Tax Planning vs. Medicaid Planning Avoid These Costly Mistakes

As you prepare to file your tax return this year, it’s a good time to re-visit the difference between the IRS rules and the Medicaid eligibility rules in order to avoid costly mistakes.

Take this example: you may wish to give a gift of $15,000 to each of your children and grandchildren to benefit from the IRS annual gift tax exemption. However, if you need Medicaid benefits within five years, these gifts will trigger a penalty period before you can be eligible for Medicaid benefits. While the gift is permissible for IRS purposes, it most definitely is not for Medicaid purposes. This mistake and its consequences can be quite costly.

Accountants and financial planners may know the tax rules, but they are not generally well-versed with the Medicaid laws. It’s important for adults over the age of 65 to consult with both their accountant and a Cona Elder Law attorney before making gifts and asset transfers.

Outright Gifts vs. Gifts to a Trust: When planning ahead to protect assets, it is typically best to transfer assets to a trust rather than to a child directly. Be sure the trust is irrevocable; only an irrevocable trust will protect assets.

Transferring assets to a Grantor Trust may be advantageous as it allows the assets to continue to be taxed at the senior’s tax rate. A Grantor Trust allows any income earned by the trust to be reported under the senior’s Social Security Number. The Trust does not need its own Tax ID number and a separate tax return is not required.

Real Estate Tax Exemptions: For many families on Long Island, their most valuable asset is their home. The value of the family home can be protected by placing it in an irrevocable trust. STAR and Veterans' exemptions can be maintained despite the transfer of real property to an irrevocable trust provided the trust document states that you have the right to live in the house for your lifetime (a life estate equivalent). Those exemptions would be lost with an outright transfer of the house.

Retirement Savings and Distributions: Currently, the principal of an IRA or 401K is exempt for Medicaid purposes provided the asset is in "pay status", meaning you are taking monthly distributions. However, while the IRS requires a minimum distribution when the beneficiary reaches age 70 ½ (the so-called "RMD" or Required Minimum Distribution), Medicaid requires that the distribution be "maximized". If you are currently applying for Medicaid benefits, our Cona Elder Law attorneys will help you calculate your "maximum" distribution.

Roth IRAs are also treated differently by the IRS and Medicaid. Even though you are not required to take a distribution from a Roth IRA, it must be put in "pay status" for Medicaid purposes or the principal will not be protected.

Long Term Care Insurance Tax Credits: A portion of your Long-Term Care insurance premium is deductible on your federal income tax return provided you itemize your deductions. The deduction amount is age based, increasing with every ten years starting at age 41 up to the maximum deduction amount at age 71 and older. New York State allows a tax credit of 20% of annual premiums paid (regardless of age).

Be Aware: Following the IRS rules for gifting, transfers to trusts, and the treatment of IRAs may have serious unintended consequences should you need long term care and Medicaid benefits. Always consult with our Cona Elder Law attorneys before making any gifts or asset transfers so you can avoid costly mistakes.

As always, contact us if you have any questions. Our Elder Law attorneys are always available to address your questions and concerns. Call us at 631.390.5000 or click here.