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What Is It?

What Is A Transfer Subject to Special Power of Appointment?

A transfer subject to special power of appointment is often used in the Medicaid context to protect your home and facilitate your eligibility for Medicaid. Also, it can provide certain gift and income tax benefits, as completed transfers of property for Medicaid purposes are not necessarily completed transfers for tax purposes. With a special power of appointment, you transfer your house to someone else but reserve the right to irrevocably redirect the house to a different person at a later time. This ability or power to redirect the home can be exercised during your lifetime (by a deed) or at your death (by a will), but you can exercise this power only once. A special power of appointment cannot be exercised in favor of yourself, your creditors, your estate, or the creditors of your estate. In other words, you can redirect the house to anyone except someone in one of the aforementioned categories.

Example(s): Abraham is an 80-year-old widower with a daughter, Mary. Abraham deeds his house to Mary but reserves a special power of appointment in the deed. Mary allows her father to continue living in the home. When Abraham enters a nursing home six years later, his income and asset levels are so low that he qualifies for Medicaid. Since Mary owns the house, the Medicaid authorities cannot place a lien on the house and have no right to go after the house after Abraham dies. It makes no difference whether Abraham ever exercises his special power of appointment or not (as long as he does not exercise his power in favor of one of the four prohibited categories).

How Is This Useful As A Medicaid Planning Tool?

To qualify for Medicaid, both your income and the value of your other assets must fall below certain limits that vary from state to state. In determining your eligibility for Medicaid, a state may count only the income and resources that are legally available to you for paying your medical costs. A transfer subject to special power of appointment helps you to qualify for Medicaid because giving away your house can bring your asset level down to the threshold level set by your state. In addition, of course, making a gift of your principal home to your children (or other loved ones) protects this asset for them. The state cannot place a lien (or force a sale) on a home that no longer belongs to you.

The tax benefits also make this an attractive Medicaid planning tool. The transfer of your house subject to a special power of appointment will be a completed transfer for Medicaid and legal purposes, but an incomplete transfer for income, estate, and gift tax purposes. Thus, the home will be unreachable for Medicaid purposes, both during your lifetime and under estate recovery rules, but you'll still receive a number of tax benefits. Specifically, according to the federal gift tax laws, if you transfer property but reserve a special power of appointment, the transfer is not a completed one; a valid gift has not been made. Consequently, a transfer of property subject to a special power of appointment will not be subject to gift tax. And because the property will be included in your estate for estate tax purposes, it will be entitled to a step-up in basis for income tax purposes.

Caution: Medicaid eligibility rules are subject to change. Seniors and their families should take no action without consulting a knowledgeable elder law attorney.

How Does It Work?

As a practical matter, you want to include language in the deed specifically referencing your retention of a special power of appointment. If you'd like to redirect the property to a different child at a later date, you could say that you reserve the power to appoint the property to any one or more of your lineal descendants. In order to facilitate the clear passage of title after you die, your initial deed with reserved special power of appointment should state that if no exercise of the power is recorded within 30 days after the power holder’s death, this will be presumed to be a default of the power. That way, only a death certificate would need to be recorded to clear the title of your unexercised power. (Otherwise, your estate would have to go through probate.)

Tip: You should also execute, and your deed should reference, a durable power of attorney. If you later become incapacitated and your children need to sell the property during your lifetime, your attorney-in-fact will then have the authority to exercise (or release) your special power of appointment for you.

Will Such A Transfer Create a Period of Ineligibility for Medicaid?

Medicaid planning is best done before your entry into a nursing home becomes imminent, and transferring your home subject to a reserved special power of appointment is no exception. This is because a gift, like any transfer of assets for less than fair market value (FMV), can create a waiting period or period of ineligibility before you can qualify for Medicaid. When you apply for

Medicaid, the state has the right to review or look back at your finances (and those of your spouse) for a period of months before the date you applied for assistance. For transfers made on or after February 8, 2006, the look-back period is 60 months. So if you give away your house within 60 months of the date that you apply for Medicaid, you may be ineligible to qualify for Medicaid for a period of months, based on a formula set by the state. This formula may be explained as the FMV of transferred assets divided by what Medicaid determines to be the average monthly cost of nursing homes in your locale, the quotient being the number of months for which you will be ineligible to apply for Medicaid benefits.

Example(s): Assume Bonnie is an elderly widow who owns a house. She transferred the house to her son, Ben, when it was worth $100,000. She included language in the deed that reserved her special power of appointment. Two years later, Bonnie became a permanent resident of a nursing home and applied for Medicaid, but because she transferred the house within 60 months of applying for Medicaid, she is subject to a waiting period or period of ineligibility before she can qualify for Medicaid. Because the average cost of nursing homes in her locale is $4,000 per month, Bonnie must wait 25 months from the date she applied for Medicaid before she can qualify ($100,000 divided by $4,000 equals 25 months).

Example(s): If Bonnie had given the house to Ben at least 60 months before she entered a nursing home, she would have avoided the ineligibility period (since the gift occurred prior to the 60-month look-back period).

Transfer of the principal home to the following people for less than FMV will not trigger any ineligibility period:

  1. Your spouse
  2. Your child who is under age 21 (or blind, or permanently and totally disabled)
  3. Your child (other than above) who has been living in the home for at least two years before the date of your institutionalization and who has provided care for you, enabling you to live at home
  4. Your brother or sister who has an ownership interest in the house and who lived in the home for at least one year immediately before you became institutionalized

When Can It Be Used?

You Want to Qualify For Medicaid and Preserve Assets, and You Anticipate the Need For Long-Term Care

Because a gift of a house can create a waiting period or period of ineligibility before you can qualify for Medicaid, a transfer subject to special power of appointment should be effected long before entry into a nursing home is imminent. If not, you may find yourself without the necessary funds to pay your nursing home bills before Medicaid coverage begins. In general, however, a special power of appointment is a very effective Medicaid planning tool for protecting your home and helping you to qualify for Medicaid.

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Strengths

Preserves House for Your Loved Ones

Medicaid authorities cannot place a lien on (or force a sale on) a house you don't own, so if one of your goals is to pass the family home on to your children, a transfer subject to special power of appointment is potentially effective.

Helps You Qualify For Medicaid

To qualify for Medicaid, both your income and the value of your assets must fall below certain limits that vary from state to state. A transfer subject to special power of appointment can help you to qualify for Medicaid because giving away your assets brings your total asset level down. And generally, your house is the most valuable asset you own.

Can Avoid Probate

Giving the house away while you are still alive keeps the house out of the probate process, assuming you draft your deed properly. Probate can be expensive and time consuming, and it often involves hiring an attorney. By employing such tools as gifts, trusts, life estates, and the transfer subject to special powers of appointment, you can avoid these problems.

Property Is Not Subject to Estate Recovery Process

The state can seek reimbursement from your estate after you die. For Medicaid purposes, the word "estate" has traditionally been construed by most states as your probate estate, that is, property that passes under your will, not by beneficiary designation or by operation of law. Some states, however, have adopted an expanded definition of "estate" that includes all nonprobate assets as well, to the extent of your legal interest in such assets at the moment before your death. Therefore, a transfer subject to life estate, for example, would not escape the state's reach in certain states. In contrast, a transfer subject to special power of appointment would be impenetrable, since it is neither property nor a property right, per se. Therefore, the state cannot go after the house, either during your lifetime or after your death.

Not Subject To Gift Taxation

With a special power of appointment, you transfer your residence to someone else but reserve the right to irrevocably redirect the house to a different person (or group of people) at a later time. According to federal gift tax rules, you have not made a completed gift at the time of the transfer if you reserve the right to determine who will receive your property at some later time. Thus, the transfer of your residence subject to a special power of appointment will not be subject to gift tax.

Stepped-Up (Or Stepped-Down) Cost Basis Available

Because you retain ultimate control over the property when you reserve a special power of appointment, the full value is included in your estate for federal estate tax purposes. Your children (or whomever you transfer the property to) are treated, for income tax purposes, as though they inherited your property. In other words, in determining their capital gain on a later sale of the property, the recipients of the property get to use the fair market value (FMV) of the property on your date of death as their basis.

Example(s): Assume James paid $70,000 for his home 25 years ago. He transferred the house to his son Kirk two years ago, subject to a special power of appointment. When James dies, the house has an FMV of $260,000. If Kirk sells the house for $260,000, there will be no capital gain, since Kirk's stepped-up basis in the property is equal to the property's value at the time of James's death ($260,000). If, however, James had simply given the house to Kirk without reserving a special power of appointment, Kirk's basis would be $70,000, and Kirk would recognize a capital gain of $190,000 if he sold the property for $260,000.

Tradeoffs

You Lose the Legal Right to Live In the House

By gifting the house and retaining only a special power of appointment, you lose the right to live in the home. This can be especially devastating if you transfer the house years before you require entry into a nursing home. If your children get divorced or owe money to creditors, theoretically, the house could be sold, and you'd have no place to live. As a practical matter, however, no buyer would purchase the property subject to your special power of appointment, since you could transfer the property out from under him or her.

Transfer of the Home Triggers Ineligibility Period

A gift of the home, like any transfer of assets for less than fair market value, can create a waiting period or period of ineligibility before you can qualify for Medicaid. More specifically, if you give away the house within 60 months of the date that you apply for Medicaid, you may be ineligible to qualify for Medicaid for a period of months, based on a formula set by the state.

How to Do It

If you are interested in a transfer subject to special power of appointment, there are a number of steps you should follow:

Gather Your Medicaid Eligibility Information Before Consulting An Attorney Or Other Financial Advisor

  1. Prepare a list of all of your assets (and those of your spouse), indicating how title is held, the tax basis, and how much you paid for the asset.
  2. Prepare a list of your (and your spouse's) income from all sources.
  3. Indicate whether your resources are, for Medicaid purposes, exempt, not exempt, or inaccessible.
  4. Prepare a list of all assets transferred within the last five years, whether by way of gift, trust, life estate, or otherwise. Indicate date of transfer, transferee, purpose, and consideration (what you received in return).

Consult a Medicaid Law Attorney

In recent years, the Medicaid laws have undergone a number of changes. Indeed, because certain planning vehicles have been eliminated and most rules tightened, it is reasonable to expect that further changes will occur in the years ahead. It is vital, therefore, to consult an attorney experienced with Medicaid planning. An attorney will advise you of your options, make recommendations, and ensure that transferring your house (subject to a special power of appointment) would be in your best interests.

Tax Considerations

Income Tax

There are no income tax consequences to you when you transfer your residence and reserve a special power of appointment. However, be aware that reserving a special power of appointment may allow your children (or whomever you named as the transferee in the initial deed) to enjoy a step-up in the basis of the residence for income tax purposes after your death.

Gift Tax

With a special power of appointment, you transfer your residence to someone else but reserve the right to irrevocably redirect the house to a different person (or group of people) at a later time. According to federal gift tax rules, you have not made a completed gift at the time of the transfer if you reserve the right to determine who will receive the property at some later time. Thus, you will incur no gift tax as a result of the transfer.

Estate Tax

Because you retain ultimate control over the property when you reserve a special power of appointment, the full fair market value of the property (on your date of death) is included in your estate for federal estate tax purposes. However, your estate will not actually have to pay federal estate taxes if its value is less than or equal to the applicable exclusion amount.

Questions & Answers

You're an 80-year-old Widow, and Your Doctor Has Advised You to Enter a Nursing Home, Since You Now Need the Kind of Skilled Medical Care That Your Children Can No Longer Provide. You Own a House, and Your Daughter Has Been Living With You for the Past Three Years. Without Her Constant Assistance With Washing, Dressing, Dispensing Medication, Etc., You Would Have Been Forced to Enter a Nursing Home Long Ago. You'd Like to Repay Your Daughter's Kindness by Giving Your House to Her.

No. If your daughter has been living in your home for at least two years before the date of your institutionalization and if she has provided care for you, enabling you to live at home, then you have met one of the exceptions to the ineligibility rules. Transfer of your principal home to your daughter (for less than fair market value) will not trigger a period of ineligibility for you, given the circumstances you recited.

 

 

This material was prepared by Broadridge Investor Communication Solutions, Inc., and does not necessarily represent the views of  The Retirement Group or FSC Financial Corp. This information should not be construed as investment advice. Neither the named Representatives nor Broker/Dealer gives tax or legal advice. All information is believed to be from reliable sources; however, we make no representation as to its completeness or accuracy. The publisher is not engaged in rendering legal, accounting or other professional services. If other expert assistance is needed, the reader is advised to engage the services of a competent professional. Please consult your Financial Advisor for further information or call 800-900-5867.

 

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