When meeting with prospective clients who are interested in creating a comprehensive estate plan, we frequently discuss using an irrevocable trust. Initially, people often wonder about the value of using irrevocable trusts in Medicaid planning. In this month’s newsletter, we will provide key benefits of using an irrevocable trust.

Some of you might ask, why not just gift my assets outright without involving an irrevocable trust? The answer is gifting of assets can certainly be done outright, instead of using an irrevocable trust. Outright gifts have the advantages of being simple to do with minimal costs involved, including the cost of preparing and recording deeds and the cost of preparing and filing a gift tax return. Many financial institutions have their own documents they use for changing ownership of assets so there are typically no out-of-pocket costs for the transferor.

So, why complicate things with a trust? Why not just keep the planning as simple and inexpensive as possible? The short answer is that gift transaction costs are only part of what needs to be considered. Many important benefits that can result from gifting in trust are forfeited by outright gifting. These benefits are what give value to using irrevocable trusts in Medicaid planning.

Prior to state implementation of the federal Deficit Reduction Act of 2005 (DRA) in recent years (with the exception of California), federal Medicaid law contained a bias against trusts: Most transfers of assets to trusts had a 5-year lookback period, whereas there was a 3-year lookback period for non-trust transfers. This different standard induced many clients to elect outright gifting in preference to gifting in trust. The DRA leveled the playing field by imposing a 5-year lookback period for ALL transfers. Removal of the bias against trusts shifted the discussion of elder law attorneys with clients to the real benefits of gifting in trust versus gifting outright.

Key benefits of gifting in an irrevocable trust are:

  • Asset protection from future creditors of beneficiaries
  • Preservation of the Section 121 exclusion of capital gain upon sale of the settlors’ principal residence (the settlor is the trustmaker)
  • Preservation of step-up of basis upon death of the settlors
  • Ability to select whether the settlors or the beneficiaries of the trust will be taxable as to trust income
  • Ability to design who will receive the net distributable income generated in the trust
  • Ability to make assets in the trust non-countable in regard to the beneficiaries’ eligibility for means-based governmental benefits, such as Medicaid and Supplemental Security Income (SSI)
  • Ability to specify certain terms and incentives for beneficiaries’ use of trust assets
  • Ability to decide (through the settlors’ other estate planning documents) which beneficiaries will receive what share, if any, of remaining trust assets after the settlors die
  • Ability to determine who will receive any trust assets after the deaths of the initial beneficiaries
  • Possible avoidance of need to file a federal gift tax return due to asset transfer to the trust

In next month’s newsletter, we will briefly discuss each of these potential benefits in sequence. Thoughtful planning and careful drafting is necessary to take advantage of the benefits available, thus it is important to understand how and why each benefit comes about. We are available to discuss any of these issues in more detail. We are happy to assist seniors and their loved ones with considering whether an irrevocable trust may be appropriate for them. Please contact our office to schedule a time to discuss these issues further.