If you’re thinking about estate planning, good for you! Your goal is to make…
In our Elder Law and Estate Planning practice, no issue seems more fraught with emotional and financial implications than “What should we do about the home?”
As parents, grandparents, or other relatives (collectively, “parents” for purposes of this article) grow older, when the nest is empty, or when their health starts to fail, this issue comes to the fore. In many cases, the home is the most significant asset in the family, and its current market value probably includes a large amount of unrealized capital gain.
How to balance a variety of competing considerations is a difficult puzzle. Parents may be comfortable in their own home, and reluctant to move. Just the thought of dealing with papers and possessions stored in the attic or the basement can be enough to end any discussion about moving. If there are two or more children, they may have differing ideas about what to do with the family home. Some of the kids may covet the property for themselves while others have an eye on a cash inheritance. If the home is a co-operative apartment, the co-op’s rules and its board may restrict available options. Sale of the home may come with a big tax liability, and the cost of a new, smaller home may not represent a significant savings.
Understandably, most people are reluctant to change the status quo, particularly if they have reached a financial equilibrium where they are able to pay their living expenses without significantly depleting their savings. Their estate plan is a Will that makes provision for the distribution of the home and other assets.
Unfortunately, however, when health fails and the ruinous costs of home aides and other services not covered by Medicare are needed, the status quo is upset, the budget is out the window, and savings are depleted at an alarming rate. Now, “what should we do about the home?” takes on a new meaning and a new urgency.
Hopefully, the parents have enough retirement income (Social Security, pension, IRA, 401(k), or other) and enough savings that they don’t have to sell or place a reverse mortgage on the home in order to generate cash to pay living expenses. In such cases, transfer of the home to a protective trust will be, in most cases, the best solution. Why? The costs of long-term care, whether in the home, in assisted living, or in a nursing home, are ruinous. So, faced with the rapid depletion of their assets, many people ask, “Can I qualify for Medicaid?” The answer is almost always “Yes!” It will just take a little planning and restructuring of the parents’ financial holdings.
At this point (if not sooner) a strategy to protect the home should be implemented. Otherwise, Medicaid will at some point put a lien on the home, and seek to recover the costs it has incurred in providing services to the parents. As a result, transfer of ownership will usually be a prudent step to take. If the home has appreciated in value and therefore has in tax parlance a “low basis,” transfer of the home to the children or other individual beneficiaries is probably not the best choice. The recipients will have the same low basis in the home, and, when it comes time to sell, they will have a big tax bill to pay.
An irrevocable grantor trust (sometimes called a “Medicaid trust”) will protect the home against future creditors, including Medicaid, and when the home is transferred from the trust to the beneficiaries upon the death of the parents, the beneficiaries will receive a “step up in basis” to fair market value. In plain English, this means that the beneficiaries will pay no tax on the appreciation in value that occurred during the parents’ lifetime, whether they sell the home then or later.
Also, under the trust, the home (and other assets held by the trust) can be distributed efficiently and privately to the beneficiaries without the need for probate or any other court proceeding. Oftentimes, the children serve as trustees of the trust, and, at the same time, are beneficiaries of the trust.
Once the home is in a protective trust, Medicaid planning for the parents can proceed, with their most valuable asset, their home, removed from harm’s way. Transfer of the home will have no adverse impact on applications for Medicaid home care or assisted living. However, if the parents are applying for Medicaid nursing home care, any transfer will be subject to the five year “look back” and Medicaid penalty rules. (For a discussion of the “look back,” and related considerations, click here.)
A different strategy may be needed if the parents’ income is insufficient to pay their living expenses, and their savings have been, or are about to be, exhausted. Here, there may be no alternatives but to sell the house, or consider a reverse mortgage.
In most cases, we do not recommend a reverse mortgage. Typically, the loan to value ratios are too restrictive, and the costs are too high. When money from the reverse mortgage runs out, the parents may be forced to sell anyway. Also, new government restrictions are changing the reverse mortgage landscape, so anyone considering a reverse mortgage would be well-advised to get independent legal advice before proceeding.
If the house (assuming it is the primary residence) must be sold, at least the parents will benefit from the capital gain exclusion. This means that the first $250,000 in capital gain ($500,000 if both spouses are living and at least one spouse has resided there) is not subject to tax. The proceeds of sale can then be incorporated into the Medicaid plan. In most Medicaid home care and assisted living cases, all of the assets and income can be protected. In nursing home cases, again, transfers are subject to the five year “look back.”
Of course, the particular circumstances of each case will involve other issues. But the main point will be the same: the home is an important – often the most important — asset that the parents own, and, with proper planning, it can be protected.