How an Irrevocable Trust Might Work for Long Term Care Plan & Protect your Assets

An irrevocable trust is a common long term care planning tool. An irrevocable trust would be created by you, the Grantor, to hold some of your assets during your lifetime. An irrevocable trust can hold real property, such as your home, or bank accounts and other investment vehicles. If you decide to use an irrevocable trust as part of your long term care planning, we can talk with you about what specific assets of yours might be placed in the trust. However, understanding how an irrevocable trust operates will allow you to make a determination as to whether it is a planning tool you might want to use.

You, as Grantor, will retain the right to the income generated by the Trust during your lifetime. This is done for several reasons. First, it is done to allow the income generated by the Trust assets to be taxed at your individual income tax level. A Trust is taxed at a much higher tax bracket than an individual, and the amount of money earned that results in the highest tax bracket of 35% is much lower than for individuals. A Trust only needs to generate $600 of income before it is subjected to income tax. Therefore, an irrevocable, Medicaid qualifying trust is designed using special provisions of the Internal Revenue Code to permit the income earned on the Trust assets to be taxed at the individual Grantor’s tax rate. To accomplish this, the Trust terms must specify that all of the income generated by the Trust for the calendar year be distributed to the Grantors.

A second reason for having the Grantor receive the income from the Trust is that it provides a mechanism for additional income to you, if needed. However, in the event that you do not need the additional income, there is language in the trust that would permit the Trustees to modify the investments of the Trust so as to generate a lower rate of return. While the inclination may be to simply leave the income earned by the Trust in the Trust without distributing it out to you, there is no benefit to doing so should you need long term care in a nursing home in the future. In addition, failure to take it may result in penalties being imposed by the local Department of Social Services, in the event Medicaid benefits are sought in the future.

An additional benefit to having you, the Grantor, as the income beneficiary of the Trust is that retaining the right to the income in the Trust is often coupled with the right to use any real property owned by the Trust for your lifetime. This is advantageous because it allows the Trust to become the owner of the property, but allows you to retain any of the tax exemptions you may have on the property, such as the STAR exemption or a Veteran’s exemption.

Finally, an advantage of this arrangement is that the assets in the Trust will enjoy an income tax benefit known as a “step up” in cost basis at your death. In other words, if the assets have appreciated in value since you purchased them, the cost basis for tax reporting purposes will change to the appreciated value on the Grantor’s date of death. This will provide a significant tax benefit to your beneficiaries.

A disadvantage of this arrangement is that you are giving up significant control over the assets once they are transferred to the Trust. This is so because it is not advisable for you, the Grantor of the Trust, to serve as the Trustee. If you were to be the Trustee, there is the possibility that you might be required to invade the Trust in order to access its assets.

Another disadvantage of using an irrevocable trust is, as mentioned above, that you would only have access to the Trust income. That is, you would not be entitled to receive Trust principal for any reason. Therefore, until such time as you qualified for Medicaid benefits, you would be reliant on any funds you retain to pay for the cost of your care. The Trust would, however, contain provisions permitting the principal to be distributed to a specified class of beneficiaries.

You should also be aware that, once you qualify for Medicaid, the Department of Social Services would require you to contribute the Trust income towards the cost of your care.

Should the Trust be a mechanism you wish to utilize as part of your long term care plan, we would work with you to draft a Trust that comports with your estate and long term care plan. One of the important things to consider in creating an irrevocable, Medicaid qualifying trust is your selection of the Trustee (the person who manages the assets held in the Trust) and the ultimate beneficiaries (the persons to whom distributions of Trust property may be made) of the Trust funds. Often times, the Grantor elects to have the terms of the Trust mirror that of his or her Wills, although there is no requirement that this be the case. In addition, you retain the right to change the beneficiaries of the Trust should you choose to do so, and the Trust would give you other benefits as well, such as providing protection to the beneficiaries from the claims of creditors against trust assets, and a reservation of your right to substitute property in the Trust for property owned by you individually of equal value.

Once the Trust is drafted and you are comfortable with its terms, the Trust is created by having you as Grantor, and your named Trustee sign the document in front of a notary public. Then, a federal identification number is assigned to the trust. We then work with you to fund the trust with whatever assets you have determined are appropriate.

The use of an irrevocable, Medicaid qualifying, trust can offer significant opportunities for estate and long term care planning. Call Burke & Casserly, P.C. for more information on how to incorporate this strategy into your estate and asset protection plan 518-452-1961.

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