estate planning tips

• How much does it cost to establish a will, health proxy, and a power of attorney

Establishing A Will

The most basic estate document that most people are aware of is a written Will.   The Will provides specific guidance as to who will receive your assets after you have passed away.  The Will also establishes who would be the guardian of your minor children should you pass away prior to your children reaching the age of majority.  Without a Will, state laws and the court system that know nothing about you, will decide who receives your assets and who will be the guardian of your minor children; not a situation that most people want. 

The Will can be a very simple document.  If you are married and have children, the Will may state that if you pass away everything goes to your spouse but if both you and your spouse were to pass away simultaneously, the assets go to the children.  For individuals or married couples without children, or for married couples that have been divorced, it’s also critical to have a Will to provide direction as to what will happen to your assets if you were to pass away. 

You can engage an estate attorney to complete a simple Will or if your Will is very simple and straightforward, you may elect to use a do-it-yourself option through a platform like Legal Zoom.   We typically encourage clients to meet with an estate attorney because when it comes to estate planning many people don’t know what questions to ask to get the right documents and plan in place.  If you are married with minor children, and you and your spouse were to pass away leaving all the assets to the kids, with a simple Will, they would have access to their full inheritance at age 18.  An 18 year old having access to large sums of money may not be an optimal situation.   In those cases, you may want to include a testamentary trust or revocable trust in your estate plan to put some restrictions in place as to how and when your children will have access to their inheritance. 

Probate

I'm going pause here for a moment and explain what probate is and the probate process. When someone passes away, all of the assets included in their estate go through what's called a “probate process”.  The probate process is a legal process of accounting for all of your assets, debts, and transferring your assets to the beneficiaries of your estate.  The person listed in your will as the “executor” is responsible for coordinating the probate process.  Depending on the size of the estate, your executor will usually work with an attorney, an accountant, and possibly appraiser, to: 

• Value the assets in your estate

• Work with the courts to process your estate

• Pay outstanding expenses or debts

• Coordinate the transfer of assets to your beneficiaries

Since the probate process is a legal process involving the courts, the process often takes longer than beneficiaries expect.  Individuals will make the incorrect assumption that when you pass away, they just read the will, and your beneficiaries receive the assets within a few days or weeks; unfortunately that's not that case.  It’s not uncommon for the probate process to take 6 to 12 months and there are expenses involved with probating an estate.  If it’s a complex estate, it could take over a year to complete the probate process. 

For these reasons, it’s a common goal with estate planning to find ways to avoid the probate process and pass you assets directly to your beneficiaries.  I will explain more about these strategies later on.  But circling back to our discussion about the Will, if all you have is a Will, when you pass away, the assets in your estate will pass through this probate process. 

Testamentary Trusts

There are a lot of different types of trusts within in estate planning world. One of the most basic and common trusts, especially for individuals with children under that age of 25, is a testamentary trust. A testamentary trust is a trust that is built into your will.  With at testamentary trust, you are not establishing a trust today , but rather, if you pass away, a trust is established during the probate process and you can direct assets to the trust.  Building a testamentary trust into your Will gives you some control over how the assets are distributed to the beneficiaries after you have passed away. 

It's common for individuals or married couples with children under that age of 25, to build these testamentary trusts into their Wills.  I will illustrate how these trusts work in the example below. 

Example: Jim and Sarah have two children, Rob age 14 and Wendy age 8.  Between the value of their house, life insurance policies, and other assets, their estate would total $1.5M.  Jim & Sarah realize that if something were to happen to them tomorrow, they would not want their kids to inherit $1.5M when they turn age 18 because they might not go to college, they may try to start a business that fails, buy a Corvette, etc. In their Will they establish a Testamentary Trust that states that if both parents pass away prior to the children turning age 25, all of their assets will flow into a trust, and that Sarah’s brother Harold will serve as the trustee. Harold as the trustee is able to distribute cash from the trust for living expenses, education, health expenses, and other expenses deemed necessary for the well being of the children. The children will receive 1/3 of their inheritance at age 25, 30, and 35. 

You can design these testamentary trusts however you would like. In the Will you would designate who will be the trustee of your trust and the terms of the trust. 

IMPORTANT NOTE: Testamentary trusts do not avoid probate like other trusts do.  The trust is established as part of the probate process. 

Revocable Trusts & Irrevocable Trusts

It's also common for individuals and married couples to consider establishing either a Revocable Trust or Irrevocable Trust as part of their estate planning.  These are separate from Testamentary Trusts.  Revocable Trusts and Irrevocable Trusts are being established today and assets owned by the trust pass in accordance with the terms set forth in the trust document.   There are material differences between these two types of trusts but some primary reasons why people establish these types of trust are to: 

• Avoid probate

• Protecting assets from a long term event

• Control how and when assets are distributed beyond the date of death

• Reducing the size of the estate

• Advanced tax strategies

Assets That Pass Outside of The Will

There are certain assets that pass outside of the Will.  Many of these “other assets” pass by “contract”, meaning there are beneficiaries designated on those accounts. A common example of assets that pass by contract are 401(k) accounts, IRA’s, annuities, and life insurance.  When you set up those accounts you typically designate beneficiaries for each account and your Will could say something completely different. The assets that pass by contract do not have to go through the probate process unless the beneficiary listed on the account is your estate which is usually not an advantageous election for most individuals. 

Transfer On Death Accounts (TOD)

One of the estate planning strategies that we use with clients is instead of holding an individual investment account in the name of the individual, we will register the account as a “transfer on death” (TOD) account.    If you have an individual brokerage account and you pass away, the value of that account will have to go through probate.  By simply adding the TOD feature to an existing individual brokerage account which lists beneficiaries similar to a 401(K) or IRA account, that account now avoids probate, and passes by contract directly to the beneficiaries.

Depending on the assets that make up your estate, you may be able to setup TOD accounts as opposed to going through the process of setting up trusts but it varies from person to person. 

Power of Attorney

Let’s shift gears now over to the Power of Attorney document.  A Power of Attorney document is important because it allows someone to step into your shoes and handle your financial affairs, should you become incapacitated.   Some common examples are: 

Example 1: If you're in a car accident and end up in a coma, for accounts that are held only in your name, such as a checking account, investment account, or credit card, they will only speak to you.  Being married does not give your spouse access financially to those accounts while you are still alive but your spouse may need access to them to continue to pay your bills or get access to cash to pay expenses while you're incapacitated.   Having a power of attorney document would allow your spouse or trusted individual named as your “agent” to act financially on your behalf. 

Example 2:  Having a power of attorney in place is key for Long Term Care events.  If you have a spouse or parent and they have a stroke, develop dementia, or another health event that renders them unable to handle their personal finances, you could step in as their agent and handle their personal finances.  In long term care situations that can often mean paying a nursing home, applying for Medicaid, paying medical bills, or shifting the ownership of assets to protect from a Medicaid spend down. 

The Power of Attorney can also be built so your agent is not given that power today but rather it would only be given if a triggering event happened sometime in the future.   With this document you really have to name someone you 100% trust.   As financial planners, we have seen cases where there is abuse of the Power of Attorney powers and it’s never pretty.  It's not uncommon for a power of attorney to allow the agent to make gifts as a planning tool, but that might also include gifts to themselves, so you have to fully trust your agent and the powers that you provide to them. 

Health Proxy

The health proxy is usually the least fun estate document to complete but is equally important.  In this document you are naming the individual that has the right to make your health decisions for you if you are incapacitated.  This document spells out what you want and don’t want to have happen if certain health events occur. While it's not uncommon for individuals to be a little uncomfortable completing this document due to the nature of the questions, it's a lot better to complete it now, versus your family members trying to determine what your wishes would be when a severe health event has already occurred. 

The health proxy will list items like: 

• Would you be willing to be put on life support?

• If you could not eat, would you allow them to use a feeding tub

• Resuscitation preferences

• Willingness to accept blood transfusions

Again, not fun things to think about but by you making these decisions while you are of sound body and mind, it takes away the difficult situation where your family members have to decide in the heat of the moment what you would have wanted.  That situation can sometimes tear families apart. 

Keep Your Estate Plan Up To Date

All too often, we run into this situation where a client will acknowledge that they have estate documents, but they were established 20 years ago, and they never made any changes.  It makes sense to meet with your estate attorney and revisit your estate plan: 

• Every five years

• If you move to a different state

• When Congress makes major changes to the estate tax rules

The estate laws vary state by state.  If we have clients that are planning to move and they plan to change their state of domicile to another state, we will often encourage them to meet with an estate attorney within that state once the move is complete.    Congress has also made a number of changes to the federal estate tax laws over the past few years, with potentially more in the works, and not revisiting the estate plan could end up costing your beneficiaries tens of thousands of dollars in estate taxes that could have been avoided with some advanced planning. 

Cost of Estate Documents

The cost of establishing a Will, Health Proxy, Power of Attorney, and Trusts, often varies based on the complexity of your estate plan.   A simple Will may cost less than $1,000 to establish through an estate attorney.   Establishing all three documents: Will, Health Proxy, and Power of Attorney may cost somewhere between $1,000 - $3,000.  While it's not uncommon for individuals to be surprised by the cost of setting up these estate documents, I always urge people to think about the cost of not having those documents in place.  The probate process with professionals involved could cost thousands of dollar, your beneficiaries could lose thousands of dollars in taxes that could have been avoided, not to mention the emotional toll on your family trying to figure out what you would have wanted without clear guidance from your estate documents. Revocable Trusts and Irrevocable Trust

About Michael……...

Hi, I’m Michael Ruger. I’m the managing partner of Greenbush Financial Group and the creator of the nationally recognized Money Smart Board blog . I created the blog because there are a lot of events in life that require important financial decisions. The goal is to help our readers avoid big financial missteps, discover financial solutions that they were not aware of, and to optimize their financial future.

How To Protect Assets From The Nursing Home

When a family member has a health event that requires them to enter a nursing home or need full-time home health care, it can be an extremely stressful financial event for their spouse, children, grandchildren, or caretaker.  The monthly cost of a nursing home is typically between $10,000 - $15,000 per month and without advanced planning it often requires a family to spend through almost all of their assets before they qualify for Medicaid. 

As we all live longer, we become more frail in our 80’s and 90’s, which increases the probability of a long term care event occurring.  Many individuals that we meet with have already experienced a long term care event with their parent or grandparents and they have seen first hand the painful process of watching them spend through all of their assets.  For couples that are married, it can leave the spouse that is not in need of care in a very difficult financial situation as pensions, social security, and martial assets have to be pledged toward the cost of the care for their spouse.  For individuals and widows, the burden is placed on their family or friends to scramble to liquidate assets, access personal financial records, and watch the inheritance for their heirs be depleted in a very short period of time. 

I often ask my clients this simple question, “Would you rather your house and assets go to your kids or go to the nursing home?”  As you would guess, most people say “my kids”.  With enough advanced planning you have that choice and today I’m going to walk you through some of the strategies that we use with our clients to protect assets from long term care events. 

Strategies Vary State By State

Since the Medicaid rules vary from state to state, the strategies that I'm presenting in this article can be used by New York State residents. However, if you are resident of another state, this article will still help you to understand asset protection strategies that are commonly used but you should consult with an elder law expert in your state to determine the appropriate application of these strategies. 

Long Term Care Insurance

While having a long term care insurance policy in place is ideal because if a long term event occurs it pays out and covers the cost, there are a number of challenges associated with long-term care insurance including: 

• Insurance companies will rarely issue policies after you reach age 70

• If you have any issues within your health history, they may not issue you a policy

• The cost of the policies can be expensive

It’s not uncommon for a good long-term care insurance policy to cost an individual between $4,000 and $6,000 per year.  The reason why the insurance is more expensive than other types of insurance is there is a high likelihood that if you live past age 65, at some point you will experience a long term care event.  Insurance companies don’t like that. Insurance companies like issuing policies for events that have a low probability of occurring, similar to life insurance.  In addition, when these long term care policies pay out, they pay out big dollar amounts because the costs are so high.  For these reasons, long-term care insurance policies have become more of a luxury item instead of a common solution that is used by individuals and family to protect their assets from a long term care event.

So if you don’t have a long-term care insurance policy, what can you do to protect your assets from a long-term event? 

Establish A Medicaid Trust

If an individual does not have a long term care insurance policy to help protect against the cost of a long term care event, the next strategy to consider is setting up a Medicaid Trust to own their non-retirement assets.  Non-retirement assets can include a house, investment account, stocks, non-qualified annuities, permanent life insurance policies, and other assets not held within a Traditional IRA or other type of pre-tax retirement account.  This is how the strategy works: 

• Establish a Medicaid Trust

• Transfer assets from the individual’s name into the name of the trust

• Assets are held in the trust for at least 5 years

• The individual experiences a long term care event requiring them to enter a nursing home

• Since the trust has owned the assets for more than 5 years, they are no longer countable assets, the individual can automatically qualify for Medicaid as long as their assets outside of the trust are below the asset allowance threshold; Medicaid pays the nursing home for their care, and the trust assets are preserved for the spouse and their heirs.

Medicaid 5 Year Look Back Period

In New York, Medicaid has a 5 year look back period.  The 5 year look back period was put into place to prevent individuals from gifting away all of their assets right before or after they experience a long term care event in an effort to qualify for Medicaid.  In 2020, New York requires residents to spend down all of their countable assets until they are below the $15,750 asset allowance threshold.  Once below that level, the individual qualifies for Medicaid, and Medicaid will pay the nursing home costs.  When an individual submits a Medicaid application, they request 5 years worth of financial records. If that individual gave any asset away within the last five years, whether it’s to a person or a trust, those asset will be brought back in as “countable assets” required to be spent down before the individual will qualify for Medicaid. 

Example:  Jim is 88 years old and has $100,000 in his savings account. His health is beginning to deteriorate and he gifts $90,000 to his kids in an effort to reduce his assets to qualify for Medicaid.  Two years later Jim has a stroke requiring him to enter a nursing home, and only has $10,000 in his savings account.  When he applies for Medicaid, they will request 5 years worth of his bank records and discover that he gifted $90,000 away to his kids two years ago.  That $90,000 is a countable asset subject to spend down even though he no longer has it.  But it gets worse, his kids spent the $90,000, so they are unable to return the $90,000 to Jim. Jim is not eligible for Medicaid and there is no cash available to pay for his care. 

Medicaid Trust Strategy

For the Medicaid Trust strategy to work, the assets have to be put into the trust 5 years prior to submission of the Medicaid application.  Once the assets are owned by the trust for more than 5 years, regardless of the dollar value in the trust, it’s no longer a countable asset, and the individual can automatically qualify for Medicaid. 

Example: At age 84, Jim sets up an Medicaid trust, and moves $90,000 of his $100,000 in cash into the trust.  At age 90, Jim has a stroke requiring him to enter a nursing home, but now since the assets were in the trust for more than 5 years, he is no longer required to spend down the $90,000, and he qualifies for Medicaid. That $90,000 is now reserved for his kids who are the beneficiaries of the trust. 

Establishing a trust instead of gifting assets away to family members can help to preserve those assets against the situation where the individual does not make it past the 5 year look back period and the money gifted has already been spent by the beneficiaries. 

How Do Medicaid Trusts Work?

Medicaid trusts are considered “irrevocable trusts” which means when you move assets into the trust you technically do not own them anymore.  By setting up a trust, you are essentially establishing an entity, with it’s own Tax ID, to own your assets.  The thought of giving away assets often scares individuals away for setting up these trusts but it shouldn’t.   Estate attorneys often include language in the trust documents to offer some flexibility.  Before I go into some examples, I first want to define some trust terms: 

Grantor:  The grantor is the person that currently owns the assets and is now gifting it (or transferring it) into their trust.  If for example, you are doing this planning for your parents, they would be the “grantors” of the trust. 

Trustee:  The trustee is the individual or individual(s) that are responsible for managing the assets owned by the trust.  This is typically not the grantor.  The reason being is if you gift your assets to a trust but you still have full control of it, the question arises, have you really given it away?   In most cases, the grantor will designate one or more of their children as trustees.  The trustees are responsible for carrying out the terms of the trust 

Beneficiaries:   The beneficiaries of the trust are the individuals that are entitled to receive the assets typically after the grantor or grantors have passed away. It’s common for the beneficiaries of the trust to be the same as the beneficiaries listed in a person’s will. 

Access to Income

When you gift assets to a Medicaid trust, you technically no longer have access to the principle, but grantors still have access to any “income” generated by the trust assets.  This is most easily explained as an example. 

Mark & Sarah have traditional IRA’s, their primary residence, and an investment account with a value of $200,000.  They do not anticipate needing to access the $200,000 to supplement their income and want to protect that asset from a long term care event so they know that their kids will inherit it.  They establish a Medicaid trust with their two children designated a co-trustees and they move the ownership of the house and the $200,000 investment account into the name of the trust.  If the holdings in the $200,000 investment account are producing dividend and interest income, Mark & Sarah are allowed to receive that income each year because they always have access to the income generated by the trust, they just can’t access the principal portion of the trust assets. 

Revoke Part Of The Trust

Estate attorneys may also build in a feature which allows the trustees to “revoke“ all or a portion of the trust assets.  Let’s build on the Mark & Sarah example above: 

Mark and Sarah gift their house and the $200,000 investment account to their Medicaid trust but two years later Sarah incurs an unforeseen medical event and they need access to $50,000.  Since the trustee was given the power to revoke all or a portion of the trust asset, the trustee works with the estate attorney to revoke $50,000 of the trust assets in the investment account and send it to the grantors (Mark & Sarah).  The $150,000 remaining in the investment account continues to work toward that 5 year look back period, and Mark & Sarah have the money they need for the medical expenses. 

Gifts To The Beneficiaries

An alternative solution to the same scenario listed above is that the trustees can be given the power to gift assets to the beneficiaries while the grantors are still alive.  Essentially the trustees, who are often also the beneficiaries of the trust, gift themselves assets from the trust, and then turn around and gift those assets back to the grantors.  In the Mark & Sarah example above, instead of revoking part of the trust assets, their children, who are the trustees, gift $50,000 to themselves, and then turn around and gift $50,000 to their parents (Mark & Sarah) to pay their medical bills. But with gifting powers, you really have to trust the individuals that are serving as trustees of your Medicaid trust because they cannot be required to gift the money back to the grantor. 

Putting Your House In The Trust

It's common for individuals to think:  “Well all I have is my house, I don’t have any investment accounts, so there is no point in setting up a trust because my house is always protected.”  That's incorrect.  If you own your house and you experience a long term care event: 

• Your primary residence is not a countable assets for Medicaid eligibility and you can qualify for Medicaid while still owning your house

• Medicaid cannot force you to sell your house while you or your spouse are still alive and then spend down those assets for your care

However, and this is super important, even though your primary residence is not a countable asset and they can't force you to sell it while you or your spouse are still alive, Medicaid can put a LIEN against your house for the amount that they pay the nursing home for your care.  So when you or your spouse pass away, the value of your house is included in your estate, Medicaid will force the estate to sell the house and they will recapture the amount that they paid for your care. 

Example:  Linda’s husband Tim passed away three years ago and she is the surviving spouse.  Her only asset is the primary residence that she lives in worth $250,000 with no mortgage. Linda has a stroke and is required to enter a nursing home. Because she has no other assets besides her primary residence, she qualifies for Medicaid, and Medicaid pays for the cost of her care at the nursing home.  Linda passes away 2 year later.  During that two year period in the nursing home, Medicaid paid $260,000 for her care.  Linda's children, who were expecting to inherit the house when she passed away, now find out that Medicaid has a lien against the house for $260,000; meaning when they sell the house, the full $250,000 goes directly to Medicaid, and the kids receive nothing. 

If Linda had put the house into a Medicaid trust 5 years prior to her stroke, she would have immediately qualified for Medicaid, but Medicaid would not be entitled to put a lien against her primary residence. When she passes away, since the house is owned by the trust, there is no probate, and her children receive the full value of the house. 

Again, the way I phrase this to my clients is, would you rather your kids inherit your house or would you rather it go to the nursing home?  With some advance planning you have a choice. 

The Cost of Setting Up A Trust

The other factor that has scared some people away from setting up a Medicaid trust is the setup cost.  It’s not uncommon for an estate attorney to charge between $3,000 - $8,000 to setup a Medicaid trust. But in the example that we just looked at above with Linda, you are spending $5,000 today to setup a trust, that is going to potentially protect an asset worth $250,000. 

The next objection, “well what if I spend the money setting up the trust and I don’t make it past the 5 year look back period?”   If that’s the case, the $5,000 that you spent on setting up the trust is just $5,000 less that nursing home is going to receive for your care.  To qualify for Medicaid, you have to spend down your assets below the $15,750 threshold so if you have countable assets above that amount, you would have lost the money to nursing home anyway. 

Countable Assets

I have mentioned the term “countable assets” a few times throughout this article; countable assets are the assets that are subject to that Medicaid spend down.   Instead of going through the long list of assets that are countable it's easier to explain which assets are NOT countable.  The value of your primary residence is not a countable asset even though it's subject to the lien.   Pre-tax retirement accounts such as Traditional IRA’s and 401(k) plans are not countable assets.   Pre-paid funeral expenses up to a specific dollar threshold are also not a countable asset. Outside of those three assets, almost everything else is a countable asset. 

Retirement Accounts

As I just mentioned above, pre-tax retirement accounts are not subject to the Medicaid spend down, however, Medicaid does require you to take required minimum distributions (RMD’s) from those pre-tax retirement accounts each year and contribute those directly to the cost of your care. Notice that I keep saying “pre-tax”, that’s because Roth IRA’s are countable assets subject to spend down.  If you have $100,000 in a Roth IRA, Medicaid will require you to spend down that account until you reach the $15,750 in total countable assets qualifying you for Medicaid. 

Pensions & Social Security

You can use Medicaid trusts to protect assets but they cannot be used to protect “income”.  Monthly pension payments and Social Security income are subject to the Medicaid income threshold.  For individuals that are single or widowed, your income has to below $875 per month in 2020 to qualify for Community Medicaid and below $50 per month for Chronic Care Medicaid.  If an individual is receiving social security, pensions, or other income sources above that threshold, all of that income automatically goes toward their care. 

If you are married and your spouse is the one that has entered the nursing home, you are considered the “community spouse”.  As the community spouse you are allowed to keep $3,216 per month in income. 

Example:  Rob and Tracey are married, Rob just entered the nursing home, but Tracey is still living in their primary residence. Their monthly income is as follows: 

Rob Social Security:         $2,000

Tracy Social Security:      $2,000

Rob Pension:                     $3,000

Total Monthly Income:  $7,000

Of the $7,000 in total monthly income that Tracey is used to receiving, once Rob qualifies for Medicaid, she will only be receiving $3,216 per month. The rest of the monthly income would go toward Rob’s care at the nursing home. 

Community Spouse Asset Allowance

If you are married and your spouse has a long term care event requiring them to go into a nursing home and you plan to apply for Medicaid, you as the community spouse are allowed to keep countable assets up to the greater of: 

• $74,820; or

• One-half of the couple’s total combined assets up to $128,640 (in 2020)

Take Action

Unless you have a long term care insurance policy or enough assets set aside to offset the financial risk of a long term care event occurring in the future, setting up a Medicaid trust may make sense.   But I also want to provide you with a quick list of considerations when establishing a Medicaid trust: 

• You should only transfer assets to the trust that you know you are not going to need to supplement your income in retirement.

• Step up in basis: By establishing a Medicaid trust as opposed to gifting assets directly to individuals, the estate attorney can include language that will allow the assets of the trust to receive a step up in basis when the grantor passes away which can mitigate a huge tax hit for the beneficiaries.

• For these strategies to work it takes advanced planning so start the process now. Each asset that is transferred into the trust has its own 5 year look back period. The sooner you get the assets transferred into the trust, the sooner that clock starts.

• If you are doing this planning for a parent, grandparent, or other family member, it's important to consult with professionals that are familiar with the elder law and Medicaid rules for the state that the individual resides in. These rules, limits, and trust strategies vary from state to state.

Contact Us For Help If you are a New York resident doing this type of planning for yourself or for a family member that is a resident of New York, please feel free to reach out to us with questions.  We can help you to better understand how to protect assets from a long term care events and connect you with an  estate attorney that can assist you with the establishment of Medicaid trust if the trust route is the most appropriate strategy for asset protection. Disclosure:  This article is for educational purposes only.  It does not contain legal, Medicaid, or tax advice. You should consult with a professional for advice tailored to your personal financial situation. 

About Michael……...

Hi, I’m Michael Ruger. I’m the managing partner of Greenbush Financial Group and the creator of the nationally recognized Money Smart Board blog . I created the blog because there are a lot of events in life that require important financial decisions. The goal is to help our readers avoid big financial missteps, discover financial solutions that they were not aware of, and to optimize their financial future.

Do I Have To Pay Tax On A House That I Inherited?

Do I Have To Pay Tax On A House That I Inherited?

The tax rules are different depending on the type of assets that you inherit. If you inherit a house, you may or may not have a tax liability when you go to sell it. This will largely depend on whose name was on the deed when the house was passed to you.  There are also special exceptions that come into play if the house is owned by a trust, or if it was gifted with the kids prior to their parents passing away. On the bright side, with some advanced planning, heirs can often times avoid having to pay tax on real estate assets when they pass to them as an inheritance. 

Step-up In Basis

Many assets that are included in the decedent’s estate receive what’s called a step-up in basis. As with any asset that is not held in a retirement account, you must be able to identify the “cost basis”, or in other words, what you originally paid for it. Then when you eventually sell that asset, you don’t pay tax on the cost basis, but you pay tax on the gain.

Example:  You buy a rental property for $200,000 and 10 years later you sell that rental property for $300,000.  When you sell it, $200,000 is returned to you tax free and you pay long-term capital gains tax on the $100,000 gain.

Inheritance Example: Now let’s look at how the step-up works. Your parents bought their house 30 years ago for $100,000 and the house is now worth $300,000.  When your parents pass away and you inherit the house, the house receives a step-up in basis to the fair market value of the house as of the date of death. This means that when you inherit the house, your cost basis will be $300,000 and not the $100,000 that they paid for it. Therefore, if you sell the house the next day for $300,000, you receive that money 100% tax-free due to the step-up in basis.

Appreciation After Date of Death

Let’s build on the example above.  There are additional tax considerations if you inherit a house and continue to hold it as an investment and then sell it at a later date.  While you receive the step-up in basis as of the date of death, the appreciation that occurs on that asset between the date of death and when you sell it is going to be taxable to you.

Example: Your parents passed away June 2019 and at that time their house is worth $300,000. The house receives the step-up in basis to $300,000. However, lets say this time you rent the house or don’t sell it until September 2020. When you sell the house in September 2020 for $350,000, you will receive the $300,000 tax-free due to the step-up in basis, but you’ll have to pay capital gains tax on the $50,000 gain that occurred between date of death and when you sold house.

Caution: Gifting The House To The Kids

In an effort to protect the house from the risk of a long-term event, sometimes individuals will gift their house to their kids while they are still alive. Some see this as a way to remove themselves from the ownership of their house to start the five-year Medicaid look back period, however, there is a tax disaster waiting for you with the strategy.

When you gift an asset to someone, they inherit your cost basis in that asset, so when you pass away, that asset does not receive a step-up in basis because you don’t own it and it’s not part of your estate.

Example:  Your parents change the deed on the house to you and your siblings while they’re still alive to protect assets from a possible nursing home event.  They bought the house 30 years ago for $100,000, and when they pass away it’s worth $300,000. Since they gifted the assets to the kids while they were still alive, the house does not receive a step-up in basis when they pass away, and the cost basis on the house when the kids sell it is $100,000; in other words, the kids will have to pay tax on the $200,000 gain in the property.  Based on the long-term capital gains rates and possible state income tax, when the children sell the house, they may have a tax bill of $44,000 or more which could have been completely avoided with better advanced planning.

How To Avoid Paying Capital Gains Tax On Inherited Property

There are ways to both protect the house from a long-term event and still receive the step-up in basis when the current owners pass away. This process involves setting up an irrevocable trust to own the house which then protects the house from a long-term event as long as it’s held in the trust for at least five years.

Now, we do have to get technical for a second. When an asset is owned by an irrevocable trust, it is technically removed from your estate. Most assets that are not included in your estate when you pass do not receive a step-up in basis; however, if the estate attorney that drafts the trust document puts the correct language within the trust, it allows you to protect the assets from a long-term event and receive a step-up in basis when the owners of the house pass away.

For this reason, it’s very important to work with an attorney that is experienced in handling trusts and estates, not a generalist. It only takes a few missing sentences from that document that can make the difference between getting that asset tax free or having a huge tax bill when you go to sell the house.

Establishing this trust can sometimes cost between $3,000 and $6,000. But by paying this amount upfront and doing the advance planning, you could save your heirs 10 times that amount by avoiding a big tax bill when they inherit the house.

Making The House Your Primary

In the case that the house is gifted to the children prior to the parents passing away and the house is not awarded the step-up in basis, there is an advance tax planning strategy if the conditions are right to avoid the big tax bill.  If one of the children would be interested in making their parent’s house their primary residence for two years, then they are then eligible for either the $250,000 or $500,000 capital gains exclusion.

According to current tax law, if the house you live in has been your primary residence for two of the previous five years, when you go to sell the house you are allowed to exclude $250,000 worth of gain for single filers and $500,000 worth of gain for married filing joint.  This advanced tax strategy is more easily executed when there is a single heir and can get a little more complex when there are multiple heirs.

About Michael……...

Hi, I’m Michael Ruger. I’m the managing partner of Greenbush Financial Group and the creator of the nationally recognized Money Smart Board blog . I created the blog because there are a lot of events in life that require important financial decisions. The goal is to help our readers avoid big financial missteps, discover financial solutions that they were not aware of, and to optimize their financial future.