Medicaid Planning, Life Estates and Tax Basis Rules

Estate tax changes for 2010 are playing havoc with traditional estate tax planning. (At the risk of over-simplifying, those who have more than one million in assets). The 2010 tax law changes in Internal Revenue Code §1022, however, also are creating problems for those who are concerned with qualifying for Medicaid and VA benefits to help pay for nursing home and other long-term care costs.

For those who die in 2010 there is no automatic step up in tax basis on inherited real estate and other assets. Instead, a decedent's estate can add $1.3 million (for a single person) or up to $4.3 million (for a married person) to the basis of inherited assets.

Frequently, in the past, individuals who wanted to transfer their home for Medicaid planning purposes did so in one of six ways: (1) joint tenancy with right of survivorship; (2) a reserved power of appointment in a deed; (3) an irrevocable income-only trust, which often includes a reserved power of appointment; (4) a reserved life estate; (5) a use-and-occupancy agreement; or (6) an informal understanding.

After January 1, 2010, to qualify for the step-up in basis, an asset must be owned under Section 1022(d) and acquired under Section 1022(e), so each type of transfer must be analyzed.

Internal Revenue Code § 1022 (d)(1)(B)(i) allows at least a partial step-up in tax basis for some joint tenancies. However, subsection (iii) of § (d)(1)(B) denies the step-up for a reserved power of appointment, presumably only in a deed.

Code § 1022(e)(2)(B) allows the step-up for some irrevocable trusts, including a power to alter or terminate the trust. This would seem to include a reserved power of appointment in an irrevocable trust.

The reader is cautioned to talk with an experienced estate planning attorney because a transfer with a reserved life estate may have a different result for deaths in 2010. Indeed, knowledgeable attorneys have questioned whether a life estate is entitled to a step-up in basis after January 1, 2010. Several blog commentators have written that a life estate is not eligible for the step-up in basis, but many of them seem to be echoing each other and not setting forth their analysis.

Section 1022(e)(3) seems to include a reserved life estate but not a use-and-occupancy agreement or informal understanding. The language in (e)(3) includes “property passing from the decedent by reason of death to the extent that such property passed without consideration,” and where the property passes to the remainder-persons upon the life tenant’s death, that description could include a reserved life estate.

The National Association of Elder Law Attorneys is currently seeking guidance from the IRS as to whether the tax basis under IRC § 1022 can be allocated to property transferred as a result of a life estate.

Habiger & Associates Elder Law Office (HAELO) provides legal services to elderly or disabled persons in Southern Illinois. The founder of the firm, Richard Habiger, is an elder law attorney with more than 30 years experience. We are an Elder Law and Life Care Planning Law Firm that provides legal and care coordination assistance, including: Medicaid planning; asset protection; estate protection; Medicaid applications; Medicaid appeals; VA pension benefits planning and applications for veterans and their surviving spouses; planning for those with Alzheimer's, dementia, or other forms of memory loss, and those who have suffered a stoke; Hospice planning; and special needs planning, including special needs trusts and supplemental needs trusts.

HAELO is located in Carbondale Illinois, and serves clients in twenty-seven Southern Illinois counties south of Interstate 70 highway. Southern Illinois Counties: Jackson County, Williamson County, Union County, Franklin County, Perry County, Saline County, Jefferson County, Hamilton County, Johnson County,  Randolph County, Wayne County, White County, Washington County, Edwards County, Monroe County, Wabash County, Richland County, Clay County, Marion County, Clinton County, Bond County, Fayette County, Effingham County, Jasper County, Crawford County, Massac County, Pulaski County, Alexander County, Pope County, Hardin County, Gallatin County, and Lawrence County.
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