The Listen to Lawrence Letter: Does the house in a Medicaid trust get a step-up in tax basis at death?

READER QUESTION:

Here is a question for the “Listen to Lawrence Letter”:

On 6/28, there was an article in Newsday that said that, I believe, if a house is left in an irrevocable trust, there is no step-up in value when the owner (me) dies.

If the house was left in a revocable trust or a will, the house’s value is stepped up, and there is no tax on the transfer. Ex: Bought for $100K, value at death $800K. In an irrevocable trust, does tax have to be paid on the $700K gain? In a will or revocable trust, the tax would be $0?

The advantage of the irrevocable trust is Medicaid avoidance, BUT is it at the expense of a very large tax implication? If it is true, is there any way to take the house out of the irrevocable trust set up by you about 30 years ago?

MY RESPONSE:

Hold on there, Bucko! Don’t let one newspaper article keep you up at night.

The article is talking about some irrevocable trusts, but not all irrevocable trusts. The answer depends on how the trust was drafted.

The Medicaid Trusts that I have designed over the years were intentionally drafted so that your house and other appreciated assets still receive a step-up in tax basis at your death. That means if your house was purchased for $100,000 and is worth $800,000 when you die, your heirs generally receive the property with a new tax basis of $800,000. If they sell it for approximately that amount, there is generally little or no capital gains tax.

In other words, my Medicaid Trusts are designed to give you the best of both worlds: protection from the cost of long-term care after the five-year lookback period, while still preserving the valuable step-up in tax basis at death. So no, you do not need to take your house out of one of my Medicaid Trusts. In fact, doing so could destroy the Medicaid protection you worked so hard to obtain.

If your irrevocable trust was prepared by another attorney, however, don’t assume it works the same way. Some irrevocable trusts do not qualify for a step-up in basis.

We would be happy to review your trust and let you know exactly how it is designed to work.

Sleep well!

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