Planning For Long Term Care: The Irrevocable Income Only Trust

August 5, 2016 | Trusts & Estates

After many years of hard work, sacrifice and saving, most people look forward to a secure and stress-free retirement. Few, however, consider the probability of needing costly long-term care, either at home or in a nursing home.

According to the AARP, approximately 70% of Americans will need some type of long-term care. Nursing homes in New York cost around $12,000-$14,000 per month, which is unaffordable for most people. For many, this expense is unanticipated, and when the need for long-term care arises, it causes financial devastation.

The rules about how to protect assets from long-term care expenses are very complicated. One wrong move can jeopardize a lifetime of savings. The best advice: Plan smart and well in advance in order to protect your assets from the cost of long-term care and qualify for Medicaid assistance.

Always consider long-term health care insurance if health and financial limitations are not concerns. If long-term care insurance is not an option, and personal income and resources are insufficient, transferring assets into an Irrevocable Income Only Trust, or “IIOT,” is an increasingly popular and effective planning technique. IIOTs allow you to both 1) financially qualify for Medicaid and 2) avoid confiscation of or claims against your assets to repay the government for your care when you pass away.

IIOTs are commonly used to permit Medicaid to pay the cost of long-term care once the Medicaid “look-back period” – currently set at five years for nursing home Medicaid – has passed. The look-back rule means that Medicaid will penalize an applicant who gives assets to others (including a trust) within the five years prior to filing a nursing home Medicaid application.

Under the terms of an IIOT, the person establishing the trust (“grantor”) receives all of the income produced by the trust’s assets for the grantor’s lifetime. By transferring assets into an IIOT, the grantor retains some control and interest in the transferred assets – advantages unavailable when assets are given outright to children or others. If the grantor places his or her home into the trust, the trust agreement can provide for the grantor to continue to live in the home for his or her lifetime. Because IIOTs are irrevocable, the grantor cannot revoke the trust and reacquire the assets; therefore, the assets are not counted for Medicaid eligibility purposes.

Assets transferred into an IIOT more than five years prior to the filing of a Medicaid application will not impact Medicaid eligibility. If, however, assets are transferred to an individual or trust within five years of a Medicaid application, a penalty period will be imposed and Medicaid eligibility will be deferred for this amount of time. The penalty period will be based on the total of the gifts given during the look-back period, which begins when the individual enters a nursing home and is otherwise eligible for Medicaid.

In addition to asset protection, IIOTs also offer tax advantages. Because the grantor is treated as the trust’s owner for income tax purposes, he or she continues to pay income tax at his or her individual rate rather than at the higher rate that usually applies to trusts. Additionally, an IIOT can be drafted to include a special power of appointment for the limited purpose of including the trust assets in the grantor’s estate for estate tax calculations. This serves two purposes. First, a special power of appointment will permit a grantor to change the beneficiaries who will receive the assets upon the grantor’s death. Second, upon the grantor’s death, the trust assets obtain a “step-up” in value, so that when the assets are distributed to the grantor’s chosen beneficiaries, the beneficiaries’ cost basis in the assets for income tax purposes will be the value of the assets as of the grantor’s date of death. As a result, the beneficiaries will avoid capital gains taxes on the appreciation of the trust assets between the date of acquisition and the grantor’s death if the property is sold after the grantor’s death.

Please do not confuse a “Revocable” or “Living” Trust with this type of irrevocable trust. While a Revocable/Living Trust may have several benefits and uses, it is important to note that a Revocable/Living Trust does not offer any asset protection and is typically only implemented for asset-management and probate-avoidance purposes.

When properly drafted, the IIOT is a powerful tool in the Medicaid planning toolbox offering many benefits to clients and their loved ones.

For more information about this topic, contact Jeff Greener at 516-357-3177 or [email protected]

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