Elder law clients may be able to transfer IRA assets into irrevocable Medicaid trusts without triggering taxation, said David Zumpano and Robert Keebler during the November 21, 2006, ElderLawAnswers conference call, "New IRA Opportunity in Medicaid Asset Protection Planning." They asserted that due to recent IRS rulings, attorneys should consider whether traditional methods of withdrawing IRA funds to create Medicaid trusts are being supplanted by potentially more effective strategies.
Zumpano is the founder and prime teacher of Medicaid Practice Systems and is a practicing attorney in New Hartford, NY. Keebler, a Certified Public Accountant, is with Virchow, Krause & Co. in Green Bay, WI, and is a nationally recognized expert in family wealth preservation and retirement distribution planning.
A few months ago Zumpano and Keebler were introduced and began considering whether a Medicaid trust could work with a recent IRS Private Letter Ruling. Zumpano and Keebler said that following the IRS’ rulings in PLR 200620025 and an earlier unpublished IRS case with a similar effect, it may be possible to structure a Medicaid Asset Protection trust such that it qualifies as a designated beneficiary of IRA assets without triggering taxation. In PLR 200620025, the IRS ruled that the transfer of disabled beneficiary’s share of a decedent’s IRA to an intended special needs trust created a grantor trust and is not a transfer for federal income tax purposes. The agency also ruled that the trustee-guardian could calculate annual distributions based on the life expectancy of beneficiary as opposed to decedent.
Prior to this decision the common school of thought was that if a client wanted to create a Medicaid trust with his IRA funds during his lifetime and prior to the beginning date (age 70½,), he would have to liquidate the IRA to begin the five-year penalty period while taking the concomitant tax hit. Now it may be possible to transfer the IRA assets into a grantor trust and delay having to pay taxes on those funds because the transfer would not be a transfer for income tax purposes.
Zumpano said that the former view of irrevocable trusts being synonymous with no control or access to the funds has been supplanted by a view that the irrevocable trust can be more flexible. This is important, especially since estate tax consequences are not a prime factor in Medicaid planning. Zumpano said that he uses three types of grantor trusts, the first two of which should serve the purpose of a grantor trust to receive IRA assets without triggering taxation.
- Family Irrevocable Trust (FIT) – In this trust scenario, parents transfer assets into the trust and serve as trustees. They relinquish all right to income or principal but they can distribute income or principal to a class of persons they define.
- My Income Trust (MIT) – This trust scenario is similar to but not identical to a traditional income trust in that the grantor is the trustee and controls the assets. The grantor or spouse have a reserved a right to income, but principal must be distributed to a class of persons other than the grantor or his spouse.
- Kids Income Trust (KIT) – This trust is created by the children after assets have already been transferred to them. It is useful to shield money given to the children during the five-year penalty period from the childrens' creditors, from lawsuits, divorce, etc.
Zumpano and Keebler acknowledged that they expect some confusion and apprehension over their new strategy. They are addressing possible challenges from two angles. First, Keebler has filed tax forms for several clients and included opinion letters stating why, under the IRS’ own rulings, the transfer of the IRA assets into the irrevocable trust was not a taxable event. If there is a problem with the interpretation, the client is protected from penalties by the reasonably-considered opinion letter and the IRS will then make a determination. The second angle has been to seek a private letter ruling on the individual client’s circumstances.
Although this presents new opportunities, Zumpano and Keebler also acknowledge that at this time it would not be feasible for everyone with an IRA to pursue private letter rulings to support such a transfer. Until there are more rulings to support this view, the one published and one unpublished case are insufficient to “hang [o]ur hat upon,” they said. Also, the PLR process is expensive, easily costing $15,000 in fees and will not be appropriate for more modest IRA accounts. Individual factors also need to be considered such as whether the applicant is claiming disability under Social Security or Veteran’s benefits. Further, it was pointed out in response to a caller’s question that these are state-specific issues and state IRA rules may in some cases obviate the need for these new strategies.
"In the next year we'll find out where all this goes," Keebler said.
For Keebler, the big picture is that clients are no longer faced with liquidation of the IRA assets as the only way to fund a Medicaid trust. There is now a possibility of moving the IRA into an irrevocable trust to avoid taking it all out at once for income tax purposes. This new approach when used in conjunction with or as an alternative to traditional strategies, such as using immediate annuities or promissory notes, offers clients more choices to suit their particular circumstances.
To listen to the conference call or read the accompanying documents, click here and select "Listen" and/or "View".
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