Will Making a Gift Conflict with Medicaid?

People usually make gifts for three reasons—because they want to provide for the recipient, because they want to protect assets, or minimize tax liability. However, gifting in one’s elder years can have expensive and unintended consequences, as reported in the article “IRS standards for gifting differ from Medicaid” from The News-Enterprise, especially with Medicaid.

As a quick aside, if you’ve read any of my articles on gifting, you know I preach caution.  Way too many people make gifts because of a perceived benefit, and don’t consult a professional to determine whether there is a benefit.  That said, for the purposes of this article, I’m going to focus on Medicaid gift tax consequences as opposed to all of the other pros and cons in making gifts.

A primary reason for most people to make gifts is tax planning.  The IRS gift tax becomes expensive, if gifts are large. However, each individual has a lifetime gift exemption and, as of this writing, it is $12.06 million, which is historically high. A married couple may make a gift of $24.12 million. Most people don’t get anywhere near these levels. Those who do are advised to do estate and tax planning to protect their assets.

The IRS also allows an annual exemption. For 2022, the annual exemption is $16,000 per person. Anyone can gift up to $16,000 per person and to multiple people, without reducing their lifetime exemption.

However, the more real danger is the effect of a gift on Medicaid or long-term care benefits.  People, and frequently financial advisors and non-attorney professionals, often confuse the IRS annual exclusion with Medicaid requirements for eligibility. IRS gift tax rules are totally different from Medicaid rules.

Medicaid does not offer an annual gift exclusion. Medicaid penalizes any gift made within 60 months before applying to Medicaid, unless there has been a specific exception.  The Veterans Administration may also penalize gifts made within 36 months before applying for certain VA programs based on eligibility.

For Medicaid purposes, gifts include outright gifts to individuals, selling property for less than fair market value, transferring assets to an irrevocable trust, or giving away partial interests.  Some gifts are expressly permitted, such as gifts between spouses.  Also, most states have some species of an exception for very small gifts, but that definition varies widely.

For example, in Texas there is no exception for small gifts.  However, Medicaid staff is instructed not to inquire into potential gift transactions for less than $200 total in a month.  That doesn’t create a strategy of gifting typically, but it avoids Medicaid penalties when Grandma gives $50 to a grandchild for their birthday.

The penalty for gifting in Medicaid is a penalty period.  In short, Medicaid looks at your eligibility, and once otherwise eligible will calculate a penalty period by dividing the value of your gifts by a penalty rate based upon the daily average cost of a nursing home in the year of the gift.  So, if you gave away $50,000 and the penalty rate is $250 per day, you are ineligible for 200 days.  During this time you’ll have to find a way to pay yourself before Medicaid will.

So, gifting where Medicaid may be an issue in the future often has very real and dangerous consequences.  That doesn’t mean gifting can’t be useful in Medicaid, as sometimes gifting is an express strategy for eligibility, but anyone making gifts should do so at the advice of an attorney.

Reference: The News-Enterprise (Aug. 6, 2022) “IRS standards for gifting differ from Medicaid”

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Gifting for Estate Taxes

In honor of this festive season, I wanted to talk about gifting.  If you’ve read my blogs in the past you probably aware that there may be tax consequences to gifts, and that there have been many discussed changes to the estate and gift tax in this past year.  However, clients frequently ask questions about it, especially at the end of the year, so I wanted to address gifting and potential estate planning considerations.  You can also see the recent article “Gift money now, before estate tax laws sunset in 2025” from The Press-Enterprise for a bit more detail and some additional considerations.

Gifts may be used to decrease the taxes due on an estate, but require thoughtful planning with an eye to avoiding any unintended consequences.

The first gift tax exemption is the annual exemption. Basically, anyone can give anyone else a gift of up to $15,000 every year. If giving together, spouses may gift $30,000 a year.  Couples often make gifts to children and include their child’s spouse as a recipient, which effectively means you can gift $60,000 (two donors giving $15,000 a piece to two people) within the annual gift tax exemption.  After these amounts, the gift is subject to gift tax. However, there’s another exemption: the lifetime exemption.

For now, the estate and gift tax exemption is $11.7 million per person.  Many legislative proposals this year considered reducing that exemption substantially, but currently anyone can gift up to that amount during life or at death, or some combination, tax-free. The exemption amount is adjusted every year. If no changes to the law are made, this will increase to roughly $12,060,000 in 2022.

However, the current estate and gift tax exemption law sunsets in 2025, if not earlier as many are predicting.  This will bring the exemption down from historically high levels to the prior level of $5 million. Even with an adjustment for inflation, this would make the exemption about $6.2 million in 2025.

For households with net worth below $6 million for an individual and $12 million for a married couple, federal estate taxes may be less of a worry. However, there are state estate taxes, and some are tied to federal estate tax rates. Planning is necessary, especially as some in Congress would like to see those levels set even lower.

Let’s look at a fictional couple with a combined net worth of $30 million. Without any estate planning or gifting, if they live past 2025, they may have a taxable estate of $18 million: $30 million minus $12 million. At a taxable rate of 40%, their tax bill will be $7.2 million.

If the couple had gifted the maximum $23.4 million now under the current exemption, their taxable estate would be reduced to $6.6 million, with a tax bill of $2,520,000. Even if they were to die in a year when the exemption is lower than it was at the time of their gift, they’d save nearly $5 million in taxes.

Now, I want to stress because gifting is often abused, that this analysis affects individuals who may become estate taxable.  If you are a married couple with $2,000,000 in total assets, gifting doesn’t make tax sense, and may have adverse consequences elsewhere.

For example, gifting affects Medicaid eligibility, which is relevant to far more people than federal gift and estate tax.  Medicaid penalizes transfers made for less than full value (so gifts as well as transfers made at a discount such as sales for a $1, sales at cost and so on), so gifting the $15,000 isn’t prudent.  Beside that point, sometimes clients simply need the money later in life for their own use to enjoy retirement, which is the best plan of all.

There are also other taxes to consider in making gifts where estate taxes aren’t concerning, such as capital gains tax.  See this article for more information on those topics.  https://www.galliganmanning.com/is-it-better-to-give-or-let-kids-inherit/ 

That said, there are a number of estate planning gifting techniques used to leverage giving, including some which provide income streams to the donor, while allowing the donor to maintain control of assets. These include:

Grantor Retained Annuity Trusts. The donor transfers assets to the trust and retains right to a payment over a period of time. At the end of that period, beneficiaries receive the assets and all of the appreciation. The donor pays income tax on the earnings of the assets in the trust, permitting another tax-free transfer of assets.

Intentionally Defective Grantor Trusts. A donor sets up a trust, makes a gift of assets and then sells other assets to the trust in exchange for a promissory note. If this is done correctly, there is a minimal gift, no gain on the sale for tax purposes, the donor pays the income tax and appreciation is moved to the next generation.  Congress has definitely considered shutting this down, but hasn’t to date.

These strategies may continue to be scrutinized as Congress searches for funding sources so they may not be perfect strategies or available in the future, but in the meantime, they are still available and may be appropriate for your estate. Speak with an experienced estate planning attorney to see if these or other strategies should be put into place.

Reference: The Press-Enterprise (Nov. 7, 2021) “Gift money now, before estate tax laws sunset in 2025”

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