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Life Estate Law Changing Soon

Monday, June 16th, 2008

In Virginia, a life estate in real estate has always been treated as an exempt asset for the purposes of Medicaid eligibility. Unfortunately, the Virginia General Assembly recently passed legislation that instructs DMAS (the Department of Medical Assistance Services, the agency that oversees the Virginia Medicaid program) to amend the State Medicaid Plan to count all life estates as countable assets in the determination of Medicaid eligibility. This means that in the near future, life estates will no longer be considered exempt assets when applying for Medicaid.

Life estates have been used throughout Virginia history for many different purposes – Medicaid asset protection planning, estate planning, probate avoidance, and tax planning. This significant new change in the law, once implemented, will negatively affect many Virginians wishing to protect their homes from the devastating expenses of long-term care.

A Call to Action

Because DMAS has not yet amended the State Medicaid Plan, Medicaid still considers a life estate as an exempt resource, but this will soon change. If you own a home, or live with a child in the child’s home, and have been considering Medicaid Asset Protection, it is imperative that you contact us today. Together we can determine whether a life estate fits your long-term care planning needs.

What Is a Life Estate?

A life estate in real estate is a type of “split interest” ownership somewhat similar to a timeshare. If you own a timeshare, you have the exclusive right to use your timeshare property during your period of ownership, typically a certain week each year. If you own a life estate, you have the right to live in the property for the rest of your life, and your ownership interest terminates upon your death.

As of today, a life estate is still considered an “exempt asset” for Medicaid purposes, meaning you can own a life estate and still get Medicaid. However, the window of opportunity will soon be closing, though at this point we don’t know exactly when.

How Are Life Estates Used in Medicaid Asset Protection Planning?

One Medicaid planning strategy involves the sale of real estate, coupled with the retention of a life estate. For example, a mother can transfer a home to her daughter by deeding the property to the daughter with the mother keeping a “retained life estate.” This allows the mother the right to live in the home for her remaining lifetime and to be considered the owner of the home for most purposes.

Another Medicaid planning strategy involves a parent purchasing a life estate in the home of a child. Medicaid allows these asset protection techniques so long as the parent actually resides in the home for at least a year after the transaction.

A third Medicaid planning strategy involves the gift of real estate, coupled with a retained life estate. A gift of this nature (technically called a gift of the “remainder interest”) has many advantages over an outright gift of real estate. A few of the advantages are:

1) The parent, as owner of the life estate, continues to qualify for any property tax exemptions such as senior citizens exemptions that were available prior to the transfer.
2) The parent will not lose the legal right to live in the property.
3) The recipient(s) of the property receive a stepped-up basis for capital gains tax purposes.
4) Since the value of the remainder interest is lower than the full value of the entire piece of real estate, a gift of a remainder interest results in a shorter Medicaid penalty period than a transfer of the entire house.

Life Estate Deeds and the calculations that must be made in connection with the purchase or sale of life estates and/or remainder interests are extremely complicated, and should only be done by an experienced elder law attorney such as Evan Farr, and in connection with a comprehensive Asset Protection Plan.

If you own a home, live with a child in the child’s home, or are planning to live with a child in the child’s home in the future, please contact us today for a consultation to determine whether a life estate is right for you.

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Don’t Use An Off-the-Shelf Power of Attorney

Tuesday, June 3rd, 2008

A durable Power of Attorney is one of the most important estate planning documents you can have, because it allows you to appoint someone to act for you (your “Agent” or “Attorney-in-fact”) if you become incapacitated. Without a valid Power of Attorney, your loved ones would not have the authority to make decisions for you or manage your finances. It might even be necessary to ask a court to appoint someone as guardian or conservator, which is an expensive and time-consuming process. Moreover, the person appointed might not be the person you would have chosen for yourself.

While there are many “do-it-yourself” Power of Attorney forms available, you should consider having an elder law attorney draft this document for you, because there are many significant issues to consider. One size does not fit all.

The Agent’s Powers

The Power of Attorney sets out your Agent’s powers in detail. These powers are typically limited to buying or selling property, managing a business, paying debts, investing money, engaging in legal proceedings, borrowing money, cashing checks, and collecting debts. However, if you want to ensure that your Agent has the authority to do Medicaid planning on your behalf (because you are not able to do so yourself), then the Power of Attorney should also include the power to make gifts and uncompensated transfers, as well as the power to designate beneficiaries of your insurance policies and retirement plans. Using the gifting power to fund a trust and designating different beneficiaries are two extremely important strategies your Agent might need in order to do effective Medicaid asset protection on your behalf.

In Virginia, if a power is not specifically listed on the Power of Attorney, then the usual interpretation is that the power is not granted. The power to make gifts of your money and property is a vitally important aspect of Medicaid planning. If you want to ensure that your Agent has the widest possible range of powers to do Medicaid planning on your behalf to protect your assets if you must enter a nursing home, then your Power of Attorney must give your Agent the power to make or modify trusts, make gifts, and designate beneficiaries. These advanced powers are almost always lacking in “off-the-shelf” Power of Attorney forms, which is why it is so important to consult an elder law attorney.

Springing or Immediate

The Power of Attorney can take effect immediately or it can become effective only if you become incapacitated or disabled – the latter is called a “springing” Power of Attorney. While a springing Power of Attorney may seem like a good idea, it can cause delays and extra expense because your incapacity must be determined and verified (usually in writing) before your Agent may act. If you wish to sign a springing Power of Attorney, it is very important that the method for determining incapacity be clearly spelled out in the document.

Joint Agents

While it is possible to name more than one person as your Agent, this can lead to confusion. If you wish to name more than one person, the document should clearly specify whether all of your Agents must act together (all of them must sign checks, contracts, and the like) or whether each may act independently. It might make more sense and be less confusing to name a primary Agent, and one or more alternate Agents who may act if your primary Agent is not available.

Executing the Power of Attorney

To be valid and acceptable, your Power of Attorney must also be executed properly. Some states require only a signature, but most require that a Power of Attorney be notarized. Many states require witnesses. It is important to consult with an elder law attorney in your state to ensure your Power of Attorney is executed properly, so that it will be accepted by financial institutions.

Accepting a Power of Attorney

Even if you do everything correctly, some banks and other financial institutions are reluctant to accept a Power of Attorney over a year old. These institutions are afraid of a lawsuit if the Power of Attorney is no longer valid. The Farr Law Firm offers an Estate Plan Protection Program, which encourages you to meet with Mr. Farr for a short “legal check up” each year to assess your entire estate plan and to sign new Powers of Attorney and Advanced Medical Directives, ensuring that your documents remain current.

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New Capital Gains Tax Break Helps Surviving Spouses

Friday, April 4th, 2008

Widows and widowers who don’t want to sell their house right away will get a tax break under a new law. The Mortgage Forgiveness Debt Relief Act of 2007 signed into law Dec. 20, 2007, gives surviving spouses two years to sell their house and receive the full $500,000 capital gains exclusion that married couples are entitled to.

Overview of Capital Gains Tax

Almost everything you own and use for personal purposes, pleasure, or investment is a capital asset. When you sell a capital asset, the difference between the amounts you sell it for and your “basis” (usually the amount you paid for it) is a capital gain or a capital loss. While you must report all capital gains, you may deduct capital losses only on investment property, not on personal property.

Gain on Sale of Home

Tax law (Internal Revenue Code §121) provides an exclusion from gross income for the sale of a principal residence, if the property was owned and used by the taxpayer as the taxpayer’s principal residence for at least two of the five years preceding the date of the sale. The amount of the gain excluded is $250,000 for a taxpayer filing individually. Couples who are married and file taxes jointly can sell their main residence and exclude up to $500,000 of the gain from the sale from their gross income. In the case of a deceased spouse, the period during which the deceased spouse owned and used the property is counted for the surviving spouse. A taxpayer who owns property during the five year period, but who resides in any facility, including a nursing home licensed by a state, counts the time residing in the nursing home as use of the property. See IRS Publication 523, Selling Your Home (www.irs.gov/pub/irs-pdf/p523.pdf) or your tax preparer for more information and other requirements.

Summary of the New Law

Under the previous law, if a spouse died, the surviving spouse could file jointly — and therefore get the full $500,000 exclusion — only for the year in which the spouse died. The new law allows surviving spouses to get the full $500,000 exclusion if they sell their house within two years of the date of the spouse’s death and the other ownership and use requirements have been met. The result is that now widows or widowers who sell within two years may not have to pay any capital gains tax on the sale of the home.

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Seniors Need to File Tax Return

Thursday, March 13th, 2008

Seniors can benefit from the economic stimulus law enacted on February 13, 2008, but they need to file an income tax return. Seniors, disabled veterans, and veterans’ widows will receive $300 payments if they earned $3,000 in Social Security or veterans’ disability benefits in 2007. In addition, workers who earned at least $3,000, but not enough to pay income taxes, will be eligible for payments of $300. For higher income individuals, the law provides rebate checks of up to $600 per individual. Individuals who earn above $75,000 in 2007 will not receive a rebate check.

In order to get a rebate, you need to file an income tax return even if you do not have any tax liability. You will need to report any Social Security income on the tax return. This does not mean you will be taxed on your Social Security income, but you must report it in order to get the rebate. If you file the tax return on time, you should receive the rebate check in May or June.

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How to Avoid Estate Tax

Tuesday, March 4th, 2008

Federal tax law allows an unlimited transfer of property to a surviving spouse without imposing any estate tax. This is a result of the “unlimited marital deduction.” In addition to the unlimited marital deduction, Federal tax law allows every individual to transfer a specific amount tax-free at death to a beneficiary or beneficiaries other than a spouse. This amount, called the “exemption equivalent amount,” is currently $2 million and is scheduled to increase next year to $3.5 million. In 2010, the federal estate tax is scheduled to be completely repealed, only to be re-instated in 2011 with the exemption equivalent amount of only $1 million. Congress may change this law before 2011, but there is no guarantee.

If you are married and you leave everything to your spouse upon your death, your estate will not have to pay any estate taxes due to the effect of the unlimited marital deduction. However, upon the death of your spouse, all amounts in excess of the unified credit amount will be subject to Estate Tax at rates starting at 45%.

For married couples with assets in the range of $2 million to $4 million, the way to avoid or minimize this tax problem is to establish an estate plan so that upon the death of the first spouse a “Family Trust” (also called a “Credit Shelter Trust” or “ByPass Trust” or “B Trust”) is created. Typically, the purpose of the Family Trust is to provide support for the surviving spouse during his or her lifetime, with the remainder of the trust then going to the children upon the death of the surviving spouse.

 Example of Estate Plan Without a Family Trust:

John and Mary (husband and wife) have a combined estate with a total of $3 million in jointly-owned assets. John dies in March, 2008. Upon John’s death, his estate all transfers to Mary by right of survivorship; as a result of John’s unlimited marital deduction, no estate tax is due. Unfortunately, Mary dies 6 months after John. When Mary dies, her estate, which is now $3 million, will pay estate tax of $450,000 (45% of the $1 million which exceeds Mary’s $2 million exemption equivalent amount).

 Example of Estate Plan With a Family Trust:

Same scenario except that John and Mary each have a trust containing $1.5 million in assets. John dies in March, 2008. Upon John’s death, his trust becomes a Family Trust instead of being left directly to Mary. Mary is named as the trustee of the Family Trust and is allowed to receive all the income from the Family Trust plus five percent or five thousand dollars from the principal of the Family Trust every year. Mary also has the right to withdraw additional principal from the Family Trust so long as the money withdrawn is not used by Mary to exceed the standard of living established while John was still alive.

Mary dies 6 months after John. Upon the death of Mary, the Family Trust terminates and the $1.5 million in that trust goes to John and Mary’s children free of Estate Tax. Mary’s trust also terminates at that time and the $1.5 million in her trust also goes to their children free of Estate Tax. The result is a tax savings of $450,000.

 Flexible Planning Using a Disclaimer-Funded Family Trust:

Given the uncertainty of the future estate tax laws, many married couples desire to preserve post-death flexibility as to whether to establish a Family Trust upon the death of the first spouse. To allow this flexibility, couples can establish estate plans leaving everything outright to the surviving spouse, but providing a Disclaimer-Funded Family Trust in the event that the surviving spouse chooses to file a disclaimer. The idea is that the surviving spouse will meet with the estate planning attorney after the death of the first spouse to decide whether to disclaim and, if so, how much to disclaim. In making this decision, the surviving spouse would consider the amount of the assets, the status of the estate tax laws at that time, and his or her own economic needs. A sufficient amount could be disclaimed to fully fund the Family Trust of the first spouse to die or to partially fund the Family Trust. Partial funding of the Family Trust might be preferred because the amount not disclaimed, which will still be owned outright by the surviving spouse, may be less than the applicable exclusion amount available to that surviving spouse.

 Examples of Estate Planning With a Disclaimer-Funded Family Trust:

Example 1: Same scenario as above – John and Mary each have a trust containing $1.5 million in assets. John dies in January, 2009 ($3.5 million exemption). Upon John’s death, his trust distributes everything directly to Mary, subject to Mary’s right to disclaim. Mary decides not to disclaim because her total estate of $3 million is less than the $3.5 million exemption, and Mary believes that Congress will not allow the exemption equivalent amount to drop lower than $3.5 million.

Mary dies 6 months after John. When Mary dies, her $3 million estate will not pay any estate tax because it is less than her $3.5 million exemption. 

Example 2: Same scenario as above – John and Mary each have a trust containing $1.5 million in assets. John dies in January, 2011 ($1 million exemption). Upon John’s death, his trust distributes everything directly to Mary, subject to Mary’s right to disclaim. Mary decides to disclaim $1 million of John’s $1.5 million in assets in order to fully utilize John’s $1 million exemption.

Mary dies 6 months after John. When Mary dies, John’s Family Trust terminates and the $1 million in that trust goes to John and Mary’s children free of Estate Tax. Mary’s trust also terminates at that time and the $2 million in her trust will pay estate tax of $435,000. Had Mary not disclaimed $1 million upon John’s death, her estate of $3 million would pay estate tax of $945,000. The result of Mary’s disclaimer is a tax savings of $510,000.

Disadvantages of Using a Disclaimer-Funded Family Trust:

The reliance on a disclaimer-funded family trust can be problematic for several reasons. One potential problem is that after the death of the first spouse, the surviving spouse might change his or her mind and be unwilling to disclaim even though this is advisable for tax and estate planning purposes. Second, because the decision to disclaim must be made within 9 months after the first spouse’s demise and before the surviving spouse accepts any benefits from the assets to be disclaimed, the surviving spouse might inadvertently accept benefits before disclaiming, thereby frustrating the attempt to disclaim.

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Temporary Capital Gains Tax Break Can Help Seniors

Wednesday, February 6th, 2008

Over the next two years, seniors can take advantage of a significant capital gains tax break. From 2008 to 2010, taxpayers in the 10 and 15 percent tax brackets will pay zero percent in capital gains taxes. This means individuals in those tax brackets (the lowest two brackets) will be able to sell real esate, stocks and bonds, and other assets without paying any capital gains taxes. 26 U.S.C. Sec. 1(h);1(d) 1(g) 112.

This temporary tax break can be extremely useful for retirees, semi-retirees, and low-income seniors. Other potential beneficiaries of this zero percent tax include parents, children, and certain U. S. service members. With proper planning these taxpayers can generate income, implement various asset protection and asset management strategies, or satisfy gift and income shifting objectives at no tax cost. 

This capital gains tax cut can significantly benefit the following people:

- Adult children who support low-income parents, or seniors helping out adult children who fall into the 10 or 15 percent tax brackets. Instead of giving cash, you can give stocks and bonds instead, and if the parents or adult children sell the stocks and bonds between 2008 and 2010, they will not pay a capital gains tax on the proceeds.

- Retirees with investments in taxable accounts. Tax-deferred retirement savings plans are not affected by capital gains. But if you are a retiree with stocks or mutual funds in a taxable account, you can sell without incurring a capital gains tax. If you are planning on retiring this year, you may want to sell taxable investments and delay Social Security payments or distributions from a tax-deferred plan.

Be careful. There are some potential downsides to selling off investments, so you need to be sure it is the right step for you. Before you take any action, be sure to consult both an elder law attorney and a tax professional. The proceeds from the sale of the investments will be added to your income, which can have some unintended consequences. For example, it could push you into a higher tax bracket, thereby losing some of the benefit of the zero-percent tax rate. It could also affect eligibility for Medicaid or cause previously non-taxed Social Security benefits to be taxed.

If you would like to discuss estate planning or asset protection planning in light of this new tax break, please give us a call.

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A New Year’s Resolution

Monday, January 7th, 2008

It is customary to begin the New Year by tackling first those tasks that have been put off. As the holiday season winds down, why not begin the New Year by getting your estate in order? A revocable living trust might be the estate planning tool that is right for you.

A revocable living trust is a trust that you create while you are living. Using a revocable living trust as your primary estate planning tool means that your estate will not go through probate upon your death. You create a revocable living trust by signing a contractual document called a “Trust Agreement” or “Declaration of Trust.” You are typically the trustee of your own trust until your death. Upon your death or disability, a successor trustee whom you have named takes over as trustee of the trust and, after paying any valid debts, expenses, and taxes, distributes the trust assets to or for the benefit of your named beneficiaries or, if called for in the trust, continues to hold the trust assets until the occurrence of a predetermined event. The main feature of a revocable living trust is that the trustee is not accountable to the court, and therefore not subject to probate. Many people therefore use a revocable living trust as their primary estate planning tool in order to make things easier for their trusted loved ones by avoiding the time and complications of probate. There may also be some advantages to you by using a revocable living trust to consolidate your assets and simplify your finances.

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Buffett backs Estate Tax

Monday, December 3rd, 2007

Billionaire Warren Buffett urged Congress to preserve the estate tax, saying that plans to repeal it would benefit a handful of the richest American families and turn the country into a “plutocracy.” Buffett, the chairman of Berkshire Hathaway and the second-richest man in America testified before the Senate Finance Committee on Nov. 14, 2007. He told the panel, which is exploring ways to replace the ever-changing rules of the current estate tax system, that advocates of repeal are “dead wrong” to call the tax a “death tax.”

Buffett said it would be more appropriate to call it a “death present” because heirs get to calculate their capital gains on inherited assets based on the price when they inherited them rather than when the decedent originally bought them.

Buffett noted that so few Americans are subject to the estate tax that “you would have to be at 200 funerals to attend one where the decedent paid the tax.”

Currently, only estates worth more than $2 million are taxed by the federal government. The threshold is scheduled to rise to $3.5 million in 2009. For the year 2010, estates will be entirely free from federal taxation. However, the law that includes this provision expires at the end of 2010. Thus, unless Congress acts in the interim, the estate tax exemption will then revert to $1 million.

Senators on both sides of the aisle agreed that complete repeal of the estate tax will not happen anytime soon. “I think everyone in this room knows we’re not going to repeal the estate tax. It’s not going to happen in the foreseeable future,” said Committee Chairman Max Baucus (D-MT).

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Things to Remember at Tax Time

Monday, April 9th, 2007

April 17th is approaching and it is time to begin crossing T’s and dotting I’s in preparation for paying taxes. As tax time draws near, you want to make sure you file all the proper forms and take all deductions you’re entitled to. The following are several things to keep in mind as you prepare your tax form.

  • Gifts. Did you give away any money this year? The gift tax can be very confusing. If you gave away more than $12,000 in 2006, you will have to file a Form 709, the gift tax return. This does not necessarily mean you will owe taxes on the money, however.  Click here for more information.
  • Medical Expenses. Many types of medical expenses are tax deductible, from hospital stays to hearing aids. To claim the deduction, your medical expenses have to be more than 7.5 percent of your adjusted gross income. In addition, you can only deduct medical expenses you paid during the year, regardless of when the services were provided, and medical expenses are not deductible if they are reimbursable by insurance. Click here for more information.
  • Parental Exemption. If you are caring for your mother or father, you may be able to claim your parent as a dependent on your income taxes. This would allow you to get an exemption (currently $3,200) for him or her. Click here for more information.
  • Long-Term Care Insurance Premiums. Premiums for “qualified” long-term care policies are treated as an unreimbursed medical expense. Long-term care insurance premiums are deductible for the taxpayer, his or her spouse and other dependents. Click here for more information.

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Pet Trusts — Important Planning for Pampered Pets

Friday, December 1st, 2006

Q:   What is a Pet Trust?

A:    A pet trust is legal instrument that you can create to insure your pet receives proper care after you die or in the event of your disability. In Virginia, pet trusts are authorized by Virginia Code Section 55-544.08. 

 Q:   How Do You Create a Pet Trust?

 A:    To create a pet trust, you (the “Settlor”) give your pet and enough money or other property to a trusted person (the “trustee”) who is under a duty to make arrangements for the proper care of your pet according to your instructions. 

In addition to naming a trustee, your pet trust will name a pet caretaker who will actually take possession of the pet and use the money you transferred to the trust to pay for your pet’s expenses. The trustee and caretaker may be the same person. Ideally you should name at least one, preferably two or three, alternate caretakers in case your first choice is unable or unwilling to serve as your pet’s caretaker.  To avoid having your pet end up without a home, consider naming a sanctuary or no-kill shelter, such as your last choice. In my practice, we typically name Friends of Homeless Animals of Northern Virginia –  http://www.foha.org — as the last in line, although for some clients FOHA may be the first in line. 

Additionally, you may name a Trust Protector — someone to enforce the terms of the trust. If you don’t name a Trust Protector, one may be appointed by the court. In addition, any person having an interest in the welfare of the animal may request the court to appoint a person to enforce the trust or to remove a person appointed.  You may create a pet trust either (1) while you are still alive (i.e., a “living” trust) or (2) when you die by including the trust provisions in your will (i.e., a “testamentary” trust). If using a living trust, it can be either a stand-alone pet trust or provisions that you insert into a comprehensive living trust done as part of your estate planning. A living trust avoids delay between your death and the property being available for the pet’s care. For more information on the benefits of living trusts, see www.virginiaestateplanning.com/revocable.html.  

If you create a testamentary pet trust upon your death, the trust does not take effect until you die and your will is declared valid by a court (“probating the will”). Additionally, there may not be funds available to care for the pet during the gap between when you die and your will is probated.  In addition, a testamentary trust does not protect your pet if you become disabled and unable to care for your pet.

Q:  How much money do I need to put into a pet trust?

A:   You should consider many factors in deciding how much money to transfer to your pet trust.  These factors include the type of animal, the animal’s life expectancy, the standard of living you wish to provide for the animal, the need for potentially expensive medical treatment, and whether the trustee is to be paid for his or her services.  Adequate funds should also be included to provide the animal with proper care, be it a pet-sitter or a professional boarding business, when the caretaker is on vacation, out-of-town on business, receiving care in a hospital, or is otherwise temporarily unable to provide personal care for the animal.  You should avoid transferring an unreasonably large amount of money or other property to your pet trust because such a gift is likely to encourage your heirs and beneficiaries to contest the trust.  If the amount of property left to the trust is unreasonably large, the court may reduce the amount to what it considers to be a reasonable amount.

Q:   What types of instructions should I include in my pet trust regarding the care of my pet?

A:    Some examples of the types of instructions you may wish to provide are:  food and diet; daily routines; preferred toys; crates; grooming; socialization; medical care, including preferred veterinarian; compensation, if any, for the caretaker;
method the caretaker must use to document expenditures for reimbursement; whether the trust will pay for liability insurance in case the animal bites or otherwise injures someone; how the trustee is to monitor caretaker’s services; how to identify the animal; disposition of the pet’s remains, e.g., burial, cremation, memorial, etc.

Q:  Who should be the trustee of my pet trust?

A:   The trustee is typically either a trust company or a family member or other individual you trust to manage your property prudently and make sure the beneficiary is doing a good job taking care of your pet.  A family member or friend may be willing to take on these responsibilities at little or no cost.  However, it may be a better choice to select a professional trustee that has experience in managing trusts even though a trustee fee will need to be paid. If you do name an individual, you should name at least one, and preferably two or three, alternate trustees in case your first choice is unable or unwilling to serve as a trustee.  You probably also want to check with the person before-hand to be sure the persons you name as your trustees will be willing to do the job when the time comes.

Q:  What happens to the money remaining in the trust when my pet dies?

A:   You should name a “remainder beneficiary” — a person or organization to receive any remaining trust property after your pet dies.  Note that it is not a good idea to name the caretaker or trustee because then the person has less of an incentive to keep your pet alive.  Many pet owners elect to have any remaining property pass to a charitable organization that assists the same type of animal that was covered by the trust.

Q:   What happens if the trust runs out of money before my pet dies?

A:   If no money remains in the trust, the trustee will not be able to pay for your pet’s care.  Perhaps the caretaker will continue to do with his or her own funds.  If the caretaker is unwilling or unable to do so, you should indicate in your trust the person or organization to whom you would like to donate your pet.  In my practice, we typically name Friends of Homeless Animals of Northern Virginia –  http://www.foha.org — as the caretaker of last resort.

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