T Frank Law, PLLC

Estate Planning Blog

Estate Planning Blog

Common Massachusetts Estate Tax Planning Methods

As you may know, if you are a resident of Massachusetts and die with more than $1 million in your “taxable estate,” then you owe a Massachusetts estate tax. Unlike the federal estate tax, which has a current threshold of $5.49 million and taxes at a 40% rate over the threshold, Massachusetts taxes the entire amount above $40,000 if over the $1 million exemption. The Massachusetts tax rate is based on a sliding scale from .8% to 16%.

Considering real estate, life insurance death benefits, and retirement accounts, many people are over the $1 million exemption. Fortunately, there are planning tools that can reduce and often eliminate the Massachusetts estate tax.

For a couple who have, say, $3 million, here is a common planning mechanism:

Living Trust with Marital Trust and Credit Shelter Trust:

The couple splits their assets evenly - each spouse with $1.5 million - and holds them in living revocable trusts with estate tax planning provisions. Spouse 1 dies and leaves $1 million in a credit shelter trust and $500,000 in a marital deduction trust. The marital share of $500,000 passes to the surviving spouse in trust and qualifies for the estate tax marital deduction. The $1 million credit shelter trust is not over the $1 million exemption, meaning no estate tax is due. Both trusts are available for Spouse 2’s benefit. If Spouse 2 then dies, Spouse 2 has $1.5 million in Spouse 2's own trust and the $500,000 in the marital trust. Because Spouse 2's taxable estate is $2 million, Spouse 2 is $1 million over the exemption and owes estate tax of around $100,000.

Without planning, their Massachusetts estate tax would have been about 80% greater.

Another benefit of this approach is that the credit shelter trust protects assets from unsecured creditors. These benefits should be considered alongside the desirable degree of the surviving spouse's control over assets, and whether it would make sense for the couple to hold their assets evenly. 

This approach might not be best for younger families who’d want more control for the surviving spouse, however. In that case, a disclaimer plan might be better, where a back-up trust - with credit shelter trust provisions - is drafted in order to provide flexibility and the appearance of simplicity (this plan puts the burden on the survivor to effect a tax plan and requires careful counseling while settling the first spouse’s estate). A client might also be best advised to plan for the next several years and understand future revisions to the plan will be necessary.

Charitable giving, and/or annual exclusion gifting are also great ways to reduce one's taxable estate.

As you can see, plans vary greatly depending on circumstances and goals. There are also more sophisticated planning mechanisms, but for most of us, the methods above are the ones to discuss with your Massachusetts estate planning attorney.

Recent SJC Decision Highlights Pitfalls of MassHealth Long-Term Care Planning

On May 30, 2017, the Massachusetts Supreme Judicial Court issued its long-anticipated decision in Daley v. Secretary of the Executive Office of Health and Human Services and Nadeau v. Director of the Office of Medicaid, which were consolidated on appeal. These cases focused on MassHealth’s claim that the right to live in a house owned by an irrevocable trust made it “countable” for the purposes of qualifying for Medicaid in Massachusetts.

To provide some background: without any planning, if an elder requires nursing home level care, they must use substantially all their assets to pay for that care. Once they deplete their resources, they can apply for MassHealth. If a married couple did not plan ahead and own a home, that home is not a “countable” asset so long as its value does not exceed an annually adjusted limit (currently $ 828,000). However, MassHealth will place a lien on the home and force a sale after both spouses have died.

To avoid such a lien, many elders place their homes in irrevocable (Medicaid-qualifying) trusts. MassHealth has recently challenged such trusts.

The good news is that it seems the SJC rejected MassHealth’s argument that specific provisions relating to “use and occupancy” of the house make it a “countable” asset for long-term care eligibility.

However, in the Nadeau case the SJC ruled that the right to use and occupancy of the house was akin to receiving fair market value rental income from the house. This may affect how much an applicant is required to contribute to the payment of long-term care. If the Medicaid applicant is not renting the house, but the fair market value rental income is imputed from the right to use the home, the trustee might have to either sell or rent out the home in order to generate income to contribute for the applicant's care. This could create an entire class of nursing home resident landlords.

The Daley case differs in that the Daley Trust did not own the home in fee simple; the Daleys retained a life estate and deeded only the remainder interest in their home to the trust. Because the trust did not have a property interest in the home during the Daleys lifetime, the court held that the right to use and occupancy could not be deemed akin to fair market value rental income. The court did seem to suggest, though, that the life estate itself has value, and although MassHealth does not currently consider a life estate in an applicant’s name a countable asset, the court left the question open.

Both the Nadeau and Daley Trusts allowed the trustees to pay any income tax liability arising from income distributions to the grantors from the principal of the trusts. The SJC asked MassHealth to calculate whether and how much of the trust would be countable based on these provisions.

The Nadeau Trust had another potential pitfall, which allowed the granting of trust property to non-profits. The court pointed out that one quarter of nursing homes are non-profits.
 
These trusts likely complied with the law at the time, but because this area of law is evolving, older Medicaid qualifying trusts should be reviewed to ensure compliance with current law. Given the financial strain of Medicaid and the increased scrutiny, it’s important for elders and their families to work with advisers who focus in this field of law because these issues can be eliminated or mitigated with proper planning.

Please feel free to contact my office to learn more.

Retirement Account Trusts

Generally, if you are married, it's often best to name your spouse as a designated beneficiary of your retirement account. This would allow your spouse to "roll-over" your retirement accounts into their own and also avoid probate. 

Issues can arise by naming a revocable living trust as the beneficiary of a retirement account. Tax Code and Treasury Regulations require the trustee of a standard revocable trust to withdraw the entire balance of a retirement account within five (5) years of the owner's death. This would have significant income tax implications.

By naming individual beneficiaries of retirement accounts, the beneficiary can withdraw money from the account over their lifetime according to life expectancy. By spreading out distributions, they can minimize income tax. Dangers arise, however, when a person withdraws a lump sum, either intentionally or inadvertently, resulting in a huge tax bill. The beneficiary could also lose the money to lawsuits, creditors, divorce, addiction, or a "spend down" for government benefits relating to disability. A surviving spouse should carefully assess the financial know-how and credit risks of next of kin.

Retirement account trusts or IRA Trusts allow one to have it both ways. IRA Trusts ensure that clients' beneficiaries stretch out their required minimum IRA distributions, thereby providing maximum benefit and potentially allowing for compounding many years free of income-tax. In addition, an IRA trust allows the option to give a "Trust Protector" the right to elect between minimum required distributions ("MRD") on an annual basis or to have a full discretionary "accumulation trust," where the trustee can hold the MRD inside the trust if the beneficiary has asset protection concerns.

Election by the "Trust Protector" must be made by September 30th of the year following the death of the retirement account owner. The election could also result in a shorter stretch because the age of the oldest possible beneficiary must be used (the "Trust Protector" may be given power to limit such possible beneficiaries to minimize this issue, however). Having the option to elect between minimum required distributions from the IRA Trust and holding the minimum required distributions inside the trust provides flexibility to consider all factors at the time of death (e.g. creditor problems, disability), up to the election deadline.

If done properly, even a modest retirement account can accumulate millions of dollars when stretched out over the lives of next of kin.