Marital Trusts: Pros and Cons

In estate planning for a married couple, it isn’t always as simple as “give it all to my spouse.”  Blended families, concerns about creditors and predators, new spouses and taxes are all reasons to make money available for your spouse when you are gone, but not simply leave it to them.  Clients often use marital trusts in these situations to protect the inheritance they leave to their spouse.  Forbes’ recent article, “Guide To Marital Trusts,” explains the pros and cons of using a marital trust.

As a quick explanation before the pros and cons, a marital trust leaves an inheritance in trust to the surviving spouse.  The trust pays all of the income it generates (e.g. dividends) and the principal it holds can be use for certain reasons.  When the surviving spouse dies, remaining property goes to whomever the first spouse named.  There are variations, but you can assume these trust terms for now.

The main benefits are the following:

  1. Tax Planning.  Depending on the tax elections you make, the marital trust can be considered the same as leaving the inheritance to your spouse for estate and gift tax purposes.  This allows you to use the marital tax deduction and not have estate tax apply to that inheritance.  Separately, you can elect the opposite, which might be wiser in substantial estates as it keeps money out of the estate of the survivor.  Either way, the trust gives flexibility you don’t get from leaving the inheritance directly to spouse.
  2. Provide for Spouse.  The marital trust distributes its income directly to the spouse.  Meaning, there is a stream of money that goes to the spouse to provide for their needs, and they may have the power to use more of the marital trust if they need it.
  3. Remainder Beneficiary Planning.  When the surviving spouse dies, the remaining assets go to the beneficiaries set by the first spouse.  This is helpful in blended families when the first spouse wants the remaining assets to go to their children as opposed to surviving spouse’s family.  You can change this to provide options to the surviving spouse of who to leave it to, even if it is limited to a group of people.  Similarly, because the trust holds the property, it tends to stay there and provide financial security to the future beneficiaries.
  4. Protect Assets from Creditors, Predators and Potential New Spouses.  Because the assets are held in trust with restrictions on it, there is an aspect of asset protection planning.  It is very difficult for creditors of the surviving spouse to get at the assets held by the trust, although the income might be in jeopardy.  Depending on who is in charge of the trust, it can also prevent a spouse who is suffering from cognitive decline misuse or waste the trust assets.  It can also prevent assets being paid to a new spouse because they are not the beneficiary.  Depending on how it is structured, you can also make it so that remarriage affects the distributions.

However, there are also downsides to using a marital trust. Those downsides include:

  1. This is the number one reason people don’t use a marital trust.  It is an irrevocable trust, so once the first spouse dies, it is difficult to undo or change.  That is also a pro to the first spouse (if you want to make sure left over money goes to your kids, you can’t let the survivor change that), but can make things cumbersome.
  2. Requires attention. To get the benefit of the marital trust, you need to make sure the assets are properly titled to the trust and that the income is distributed as appropriate.  Many financial institutions set up the accounts held by the marital trust to automatically distribute the income, so this is very doable, but does require more administration and attention.

I would add, as sort of a pro and a con, trusts for spouse can greatly assist with Medicaid planning for the surviving spouse if done as part of the first spouse’s will.  The marital trust can protect assets so that they are disregarded for Medicaid eligibility, although the income must be used.  If you want to build a trust for the surviving spouse for any of the above pros while incorporating Medicaid planning, there may different styles of trusts that can accomplish it better.

Reference: Forbes (June 30, 2022) “Guide To Marital Trusts”

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6 Things Seniors Should Consider Before Marrying

Seniors in particular think about marrying with an understandable degree of concern. Maybe your last relationship ended in a divorce, or it’s been a long time since they were married. However, according to a recent article from MSN, “Planning to remarry after a divorce? 6 tips to protect your financial future,” there are some steps to take to make relationships easier to navigate and protect your financial future.

Not all of them are easy, but all are worthwhile.

1.No marrying without a prenup. Everyone thinks of prenups as pertaining to divorce.  They can address divorce, but prenups do much more.  They clarify property in the marriage, such as whether it will belong to one spouse or to the other or both.  Prenups clarify many issues: full financial clarity, financial expectations, the marital rights of the couple and clear details on what would happen in the worst case scenario. This is especially important to putting each of the couples’ respective families at ease as they marry.  Getting all this out in the open before you say “I do” makes it much easier to go forward.

2.Trust…but verify. Estate planning ensures that assets pass as you want. A revocable living trust set up during your lifetime can be used to ensure your assets pass to your offspring. Unlike a will, the provisions of a revocable trust are effective not just when you die but in the event of incapacity. A living trust can provide for the trust creator and their children during any period of incapacity prior to death. At death, the trust ensures that beneficiaries receive assets without going through probate.

3.Estate planning. While you are planning to marry is a good time to check on account titles, beneficiary designations and powers of attorney, both medical and financial. Couples should review their estate plans to be sure planning reflects current wishes. This will go a long way to avoiding fights between the respective families who just recently joined together.

4.Check beneficiaries. Especially after divorce and before a remarriage, check beneficiaries on 401(k)s, pensions, retirement accounts and life insurance policies. If you marry, state law may require you to give some portion of your estate to your spouse or otherwise affect your ownership of property.  In many cases, this can be addressed by a prenup, but you still want to consult an estate planning attorney to guide you through any changes to beneficiaries.

5.Medicaid Planning.    On the negative side, you should consider the likelihood that either party will need help paying for long term care BEFORE marrying.  Medicaid, which is a government benefit that helps pay for long term care, has different eligibility based upon the marital status of the applicant.  Medicaid also expects both spouse’s assets to be used for care which has nothing to do with the prenup.  So, for some individuals, it doesn’t make sense financial to marry where one party will need long term care.

6.Choose fiduciaries wisely. The fiduciaries named in your estate plan are the people who have tasks to fulfill.  This could be a trustee, an executor, an agent and so on.  Consider carefully who should fill these roles as they may have to be between the two families.  Consider the advantages of a corporate trustee, who will be neutral and may prevent tensions with a newly blended family. If an outsider is named as an executor, or to act as a trustee, they may be able to minimize conflict. They’ll also have the professional knowledge and expertise with legal, tax and administrative complexities of administering estates and trusts.

Reference: MSN (Feb. 11, 2023) “Planning to remarry after a divorce? 6 tips to protect your financial future”

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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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