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August 4, 2005
Probate Avoidance Techniques – Part Two
Last week I started talking about how to avoid probate by making your property jointly held. This week I’ll go over a couple other methods such as life estates and trusts. As always, you should seek competent advice prior to changing your estate plan or changing the way that you hold title to your assets.
Just as a refresher, probate only deals with assets that are in your name alone when you die (probate assets). If, upon your death, you don’t have any assets in your name alone, there is no probate and your will does not have to be filed. There are some assets such as life insurance, trusts, annuities and IRA’s that all have named beneficiaries and do not go through probate.
REAL ESTATE – If you are single and own real estate in your own name, upon your death it becomes part of your probate estate. Married couples generally own their real estate jointly. That means upon the first to die, the survivor owns the property automatically and it does not have to go to probate. Of course, when one joint owner dies, on the death of the survivor it would become part of their probate estate. Here are a few options for real estate that will avoid your real estate going to probate whether you are married or single:
Life Estate – A life estate means that you transfer your property by deed to generally one or more of your children, while retaining the right to live in the property for the rest of your life. You, as the life tenant, are still responsible for paying the taxes, insurance and maintenance of the property and upon your death(s), the property automatically belongs to the people you left it to. The life estate also allows you to continue to be eligible for any real estate tax exemptions that you are currently entitled to.
As an added bonus, your children are entitled to what is known as a Step-Up in basis upon your death. This means that they can sell the property tax-free upon your death. There is one hitch to the Step-Up in basis rule. The tax laws are changing in the year 2010 and if you die in that year, the life estate will no longer be eligible for the Step-Up in basis. This means that after your death, the children will have to pay income taxes on the difference between what you paid for the property and the amount received upon sale.
Another benefit of the life estate is that the property is protected in the event that you need nursing home care. Creating a life estate is considered a gift for MassHealth (Medicaid) purposes. The amount of the gift is calculated by using an actuarial table based upon your age at the time of the gift and the assessed value of the property. The disqualification period is always significantly shorter when a life estate is created compared to when you gift the property directly to your children. Here is an example of how MassHealth treats the creation of the life estate:
Example: Mom and Dad own a house assessed for $390,000. Mom is 70 and Dad is 72. If Mom and Dad give their house outright to Sonny the gift is the whole amount, or $390,000 and results in a 3-year disqualification period (the maximum lookback period). If Mom and Dad had created a life estate and given the remainder to Sonny their disqualification period would be reduced to just over 12 months. This means that if Mom or Dad needed nursing home care after 12 months from the date of transfer, the home would be protected.
Are there any problems with the life estate? There are a few issues that you need to understand. First is that it was just over a year ago that Massachusetts was putting liens on life estates for people who were in a nursing home. The legislature got rid of that provision but many other states have started liening the life estate and many attorneys are worried that Massachusetts will once again start to lien these life estates in the future. There are no grandfathering provisions for life estates that were created many years ago. Second, if you sell your home that is subject to a life estate, you only receive a portion of the money and your children receive the other portion. The children would have to pay tax on the portion they receive, the amount you receive would be eligible for the $250,000 ($500,000 if married) gain exclusion. Lastly, the potential for the loss of the Step-Up in basis if you die in 2010, could result in a large unexpected tax bill for the children who receive the property.
USING A TRUST - Putting your real estate in a trust has become the most popular method of protecting your real estate. The trust has all of the good features of the life estate such as avoidance of probate, step-up in basis and protection from nursing home costs, plus some added benefits. The one downside to placing your home in a trust, to protect it from nursing home costs, is that you will not be eligible for any real estate tax abatements that you are currently receiving.
The first added benefit is the ability to get a step-up in basis even in the year 2010. Unlike a life estate, trusts are not affected by the change in the tax laws that are going to take place in 2010. The next added benefit is that for tax purposes, the trust is ignored. This is a good thing because if the property is sold, you are eligible for the $250,000 ($500,000 if married) gain exclusion on the sale of your residence. The other benefit is that there is much more flexibility in how and when your heirs receive the property after your death.
Some people, mainly those with long-term care insurance, are not that concerned about the cost of nursing home care and are only concerned about probate avoidance. If you own various stocks and have stock certificates laying around the house or in a safe deposit box, putting your stocks into a revocable trust can save a lot of headaches after you are gone. By putting them into a trust, they will avoid probate and allow immediate access to them after your death. Whenever someone owns numerous stocks, we always recommend that they open a brokerage account and deposit all of the stock certificates in that account. The brokerage account along with the trust means that after you are gone, instead of gathering up all the securities and getting the name changed to the name of your estate, your executor only needs to make a phone call to access the funds.
This article gives general information and not specific advice on individual matters. Persons wanting individualized advice on matters discussed should contact an advisor experienced in those matters. To the extent this article provides information on legal matters, it is based on law in effect in Massachusetts on the date of posting (laws in effect in other states are often quite different).
Ronald H. Surabian is a CPA and attorney who works at the Elder Law Center in Saugus, Massachusetts. He also holds masters in accounting and a masters in tax law. He currently serves on the board of directors of the Massachusetts Chapter of the National Academy of Elder Law Attorneys. If you have any questions please call me at the Elder Law Center, One Essex Street, Saugus, MA 01906 (781)233-4444. To view this or any prior article, please visit our web site at www.elderlawcenter.org