Question:

Mother and daughter are joint tenants with right of survivorship in mother’s condo. If they want to transfer the condo to an irrevocable trust, but reserve a life estate to the mother, how do they do it mechanically? If mother and daughter deed to the trust, but mother reserves life estate, isn’t she reserving life estate only in her half interest? Is this sufficent? Should they both deed the condo to a third party and the third party deed a life estate to the mother and remainder to the trust (daughter to be the trustee)? Or would the deed to the third party start the five-year clock for Medicaid on the mother’s entire 1/2 interest instead of only her remainder interest if she deeded her interest and reserved a life estate. Would that indicate that maybe the best way is for the daughter to deed her interest by giving a life estate to mother (in the daughter’s interest) and remainder to the trust, just as the mother reserves a life interest and deeds her remainder to the trust?

Response:

Let me start by asking what your goals are. It sounds like there may be several. First, for the condominium to receive a 100 percent step-up in basis upon the mother’s death. Second, perhaps to protect more of the proceeds of the sale of the condo for Medicaid-planning purposes if the mother were to require nursing home care. Third, perhaps to have more of the proceeds of its sale qualify for the $250,000 exclusion on capital gains. A fourth goal may be for creditor or divorce protection for the daughter. And, finally, a fifth may be protection of the condo in the unlikely event the daughter were to die before the mother.

Let’s now examine the options in light of each goal.

If the daughter did not contribute to the purchase price of the condo, there’s already a strong argument that 100 percent of its value should be included in the mother’s taxable estate upon her death giving it a complete step-up in basis. So, if that’s the case, I wouldn’t make any changes for tax purposes. If that’s not the case, I’d have the daughter simply convey her interest to the mother before taking any other steps. There’s no need to involve anyone else, a so-called “straw” purchaser.

The condo is potentially at risk in two ways if the mother were to require Medicaid benefits to pay for nursing home or other care. The first is that if the condo were sold, half the proceeds would go to her and have to be spent down on her care. An irrevocable trust could protect the entire proceeds.

The second risk is that if the condo were not sold, at her death the Medicaid agency might have an estate recovery claim against the condo. This depends on state law. In my state of Massachusetts, for example, estate recovery only applies to probate property, so the condo would already be protected because the mother and daughter hold title as joint tenants. As a result, upon the mother’s death the ownership would pass entirely to the daughter without going through probate. This may not be the case in your state, in which case an irrevocable trust could provide complete protection.

For both reasons — estate recovery and possible sale of the condo during the mother’s life — an irrevocable trust might make sense. But I’m not sure why you’re talking about reserving a life estate outside of the trust. All the benefits of a life estate can be provided by the trust and even with a life estate, if the condo were sold during the mother’s life a portion of the proceeds of a sale would have to go back to her and have to be spent down on her care, though a smaller amount the older she is at the time.

The third goal of qualifying more of the proceeds of the sale of the condo for the homeowner’s capital gain exclusion can be accomplished through the use of a trust, though drafting the trust for this benefit is a bit complex.

I’m not sure whether the fourth and fifth goals which both involve risks to the daughter are at play here, but both could be good arguments for the trust.

Any transfer to a trust will cause a five-year period of ineligibility for Medicaid benefits, so any decision needs to balance the potential benefit with the risk that the mother may need care during the subsequent five years. Depending on the situation and the extent of estate recovery in your state, the current ownership structure may provide sufficient protection, especially given the risks inherent in starting a new five-year clock on a transfer.

Since there are a lot of moving parts here and the right course of action depends to some extent on state law, I recommend that you consult with a local elder law attorney. You can find one at www.elderlawanswers.com.