Misconceptions About Irrevocable Medicaid Trusts

By Ronald A. Fatoullah, Esq. and Yan Lian Kuang-Maoga, Esq.

Elder care attorneys use trusts for a variety of reasons, and the type of trust that is chosen depends on the goal of the particular client. Irrevocable trusts, in particular, are excellent vehicles for preserving an individual's assets in anticipation of long-term care, such as Medicaid. However, many people have developed a wariness of irrevocable trusts based on two common misconceptions. First, many believe that an individual will lose total control over the assets transferred into an irrevocable trust. Second, it is often thought that a transfer of one's assets to an irrevocable trust will be considered a gift, thereby requiring the filing of a gift tax return and the payment of gift taxes.

A transfer of assets is considered a "gift" for gift tax purposes when the transfer is a completed gift. A completed gift occurs when a transferor parts with "total dominion and control" over the transferred property. This definition often leads people to believe that a transfer of assets to an irrevocable trust is a completed gift, and that, as a result, the transferor loses all control over the transferred property. Irrevocable, after all, typically means incapable of change. However, it is possible to transfer assets to an irrevocable trust while still retaining power with respect to the transferred property. For instance, the creator of an irrevocable trust may retain the right to receive the income produced by the assets transferred into the trust. Additionally, the creator of an irrevocable trust may change the beneficiaries of the trust by a later instrument, such as a will. Where the creator of an irrevocable trust retains at least one of these rights or powers or one of the many others that are available with respect to the transferred property, the gift is rendered "incomplete," and, therefore, not a gift for gift tax purposes.

Another frequent misconception is that every gift, including a transfer of assets to an irrevocable trust, automatically requires the filing of a gift tax return and the payment of gift taxes by the person who made the gift. As outlined above, if the creator of an irrevocable trust retains certain rights and powers with respect to the transferred property, the transfer is not considered a completed gift and will not be taxed as such. However, even in the event that the creator of an irrevocable trust waives all of his or her rights with respect to the transferred assets (which makes the transfer a completed gift, and as such, a taxable gift), the creator of the trust often will avoid gift taxes if the gifts are under a certain amount. Under the gift tax rules, each individual may make gifts of up to $14,000 ($28,000 for married couples) per gift recipient per year without incurring any gift tax or having to file a gift tax return. Gifts in excess of these amounts, while requiring the filing of a gift tax return will not, in all likelihood, require the payment of taxes. This is because each person is entitled to a tax credit, called the Unified Credit, of up to $5,450,000, meaning that one may gift up to this amount without the payment of taxes. However, the Unified Credit is not limited to gift taxes. Rather, this credit is called the Unified Credit because it can be used for both gift taxes and estate taxes. As a result, individuals can give away-either during their lifetime or upon their death-up to $5,450,000 without incurring any gift or estate taxes.

Irrevocable trusts are instrumental in a variety of situations, including preservation of assets in anticipation of long-term care such as Medicaid. However, many people worry that transferring their assets to an irrevocable trust will require the payment of gift taxes and cause them to lose control over the transferred assets. In reality, a properly drafted irrevocable trust can help the creator of the trust avoid gift taxes while allowing him or her to retain control over certain aspects of the property transferred into the trust, including the ultimate disposition of the transferred property. It is, therefore, advisable to have each trust reviewed by an experienced elder care attorney.

Ronald A. Fatoullah, Esq. is the principal of Ronald Fatoullah & Associates, a law firm that concentrates in elder law, estate planning, Medicaid planning, guardianships, estate administration, trusts, wills, and real estate. Yan Lian Kuang-Maoga is an elder law attorney with the firm. The law firm can be reached at 718-261-1700, 516-466-4422, or toll-free at 1-877-ELDER-LAW or 1-877-ESTATES. Mr. Fatoullah is also the co-founder of JR Wealth Advisors, LLC. The wealth management firm can be reached at 516-466-3300 or 800-353-3775.