The Advice of Friends

Friends naturally want to help their friends and their thoughts and advice give comfort in life. Faced with medical or legal problems, however, nonprofessional advice may be incorrect, and could result in serious unintended consequences. The following is an illustration of how well intended, but wrong advice could affect a family’s ability to stay at home, get homecare paid by the Connecticut Home Care Program for Elders, and preserve an inheritance for children and grandchildren.

Assume a friend is talking with a couple that wants to do estate planning to minimize inheritance taxes, capital gains taxes, avoid probate, and pass on those hard-earned life savings to their children. The friend says the way to do that and to avoid probate is to put assets into a revocable trust. They decide to consult with an elder law attorney who evaluates their particular financial situation and based on that situation, the attorney recommends an irrevocable trust to accomplish all their purposes.

Both a revocable trust and an irrevocable trust will avoid probate. So will owning property in joint survivorship or having a beneficiary designation on bank accounts and IRA’s. Neither a trust nor joint survivorship accounts will avoid the probate fee, which in Connecticut is not based on property passing through probate, but is based on the amount shown on the inheritance tax return. If that tax return is not filed, interest will begin running on the unpaid fee, and the couple, or their heirs, will not be able to sell their house without a certificate of no tax that the probate court issues. This is true whether the property is in their names, or the name of a revocable trust, or an irrevocable trust. For the typical Connecticut family, there is no inheritance tax to Connecticut (exemption $5.1 million) or to IRS (exemption $11.2 million). So, having or not having a will, a revocable trust, an irrevocable trust or none of those documents does not make any difference in taxes which are zero.

Having a revocable trust will avoid probate, but for elder law planning, that is often not the critical issue, which is losing assets paying for long term care. Avoiding probate is not much benefit if there is almost nothing or nothing left to pass on to the family. For a doctor diagnosing a person with diabetes, the type of diet and insulin dosage matters. So too with an attorney evaluating an estate plan. The risk of long-term care must be taken into account for the older population because the probability of needing care goes up.

That is why in some estate plans, an irrevocable trust may be warranted. That trust must have tax provisions that keep all of the tax benefits that the individual has, such as real estate tax deductions, keeping the $250,000 exemption that each spouse has from capital gains tax if the home is sold, and the taxpayer lived in it for two of the last five years, and getting a 100% step up in tax basis upon the death of the person making the trust. What the “step up in tax basis” means is that IRS treats the property as if it was purchased at its value on the date of death, so that when the children or a surviving spouse sells it, there is zero capital gains tax on up to that amount. This is incredibly valuable for all homeowners.

When evaluating the family members ages, health and other circumstances, a critical factor is whether or not the family wants to protect assets. A revocable trust will not protect assets, because if you can revoke it and take it back, the state says it’s still yours. A properly drawn irrevocable trust will protect assets after five years, even if both spouses need long term care. It can’t be done last minute. The trust can’t hold IRA type asset during the persons lifetime. But IRA’s can now be protected if there is a healthy spouse, by getting a court order, called a Qualified Domestic Relations Order. This is a federal tax law, and no tax is paid on the transfer, but requires a Connecticut court to order it, and to accomplish that, it is probably necessary to have specific language in a power of attorney authorizing such a transfer to a spouse. Then the spouse can take other steps to protect the IRA.

In short, the amount and kind of assets, age and health needs, children’s circumstances, income taxes, capital gains taxes and other variables must be taken into account in deciding which type of estate planning is best for families, to preserve family wealth. There is no one size fits all, and that is why professional evaluation is critical.