drafting income-only trusts for medicaid eligibility and...

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Drafting Income-Only Trusts for Medicaid Eligibility and Tax Planning Navigating Look-Back, Grantor Trust, Basis and Gift Tax Rules Today’s faculty features: 1pm Eastern | 12pm Central | 11am Mountain | 10am Pacific The audio portion of the conference may be accessed via the telephone or by using your computer's speakers. Please refer to the instructions emailed to registrants for additional information. If you have any questions, please contact Customer Service at 1-800-926-7926 ext. 10. THURSDAY, JULY 31, 2014 Presenting a live 90-minute webinar with interactive Q&A Joley L. Eason, ThompsonMcMullan, Richmond, Va. Judith D. Grimaldi, Partner, Grimaldi & Yeung, New York

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Drafting Income-Only Trusts for Medicaid Eligibility and Tax Planning Navigating Look-Back, Grantor Trust, Basis and Gift Tax Rules

Today’s faculty features:

1pm Eastern | 12pm Central | 11am Mountain | 10am Pacific

The audio portion of the conference may be accessed via the telephone or by using your computer's speakers. Please refer to the instructions emailed to registrants for additional information. If you have any questions, please contact Customer Service at 1-800-926-7926 ext. 10.

THURSDAY, JULY 31, 2014

Presenting a live 90-minute webinar with interactive Q&A

Joley L. Eason, ThompsonMcMullan, Richmond, Va.

Judith D. Grimaldi, Partner, Grimaldi & Yeung, New York

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FOR LIVE EVENT ONLY

Drafting Income-Only Trusts for Medicaid Eligibility and Tax

Planning

Joley L. Eason ThompsonMcMullan PC

[email protected]

Irrevocable Income-Only Trusts (IIOT)

•Self-Settled- created by Medicaid applicant or applicant’s spouse •Trust Assets

–Income-Producing (CDs, Stocks, Rental Property, Mineral Interests) –Non-Income Producing (Primary Residence)

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Objectives of Income-Only Trusts

•Control •Flexibility •Protection •Tax Savings

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Advantages

•Preserve assets/exempt for Medicaid after lookback period •Protect assets against potentially catastrophic costs of long-term health care •Pass estate to heirs •Minimize tax liability •Retain control over assets and avoid risks associated with outright gifts •Right to income/source of continued income •Right to use, live in, sell real estate and purchase other real estate from any proceeds

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Risks

•Estate recovery •Right to elect against spouse’s estate Depends on how state defines estate (probate/non-probate)

•Irrevocable •No Access to Principal

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Common Types of Trust Assets

•Income-Producing (CDs, Stocks, Rental Property, Mineral Interests) •Non-Income Producing (Primary Residence)

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When to Use Income-Only Trusts?

•Depends on client and individual situation •Generally advantageous when:

–Long-Term Care Planning for married couples with differing degrees of health and income –Long-Term Care Planning for married couples where both enjoy good health –Long-Term Care Planning for married couples who don’t anticipate the need for long-term health care for at least five years

•Trusts established for the non-institutionalized/community spouse of a Medicaid recipient

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When NOT to Use Income-Only Trusts?

•Crisis planning where client will long-term care in the immediate future •Long-term care planning for clients who have relatively limited resources •Long-term care planning for clients who earn substantial retirement and live/plan to move to states that impose an income cap for Medicaid eligibility (ie Colorado, Georgia)

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Alternatives

•Outright gifts to children –Increased tax liability –Expose assets to risks from creditors, marital difficulties, addictive behaviors –Lack of control

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The Five-Year Lookback Period

•The Deficit Reduction Act of 2005- signed into law February 8, 2006.

•Sets forth restrictions and penalties on asset transfers for individuals applying for long-term care Medicaid.

–Extended lookback period –Changed beginning date of penalty period

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The Five-Year Lookback Period

•Penalty period imposed for outright transfers or transfers to a trust after February 8, 2006 • Penalty period or disqualification begins when the applicant is both financially eligible for Medicaid and receiving institutional level of care •No maximum or cap on the period of ineligibility

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The Five-Year Lookback Period

• Penalty periods imposed for all uncompensated transfers. May exclude minimum amounts like $1,000 or $2,000, depending on the state. •The amount of the uncompensated transfer is divided by the average cost of nursing home in the jurisdiction in which the applicant is a resident.

Example : $60,000 transfer / $6,000 (average cost of facility) = 10 month period of ineligibility

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The Five-Year Lookback Period

The major provisions which affect long-term care Medicaid:

• Medicaid’s “look back” period for all assets is 5 years.

• The penalty period for transferred assets begins when individual has applied for Medicaid and is otherwise eligible.

• Annuities, IRAs, Promissory Notes- may be exempt, depending on the state and if certain requirements met

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Impact of the Affordable Care Act

• For states that have passed Medicaid expansion, individuals and families who were previously ineligible for Medicaid may now be eligible.

• ACA uses modified adjusted gross income (MAGI) to determine eligibility for Medicaid. Family of 4 with income of $94,000 meet the financial eligibility requirements. For this newly eligible group, there are no resource restrictions (this does not apply to long-term care Medicaid.)

• Medicaid resource limits and transfer of asset rules still apply for long-term care Medicaid.

• ACA eliminated the pre-existing condition eligibility restrictions that previously precluded sick or disabled individuals from enrolling in private plans.

• Disabled individuals may now be eligible for a private plan, as well as a subsidy, and disenroll from or forego applying for Medicaid.

• Individuals enrolled in both Medicare and Medicaid are not eligible for a subsidized or private plan in the Health Insurance Marketplace.

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Income Only Trusts in Medicaid Planning Judith D .Grimaldi, Esq.

Use of Trusts in Medicaid Planning

• In transferring assets trusts are the recommended strategy to protect assets.

• Types of Trusts: – Revocable- not used in Medicaid planning except by

refusing spouse to avoid probate – Irrevocable – Used for asset protection

• Special Needs • Discretionary • Sole benefit This CLE will focus on the income only asset protection trust

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Trusts vs. Direct Transfers

• Trust advantages – Death – Disability – Debts – Divorce – Tax benefits

• Real estate discounts • Grantor income tax

status • Capital gains

advantages

• Direct Transfers – Simple, less cost – Greater liability issues – Less control – Less creditor

protections – Inability to fix who will

inherit – Limited flexibility if

there is a change in plans

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Drafting Trusts - Types

• Medicaid Irrevocable Income only Grantor Trust – Third party must be appointed trustee not

Grantor – Income may be payable to grantor or

Grantor’s spouse or issue – No principal distributions to Grantor – Can remain includible in Grantor’s estate

through retained interests, LPOA, etc. to secure capital gains protections stepped up in basis

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Grantor Trust Rules for Income Tax Benefits

• Grantor trust status allows income to be taxed at the Grantor’s usually lower tax rate

• Income tax liability remains with the Grantor

• Trust tax rate - income of $11,150. (39.5%)

• How to achieve Grantor status

• Retain interests • Medicaid cautions

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Grantor Trust Options

• Power to: – Substitute property of equivalent value (IRC 675(4).

Medicaid caution – Designate Charitable Beneficiaries – Add beneficiaries (IRC 674(b)(5)) – Use Trust Income to pay for Life Insurance (IRC

677(a)(3) – Borrow w/o Security (IRC 675(2). Medicaid caution – Receive income or any trust assets including a life use

only. May not be discretionary or need approval of adverse party. IRC 677 (a) (1)

• Use individual rather than grantor to exercise these powers to avoid Medicaid implication

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Trust Tax Issue- LPOA

– Limited Power of Appointment – drafting requirements and Tax issues

– What is a LPOA ( Testamentary and Life time) • IRC 674(b)(iii) provides a Limited POA will provide:

– Step up in basis on Grantor’s death under IRC 1014 – Grantor Trust Status to apply to Income and Principal

allowing use of individual’s income tax rates – The 121 capital gains exclusion on sale of residence – Incomplete gift for tax purpose if both life and

testamentary powers are included – BUT Medicaid will not consider the trust assets since the

assets are no longer available to the Grantor

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Tax Issues – Inclusion in Taxable Estate?

– When are trust assets includible in Grantor’s estate:

• Grantor retains a life interest/ life estate, or • 5% or plus reversionary interest. IRC 673 • Or a power of appointment. IRC 674, or • Any type of interest which would trigger

federal estate tax inclusion (IRC Sections 2036- Retained Life Estate ,2037, 2038- Revocable Transfers)

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When Trust Holds Residence

– Residences in trust drafting considerations: • Include life use, residency or tenancy • May result in a title in equity to the real property • Allow Trustee to take actions to preserve and

maintain the property in addition to the life tenant • Life tenancy can allow retain any VA or Senior

Citizen real estate tax discounts or exemptions. • What if property to be transferred is subject to a

mortgage – Consult state law to ask can lender exercise

due on sale clause if the borrower is beneficiary with residency rights

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Trust Drafting Cautions

Caution Power of Appointments – Risk – if individuals who serve as Trustees

and Beneficiaries with the full power to administer an irrevocable trust could be considered a to have a General not limited Power of Appointment resulting in the trust assets included in the Trustee’s estate. To avoid this… Limit lifetime distributions to HEMS or have an only the independent Trustee make distributions to the Trustee.

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Income Tax Issues for Trusts – Trust income tax returns

• Trust can be a separate tax payer • Irrevocable Medicaid trusts need EIN’s. SS

number of Grantor should not be used. • File separate fiduciary tax return (1041)

reporting all income whether distributed or accumulated.

• Issue a K-1 to Grantor or all beneficiaries listing the share of income, deductions, and credits distributed

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Drafting Articles on Distribution of Principal

• In a Grantor trust no access to principal • Third Party trusts and SNTs can give

Trustees discretion to use trust assets for the benefit of the Medicaid Applicant or Recipient

• Sole Benefit and Spendthrift trusts are another form of discretionary trust but use caution in use of trust assets for Medical care. 30

How to Provide Access to Principal If Needed

• Establish a class of beneficiary to whom the trustee may distribute principal – Back door access – Avoid distribution to minors if trust may need

to be amended or decanted – Provide for independent trustee to allow

distribution to family member or individual who is serving as trustee

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Drafting Distributions at Death

• No particular Medicaid requirement: – Income only Grantor trust may distribute the

same as a Last Will. – Can include credit shelter and tax provisions Exceptions: – SNT – first party must have pay back – Sole benefit trust must be made payable to

the estate.

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Trustee Provisions

• Recommendations on Trustees: – If family member to serve as Trustee provide

for appointment of independent Trustee or Co-Trustee.

– Provide for appointment of authorized trustee for decanting

– Provide for successor trustee – Consider whether the Trustee may act

individually

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Special Trust Clause

• Consider putting SNT as a default provision for all beneficiaries who may be disabled

• Consider trusts for drafting around minor children and grandchildren.

• Consider inserting flexibility into draft to make amendments or emergency revocation possible if eligibility is needed before the 5 year look back period.

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GRIMALDI & YEUNG LLP

9201 Fourth Avenue, 6th Floor Brooklyn, New York 11209

546 Fifth Avenue, 6th Floor New York, New York 10036

(718) 238-6960 [email protected]

www.gylawny.com

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