Why should I consider establishing a Life Estate? Does a Life Estate offer any disadvantages?

Join us to learn about the benefits and disadvantages that life estates offer. We will be joined by our guest speaker Attorney Eric Correira from Correira Law of Swansea, MA.

In this webinar we will be covering:
– What is a life estate?
– What protections do life estates offer me?

The opinions expressed in this webinar are the opinions of Attorney Brian Barreira and Attorney Eric Correira on the law as written as of the date of the webinar recording, February 17, 2022. The information presented in the webinar is for informational purposes only, and is not a substitute for individualized legal advice.

Webinar Transcript

Brian: This month we’re doing life estates, we’re talking about life estates with Eric Carreira from Carreira Law in Swansea. Eric, do you want to say anything about your practice?

Eric: Sure, I’m an estate planning and elder law attorney, I have an office in Swansea Massachusetts as well as a few other locations in Massachusetts, Rhode Island and Florida and I practice in all three of those states exclusively trust and estate law including elder law.

Brian: Okay and after we scheduled this we determined that neither Eric nor I really like life estates so this webinar is going to be somewhat slanted against the idea of using a life estate. There are positive reasons to use a life estates, it works for some people, for some people it doesn’t work. So let’s get started, how does a life estate work, Eric?

Eric: Okay so a life estate is just kind of boil it down to the basics is a real estate interest so you have a deed where someone who owns a piece of property conveys that property to one or more persons and retains a right for the rest of their life to occupy the property and essentially live there, that’s the life estate. The most typical scenario is a parent that wants to make a transfer to a child or children they deed the interest to the children and they’re the life tenant, they have the right to stay there. Technically a life estate can be based on the life of another but I don’t think we can go down you know that’s like sort of a law school.

Brian: Yeah, I have the right to live there based on someone else’s lifespan you know that’s very rare. The remainder-persons, the remaindermen are the people who you deed it to. Now, they have a vested interest when you have a life estate you have the right to live there, to use it, to rent, to collect rents but the people who are inheriting are locked in and even if they die before you die, before the life tenant dies they own something so it can flow through their estate to somebody else but you could do a deed, let’s say you have three children let’s use the example today of three children, you can deed it to them as tenants in common or you can do it to them as joint tenants with right of survivorship. Now if it’s joint tenants and one of them dies the other two have it. If you did a tenants in common and one of them dies before you then we’ve got a floating third out there that’s going to go through probate. So this is a vehicle that does work for some families but doesn’t work for all families and I think by the end we’re going to be talking about trusts and other ways to transfer property. So, what are the rights of these remainder-persons, Eric I think we got you down for covering that.

Eric: Well, if you look at a life estate deed, the rights of the remaindermen, they have a property interest while the life tenants living that person is responsible for the maintenance, upkeep, the taxes basically everything about the property. They can’t cause the property to fall into disrepair, right the legal term would be waste, so the remaindermen are sort of just sitting tight, their interest can be conveyed in the meantime to some other person they could in theory sell it or incorporate into their own estate planning but that’s really it. They own it subject to the life estate.

Brian: But they don’t, they can’t really do anything, so if the person is just letting it fall apart the life tenant, the person with a life estate is known as a life tenant, if that person is letting it fall apart they could potentially file a lawsuit-

Eric: Right

Brian: -because sometimes that’s the stepmother who’s taking care and who’s living in the property but it’s kind of a mess, a trust in this case would be a better vehicle because it provides all sorts of legal rights through trust law. But yeah, it’s a vehicle so that’s about all we’ve got to say, I mean we don’t really like it a lot. So what does it do? What’s the benefit of a life estate? Well first of all, the reason a lot of people do it is it avoids probate. You’ve deeded to your three children, you’ve kept the right to live there, you don’t feel like you’ve lost anything because all you wanted was the right to live there and when you die there’s a death certificate recorded and then they own it. All right now, there’s still an estate tax as though you had not given it away. I know this is not, I don’t think this is on our outline but it came into my head so I’m going to talk about it. A life estate is the right to use it and there’s an estate tax in Massachusetts on everything once you hit a million in assets and even if you don’t have a million there’s automatically an estate tax lien on property in Massachusetts when somebody who owns an interest in real estate dies. So, you got to get rid of the estate tax lien before you can do anything if you’re one of the remainder-persons.

Eric: But that’s intentional, right, because most people who are doing life estates if that’s the planning they more than likely are below a million in assets, so on one hand it will be included in their taxable estate but if they’re below a million dollars in Massachusetts then there’s no tax to pay.

Brian: Right.

Eric: But the good thing about that on the flip side is because it’s part of their taxable estate they’ll get a step up in basis for income tax purposes. So they’re in other words, I guess to say it more succinctly, if somebody paid $50,000 for a property 20 years ago and now it’s worth $200k if they do a life estate deed and they die, their children, we are using the children’s example, if they go to sell they’ll use the $200,000 value on the date of death as the starting point for calculating a gain or loss as opposed to the $50,000 original value that the person paid way back when so it’s includable in their taxable state but usually that’s intentional to get the step up basis.

Brian: Right, now if a married couple deeds property out with the joint life estate then there’d be a step up it would be treated as though each spouse owned half So, when one spouse dies there’d be a step up in basis on half the property and then when the second one dies there’d be a step up on the other half. So, you could wind up with some capital gains taxes there based on if the one spouse died much earlier than the second one. There are other benefits like senior tax breaks, I think you’re going to cover that Eric, go ahead.

Eric: Right, well you retain senior tax break so one reason to a life estate deed is it’s a way to move the property interest to get potentially that probate avoidance or we’ll talk about a little bit Medicaid protection but because the towns, if you keep that life estate interest you’ll still be eligible for whatever tax breaks might be available for property taxes but like we’ll talk about later that could also be done for your revocable trust.

Brian: So I think we’ve talked about most of the advantages of a life estate, now there are disadvantages so let me start with MassHealth. If you deed your property away and keep the right to live there you’ve protected the property but you still have an interest in that real estate and your life estate has a value. If it were sold the IRS has tables that show how much you’re supposed to get. Now if it’s sold while you’re alive, MassHealth, those assets would go to you and if you were in a nursing home those would be your assets. Estate recovery is the process where MassHealth comes back, it’s called picking over the bones of the dead in some articles, after you die, MassHealth is known as Medicaid in most states; what’s it called in Rhode Island, is it called Medicaid?

Eric: This is called Medicaid

Brian: It’s called Medicaid.

Eric: Everyone refers to LTSS benefits but that’s just me.

Brian: So estate recovery can be expanded by the state legislature, right now in Massachusetts they can only go after your probate estate and the life estate deed has avoided probate but the estate recovery law could change and if it changes then the agency could file a claim for reimbursement for your MassHealth benefits against your life estate. Unfortunately though, I was involved in a case with the Supreme Judicial Court called Daley a few years ago and the court put in a footnote that was very strange and I think it essentially told us that they could go after the entire property, even though you gave it away and you just have the right to live there, it looks to me like our top court said if we change the law in this state they would approve of the state agency going after the entire property, so nothing would have been saved if this law changes. Now I don’t know if they got that right, I think they were pointing to a case out in the western part of the U.S. I don’t think they actually analyzed everything right but it’s there, there’s a warning shot across the bow there that if the law changes, a life estate deed may not work. So therefore, when I do a deed that’s for MassHealth purposes, when I put a life estate in a deed, I deny that it’s a life estate, you know unless somebody really needs the senior circuit breakers you know the the tax breaks or anything like the elderly abatement that they might get on the real estate taxes I put in there that this is not a life estate, it will have no actuarial value that’s the number that they go after typically on estate recovery. I deny that you have any right to collect rent or to mortgage the property, I try to make it a bear right to live there so that if something happens in the future we get a fighting chance at saying this is not a life estate and you can’t come after the whole property. So what other disadvantages, I reckon creditors-

Eric: Creditors are disadvantaged but before we talk about creditors something that crossed my mind I think this is actually the the biggest disadvantage that I see is on the capital gains tax side, you know the ideal situation with a life estate is a person creates the life estate and they hold that for the rest of their lives and then so they when they pass away the children get the step up in basis for income tax purposes and there’s no probate; but what if the property is sold during the person’s lifetime? That’s actually when I have clients come in with life estate issues that’s usually the the top issue I see. Imagine parent primary residence, they did the life estate because they wanted to protect it from the nursing home and avoid probate but now they decide to downsize and sell their house. Well we talked about the beginning, these interests, the life estate interest and the remainder interest are two separate property interests so if the parent goes to sell their life estate interest will qualify for the principal resident exclusion, they won’t have to pay tax on that piece. Of course on the flip side it becomes theirs and it’s going to be available if they go to a nursing home but even worse than that for the remaindermen who usually don’t live in the same house, it’s not their principal residence and they would have to pay capital gains tax on the sale. So one thing that I do, and I do this a handful of times a year depending on if the situation’s right, I’ll actually have people come in with life estate deeds and have everyone involved convey their respective interests into an irrevocable trust so that then down the road when the house is sold, but we’ll talk about trusts in a little bit, but that will, we’ll fix it really and not have that huge tax hit for the remainder. So that’s another downside, just the way the income taxes play out and losing the principal resident exclusion for a good chunk of the value of the house the part that blows the remainder. Creditors is an issue I think we’ve probably both seen this before, life tenant conveys the property to a child and then the child has problems, right whatever they are. They get sued, they file for bankruptcy, they forget to tell their bankruptcy attorney that they own their parents house essentially, that’s an issue as well because again if they don’t live in the house they’re not going to be able to qualify for homestead and so a parent may find their own home subject to their child’s issues, creditor issues. So, you know it’s one of those things it’s so easy to do but it just opens up the door to so many potential problems.

Brian: So I guess that’s a good place for me to talk about what I do as an alternative because for that reason I don’t like life estate deeds. I do a deed that has what’s known as a special power of appointment in it, it’s sometimes called the limited power of appointment, so you deed to your three children but you keep the bear right to stay there, it’s not a life estate and you also keep the right to change it. So what if, you know, one of these kids becomes disabled along the way or what if they get sued? You can move it, so let’s say they have a sibling that will take care of them, you can give two-thirds to one sibling, you can adjust later on if something changes. Let’s say you want to go and get a reverse mortgage later on and one of them is balking at it. take that one out and just give it to the other two and the other two can participate in whatever you want to accomplish. I think a power of appointment gives you some flexibility to adapt to changes because a life estate deed is like a will that you can’t change and the circumstances change in the life of your children and-

Eric: Right, I mean building on that point, even just forget about creditors and children maybe being on benefits, just the more basic, ‘hey I stopped liking this kid’, you know, ‘we had a falling out’, unless they agree they’re still going to get your house because you already conveyed it to them.

Brian: Right, and you know I had one case that after mom died went to the five kids who didn’t get along and two of them went and sell, so we had to go through a process called partition. Well mom needed money to stay at home and two of the kids would not help get a mortgage, she needed just a little extra money every month. Now, but she had deeded it away early, you know, they didn’t want to help, they had their inheritance locked in and that’s all they cared about it seems. So, can you obtain a reverse mortgage with a life estate deed? I think that’s yours.

Eric: Yeah I think I can as long as everyone agrees the life tenant and the remainderman but now I would say you can get a reverse mortgage, but okay, but on that point from my perspective people who are doing life estate deeds are trying to protect the equity in their house from Medicaid. Usually if you get a reverse mortgage you’re going to consume the equity in retirement so I personally have never seen a situation where somebody was simultaneously doing a life estate deed and then also getting a reverse mortgage, usually it’s, ‘hey, I’m going to use the equity in my house to live or I want to protect the equity in my house for my my kids’, it’s usually one or the other but the problem with the reverse mortgage is if you go to a nursing home the house has to be sold, so if there’s any remaining equity you’ve essentially wound up on private pay to the nursing home.

Eric: Right.

Brian: So I mean it might make sense before doing the reverse mortgage to deed it away so that if there were a required sale during your lifetime after you leave the house then the rest of the proceeds would go to the children and not to you. So the thing about planning is there’s no such thing as one size fits all, you know, and sometimes something that doesn’t make sense generally would make sense in one situation. So I guess we’re left now, Eric, we got plenty of time, we got nine or ten minutes left, which is rare for these webinars. Well you wanted to talk about ladybird deeds.

Eric: Right, we didn’t touch them, so one thing to bring up and you actually, what you described would be a sort of a modified version of a ladybird deed but in some states you can’t do it, well you could do it in Massachusetts, but it wouldn’t provide Medicaid protection. But in some states you can do,, I guess someone might call it an enhanced life estate deed, you can do a deed where the individual conveys the the real estate but retains the power to sell, to mortgage, there’s a power of appointment to change the remaindermen and MassHealth is going to just consider that fully available to the life tenant, the individual because they have that ability, they have full control. But in some states like Florida, you can do a ladybird deed and it would protect the real estate from Medicaid, of course in Florida homestead protects your house from Medicaid so they’re probably, the primary residence is okay anyway, it would be first secondary residences. Rhode Island even allows ladybird deeds done before 2014, their sort of grandfathered in, they changed the regulations but it wasn’t retroactive so anyone who comes across a Rhode Island individual just know that just because you see a ladybird deed its treatment in Rhode Island would be different than Massachusetts. So this is definitely a state by state issue. Are ladybird deeds any better than life estate deeds I don’t know, it’s just maybe a little bit but on the flip side I’ve always heard with ladybird dates there are some title companies that don’t know how to treat them and you can run into issues because of those retained prices. It’s almost a title company wants to see something that’s clean, black and white, life tenant remainder and depending on how many powers are retained it gets a little bit murky about what exactly the deed is.

Brian: Right, land court, there are two kinds of registries in Massachusetts and one is land court and they will not accept the deed if they don’t understand it and if there’s too much power there they might not accept it. I know the deed I’ve described that I do where someone has a kind of a bare minimum right to live there, that’s not a life estate and they don’t know what to do with that. I mean I’ve had problems with land court on that, they want to see a full life estate, I don’t know why it’s any of their business, to prevent you from doing what you want to do. I mean if you want to say I have the bare minimum right to live there you should be able to put that in a deed but they didn’t know what to call it they had to fix-

Eric: They had no code on the website

Brian: -but eventually we got it through

Eric: I mean I’ve run into the same, now I’m really going on a tangent, but I’ve run into the same issue with land court with irrevocable trusts with the trust certificate because I don’t know what-, you know these Medicaid trusts are very particular about what rights are there and it doesn’t necessarily line up with what they’re used to seeing with maybe the more common revocable trust, so I’ve had to appease some different land courts with unique language just to get it recorded or registered.

Brian: But sometimes they have sample language that they’ll give you that they’ve seen it before and they’ll accept this and they give it to you.

Eric: Well I’ve even had some land courts where I said I’ve recorded or registered this same certificate in three other land courts but that’s still not good enough.

Brian: All right, so I guess what we’re left with, what’s better than a life estate? An irrevocable trust. So before we go there I just want to say, it’s not one size fits all. Here’s what I don’t like about an irrevocable trust, there’s a five-year look back period when you make a gift of some sort and if you give to people and then you need nursing home care within the next five years and you cannot pay, the people can deed it back to you. If you put it in an irrevocable trust the trust has to say we cannot give it back to you. So/, it puts you at risk for the next five years. Now maybe there’s a court proceeding you can go through to undo the trust and get the property back, but that proceeding might be more expensive than the trust itself was. But go ahead.

Eric: Well maybe, now in Massachusetts with the Uniform Trust Code I’ve done a few, I mean it’s not peanuts but it’s not cost prohibitive to terminate an irrevocable trust if everyone agrees.

Brian: Right

Eric: It’s all done in the mail.

Brian: And actually you know since COVID hit, court systems are being run just like this, through zoom, so it’s cheaper to deal with things like this because instead of having to travel you just sit in your office and wait for them to let you into the room.

Eric: Right, made a lot of things more efficient.

Brian: So what’s best, what’s better to you about an irrevocable trust than a life estate deed, we’ve got maybe four or five minutes, it’s probably not enough time to go over.

Eric: Well I think an irrevocable trust eliminates basically all of the issues we just talked about with life estate deeds. I mean with an irrevocable trust 100% of the property interest goes into the trust for Medicaid purposes so that after five years if the individual goes to the nursing home there’s no retained life estate the family could sell whatever’s in that trust immediately and then if it’s real estate the proceeds from the sale would stay in the trust protected. An irrevocable trust is a way to protect assets other than real estate, we’ve been focusing on real estate because we’re talking about life estate deeds but you can be on real estate with an irrevocable trust you could put bank accounts, investments, anything really that could go into our trust can go into an irrevocable trust so you can protect more than just real estate. An irrevocable trust is going to have a power appointment if it’s properly drafted so if you change your mind or have an issue with someone you can change the beneficiaries.

Brian: One great thing about it is if you just decide at some point you want to downsize-

Eric: Right.

Brian: -the trust sells and all the tax benefits on the sale rebound to your personal return and then the trust buys the new place. The one thing I don’t like about an irrevocable trust is I don’t like money being trapped inside it, you know because all you have the right to is the income at most when you do that. So what I’ve done recently is something that I refer to as an exploding trust. When you sell, if you don’t reinvest within 30 or 60 days all the rest of the money just goes out to the children right away, it doesn’t get locked into the trust. Now we’ve freed up the money, it’s not stuck in the trust. Now it’s better to do that with good families where the kids are good and not greedy, you know, because the kids might use that money for you. You can’t, of course the trust cannot say that, they cannot even hint at that-

Eric: Right.

Brian: -but having the money outside of the trust to me makes a lot of sense, not having it locked up in inside.

Eric: Well, and I think whenever anyone’s doing any kind of asset protection whether it’s life estate deeds or trusts, they have to understand that we try to give them as much control as possible and safety assurance, ‘okay this is my house, I have the right to live there’; but you do have to give something up, so whoever this is going to whether it’s remainderman on a life estate deed or beneficiaries of an irrevocable trust hopefully they’re going to be good and won’t have any problems in the future. Because ultimately all these things are really, they don’t benefit the individual who’s doing it, right, because they’ll be in the nursing home or pass away, you’re doing it really to benefit the next generation whoever they’re leaving things to.

Brian: Yeah, well I think one last thing I think we talked about this before we went onto the webinar is MassHealth uses life estate tables, if the property is sold while you’re alive the IRS has tables that are reasonable about what you should receive MassHealth has old tables based, I don’t know what it’s even, it has different assumptions, for example someone who’s age 76 who has a life estate would get half of the proceeds if it were sold. So you’re really not protecting as much as you thought you were going to protect. A lot of people when they do this they deed it away, ‘oh I’m never moving’, but then circumstances change and they want to move and a lot of what they thought they had protected is coming right back into their hands.

Eric: Right, if we’re talking about their primary residence and they go into a nursing home with a life estate deed then the family’s faced with the issue of do we sell it and lose all that protection or because they might not want, especially with the social security tables being used, then they’re in a situation where they’re gonna have to rent the property or find or somehow cover the ongoing expenses of the property until the parent passes away so right, irrevocably trusts avoid that.

Brian: Right, people don’t want to be landlords on a property that may not have been updated.

Eric: Right, and and any profits are gonna have to go to the life tenant in the nursing home so no one’s really going to benefit from it, right? A lot of times in those situations I find people if they’re going to you know sort of sit tight they’ll find a family member who will just move in and just their rent will be the cost, the ongoing cost of the the property because again making money, it just go to the nursing home.

Brian: And then I think there’s one other thing we didn’t mention is partition. There is a possibility that someone suing you, and if you’re a life tenant can force a sale, so that you can get it your interest. If the property were in the trust and you were sued they couldn’t come after it.

Eric: Right. So right and we usually do the trust for, the trust we’re talking about, primarily for Medicaid nursing home protection but there actually is a creditor protection benefit from doing irrevocable trust.

Brian: So all in all we don’t really like, I think we can summarize by saying we don’t really love life estates, they work for some people, you know, but it’s not the perfect solution and the law could change and the perfect solution can become no solution at all and not protect anything for MassHealth purposes. That’s I guess we end on that. Thank you, Eric, for joining us we’ll do another one someday on something else.

Eric: Okay, thank you, that sounds good, thanks for having me.

Brian: Thank you all for joining us, bye.