Long Term Care Insurance

Long Term Care Insurance (LTCI) is insurance that covers the gap in care that is left by Medicare and standard health insurance coverage. LTCI is obtained by an individual for the purpose of paying for all or some of the services that can originate from a long or chronic illness, disability, or cognitive impairment, For example Alzheimer’s disease. The most frequently used services of LTCI are the ones surrounding Activities of Daily Living or ADLs, which include six major daily functions. The functions that are considered necessary daily activities are the following: BATHING, EATING, DRESSING, TRANSFERING, TOLETING, and INCONTINENCE. LTCI focuses on providing the right care and services based on an individual’s current condition. As the average life span continues to rise, so does the cost of elderly care such as nursing homes, assisted living, skilled care and other facilities that care for the elderly, this can put an increasingly heavy financial burden on the individual needing care and their loved ones. The largest cost involved in LTCI is custodial care, this includes assistance with personal care and/or supervision. Medicare will not pay for these services except under specific criteria. Skilled care in nursing homes requires a 3-day hospital stay, Medicare will pay for the first 20 days after that they will copay for up to 100 days, after 100 days coverage stops all together and the individual must pay out of pocket. Another option for long term care coverage is through the use of Medicaid. Medicaid covers LTCI for individuals that are in financial need or have met the state requirement for a Medicaid compliant annuity. (If assets are not protected then Medicaid has the right to recover the amount of benefits it has paid out on that individual’s behalf from the deceased estate).

Levels of care

Levels of care associated with long-term care insurance consist of the following:

Skilled nursing care- is a 24 seven care that is provided around the clock and can be performed only by a licensed nurse under a doctor’s orders.

Intermediate care- is less than around the clock care performed by a licensed nurse under doctors orders.

Custodial care- is care that aids in the activities of daily living, this can be performed by someone without medical training.

Types of care that are defined in long-term care insurance policies:

Home health care, adult day care, respite care, and assisted living facilities.

Time & Optional Benefits

Long-term care insurance benefits have a minimum of 12 months but are usually between two and five years. Some long-term care policies may include a lifetime benefit. Benefits are usually expressed as a dollar amount per day. The more the policy covers the more the premium will be. The elimination period (Time deductible) is also a determining factor and the cost of a policy.

They are optional benefits that can increase coverage such as guaranteed insurability, nonforfeiture, and inflation protection

Cost & Taxes

It is essential for individuals to purchase long-term care before they need it. Individuals may not qualify or be eligible for long-term care insurance if they are not in “insurable health.” Almost 70% of individuals over the age of 65 will need some form of long-term care insurance. Females on average need 3.7 years of coverage while men normally require it for only 2.2 years. Long-term care can cost over $100,000 a year. There are tax advantages to buying a long term care policy if the policy is tax qualified. These deductions are significant for example an individual between the age of 51 to 60 could be eligible for a Maximum deductible premium of $1690.

 

Ryan Begley

Benefits Specialist

Tax Avoidance Series: How to Avoid Estate/Gift Tax with Trusts and Annuities

The estate/gift tax is a tax based on the value of the assets an individual owns at the time of death or gave away during their lifetime. Luckily, there is a value threshold and everyone whose assets/gifts are below that threshold, avoids the death tax. This allows for practitioners to implement plans for those who are above the threshold, to bring them under that magic number and avoid unnecessary tax.

One way an individual can avoid the estate/gift tax, is to freeze the value of their estate. Obviously, purely gifting assets can also have adverse tax consequences and can result in a loss of control over the gifted asset. The ideal method would combine retention of assets with tax avoidance.

A threat to crossing the estate/gift tax threshold is appreciating assets. If assets keep increasing in value, they can easily subject someone’s estate to tax at death. What you want to do is freeze the value of your estate (so that it does not appreciate such that your estate will be subject to the high federal tax rates at death) and pass along any appreciation to your beneficiaries.

The method to accomplish this goal and maintain a stream of income, is to utilize a Grantor Retained Annuity Trust (GRAT).

Basics of a GRAT 

In a GRAT, you are placing assets in a trust with two distinct effects. 1. You receive a stream of payments back from the trust; and 2. You are earmarking a certain amount to pass to your beneficiaries free of gift/estate tax.

Here is how it works: The trust maker or Grantor creates an irrevocable trust and funds it with assets. The Grantor retains a right to receive an annuity from the trust (Retained Interest). This annuity must be paid to the grantor at a set rate for a set amount of time. If there is no income generated by the trust assets, the annuity payments will be paid from principle.

The annuity from the trust represents a percentage of the trust, not the full amount. Any amount not paid back to the Grantor over the set amount of time of the annuity, will be paid to the beneficiaries with no further gift tax consequences (remainder interest).

There is an assumption that any assets put into the trust will appreciate at a set rate as set forth by IRC 7520 as of the date of transfer (as of July 2022, that rate is 3.6 percent). If the assets do not appreciate at at least the 7520 rate, they are returned to the Grantor with no adverse tax consequences. If the assets appreciate beyond the 7520 rate, the excess appreciation is passed to the beneficiaries free of gift tax.

Is a GRAT right for Me?

If you have assets that are appreciating at a significant rate, it may be beneficial to consider a GRAT. GRATs are especially useful for stock owned in companies that are going public. However, they can be used for any assets that are increasing in value.

When Should I Implement a GRAT?

Interest rates are still low. That means that the IRC 7520 rate is still low. Remember, any appreciation above that 7520 rate is passed without gift tax. Thus, it is better to implement a GRAT while the rates are low.

Additionally, if you hold assets with a depressed value, a GRAT is a great strategy. When the stock market is underperforming and driving down the relative price of individual stocks, you want to plan for the rebound. A GRAT is a perfect way to manage the appreciation of rebounded equities.

What are the income Tax Consequences of a GRAT?

All the income, gain, and loss will be passed along to the Grantor. The purpose of the trust is to avoid gift/estate tax. The payment of tax by the Grantor will not be considered a further gift to the trust and is, thus, a further benefit to any of the beneficiaries.

Will My Beneficiaries Have Capital Gains on Any Assets They Receive at The End of The Trust Term?

The beneficiaries do not receive a step-up in basis in any of the assets they receive. However, a properly structures GRAT will have “Swap Powers” where the Grantor can swap out low basis assets for higher basis assets.

Conclusion

GRATs are a great way to avoid excess taxation. Now is a great time for a GRAT given that interest rates are low and assets values have been depressed, given the recent performance of the stock market.

Brenton S. Begley, JD, LLM
Estate Planning & Elder Law Attorney

Avoid the Gift/Estate Tax with the Crummey Trust

The estate and gift tax work hand-in-hand. There is a set limit on the amount you can either give during your life or at your death before the gift/devise will be taxed (lifetime exclusion). The current limit is $12.6 million (which will go back down to $5 million, before inflation, in 2025). This means that if you give over $12.6 million during your life, you will pay gift tax; if you leave an estate worth more than $12.8 million at your death, your estate will be subject to estate tax; and if you both gift and and leave behind assets over $12.6 million, there could be estate or gift tax.

The way the IRS keeps track of gifts, is that they require that any gifts given over a certain amount per year be reported. Your lifetime exclusion will be reduced by the amount reported. Thus, if you give reportable gifts over the lifetime exclusion amount, you will pay gift tax.

The gift tax is not so much a concern as the estate tax. Most people give the majority of their wealth away as an inheritance rather than a gift during their lives. Consequently, the amount given at death, tends to be much larger than the gifts given along the way.

A goal then, would be to attempt to lower your taxable estate without:

1. Chipping away at your lifetime exclusion; and

2. Giving up control over the money you gift. 

A strategy to avoid the estate and gift tax is to give an annual gift per year. Currently, the gift tax exclusion is $16k per person, per year. If someone is looking to lower the size of their taxable estate, they can choose to gift an amount up to the annual gift tax exclusion annually.

For example, let’s say George wants to avoid having his estate taxed. He is over the estate tax exemption of $5 million (he doesn’t think he will die until after 2025) and every dollar over that amount is subject to tax. He can lower his net worth by giving away $16,000.00 to each of his children per year for the rest of his life and he would not be required to report the gift.

The problem with gifting in this manner is that the money/asset has been given away. When it comes to money you’ve worked hard to earn, most want to be able to control the assets and also be able to determine when the assets will be distributed.

If George were to gift directly to his children, they could do whatever they want with the money. If they have poor financial habits, an addiction, or a greedy spouse, that money could vanish very quickly. George may want to set that money aside for their college, wedding, retirement etc.

Placing the annual gift into a Crummey Trust will allow George to both make the gifts, which will lower his taxable estate, and control how the money will be distributed to his children. Additionally, if George is married, the trust would allow him and his spouse to double the exemption to $32k per year ($25.2 million for life).

The reason why a transfer to a Crummey Trust qualifies for the annual gift tax exclusion is because the transfer to the trust is treated as a completed gift. You can imagine that a transfer to a regular revocable trust, where the beneficiary has no rights, would not constitute a complete gift. The difference in the Crummey Trust is that the beneficiaries have the right of withdrawal.

The idea is that the beneficiaries will have a right to withdraw contributions made to them in the trust for a period of at least 30 days after having been given notice of the right. However, the expectation is that the beneficiaries will not exercise this right. This tends to be the case, given the leverage the trust maker has over the beneficiary I.e., “if you exercise the right to withdraw, I will just stop making transfers to the trust.”

As long as everyone is on the same page, the Crummey Trust allows for the gift to be made and stay in trust. The money gifted will then be distributed for the express purpose written in the trust document I.e., payment for education. The trust can also control how much the beneficiaries get when the trust maker dies. For example, let’s say that George set aside $500k for his child Chuck. He could mandate, in the trust terms, that Chuck gets his $500k in yearly increments for the next 10 years after George’s death. Thus, George can still control how and why the money he is gifting will go to his beneficiaries.

In conclusion, a Crummey Trust is a great way to lower your taxable estate and take advantage of the annual gift tax exclusion without giving up control over how your assets will pass to the next generation.

Brenton S. Begley, JD, LLM
Manager

Avoid Estate Tax without Sacrificing the Step-up in Basis

The Estate Tax, also known as the “death tax,” is going to be a reality for many more individuals once the estate tax threshold lowers automatically in 2025. 

One strategy for avoiding the estate tax is to take advantage of the high exemption now. Currently, the exemption for an individual is $12.06 million. This exemption will sunset back to the previous $5 million amount in 2025 (with a likely adjustment for inflation). 

The method to take advantage of the current exemption amount (without dying) is to transfer assets to an irrevocable trust. However, it is crucial to have a  proper plan in place to avoid estate tax without leaving behind a huge tax advantage: the step-up in basis. 

Grantor Trust

A Grantor trust is one where the trust maker (the “grantor”) retains power over the trust. Since the grantor still has power over the trust, the assets transferred to the trust are still considered to be owned by the Grantor. Because the assets are still technically owned by the Grantor, the assets will be included in the Grantor’s gross estate for estate tax purposes. 

For example, George creates a grantor trust and puts all of his assets, worth $12 million, into the trust. George, in 2030, dies and his beneficiaries are trying to determine whether his estate will be subject to the federal estate tax. Because the trust is considered a “grantor” trust, the assets will all be included in George’s gross estate, which is what is examined to determine whether the estate is taxable. Because George’s gross estate is $7 million above the estate tax exemption ($5 million), that $7 million will be subject to the maximum federal estate tax rate of 40%. 

There is an important caveat to this scenario however. While the Grantor trust failed to exempt the assets from the estate tax, it did preserve the step up in basis for the assets. 

Step up in Basis

Basis in an asset is the basis by which a capital gain is determined. Basis is typically determined based on how much you paid for an asset (“cost basis”). Alternatively, if you were given an asset, you get the basis that the donor had (“carry over basis”). 

Let’s say George buys a home for $100k in 2022. In 2030, George decides to sell the home, which has appreciated to $300k. George’s basis in the property is what he paid, $100k. To calculate capital gain, he looks at the difference between what he paid and what it’s selling for. Here, the gain is $200k. Even at the lowest applicable capital gain rate (above 0%), that’s a $30k tax bill. 

A step-up in basis serves to eliminate or reduce capital gain and is available if an asset is received by virtue of someone’s death (inheritance). Let’s say that George bought the same property in 2022. In 2030, he dies and leaves his property to Bill. Bill’s basis in the property is stepped up because he received the property as an inheritance. Bill’s basis is now equal to the fair market value at the date of George’s death. If Bill turns around and sells it the next day for $300k, he will have virtually no capital gain. Alternatively, if Bill hangs on to the property and lets it appreciate in value, he will have less capital gain than he would have had he received the property as a gift (with carryover basis). 

In a grantor trust, the grantor still owns the trust assets. A transfer of an asset to the trust is not a completed gift to the beneficiary. Therefore, the beneficiary receives the asset only by virtue of the grantor’s death and, in turn, receives a step-up in basis. 

Intentionally Defective Grantor Trust (IDGT)

In an IDGT, the trust assets are considered to be owned by the trust and not the Grantor. A transfer of assets to the trust constitutes a complete gift to the beneficiaries. This means that the assets will not be included in the grantor’s gross estate. However, this sacrifices the step up in basis because the beneficiaries are not receiving the assets by virtue of the grantor’s death (since the gift to them is completed during the grantor’s life). 

 IDGT and Swap Powers

 Let’s pause for a second to talk about strategy. To get the benefit of estate tax avoidance, one does not need to put all assets into the IDGT, just that amount which is above the estate tax exemption. In fact, leaving some assets out will give you some flexibility in planning, as we will see below.  

An IDGT gives you estate tax benefits but not the step up in basis. So, some creativity is required to get the best of both worlds. If the IDGT doesn’t give the step-up, then we want to put “high basis” assets into the IDGT. These would be assets that have either not significantly appreciated in value nor have been intentionally depreciated for tax purposes. 

But this begs the question, what if the basis changes? Let’s say George put a high basis home in the trust, then a golf course gets built next door and the value of the home skyrockets. If something like this happens, George has the option to “swap” a high basis asset for the home. This allows George to take the home out of the trust and put in a high basis asset of equal/similar value. George would then ensure that the home was in a grantor trust which preserves the step-up. 

What if you do not have a high basis asset to swap? You could borrow money and swap the cash out for the asset. Let’s say George doesn’t have a high basis asset to swap. He bought the home at $1m and it has appreciated to $5m. He could borrow the $5m and swap out the cash for the home. When he dies, the home gets a step up in basis and is sold immediately with no capital gain. Then the home proceeds pay off the outstanding $5 million loan. 

This is where the utilization of an insurance product can be incredibly helpful. Instead of borrowing from a bank, with applicable interest rates, one could instead borrow the cash from an insurance policy to perform this swap. 

In conclusion, the use of an IDGT can save you and your loved ones from unnecessary taxation as long as you have the proper plan in place.

Brenton S. Begley, JD, LLM
Manager

Traditional vs Roth IRA: Planning for Seniors

I received a lot of unsolicited advice throughout college and law school. Professors seem to love to lament the naïve mistakes of their past selves and to try and convince their students to take a better path in life. Some of the rants I sat through in class involved preparing for retirement. Between complaining about wage stagnation and the impending fall of the Social Security safety net, one theme that stood out was that we youngsters needed to invest in retirement account—early and often. This was, no doubt, good advice. However, in not one of those rants did anyone explain to me or my classmates what type of retirement account we should consider.

The lack of specificity in my professors’ advice inspired me to learn the ins and outs of retirement accounts, so that I may provide some guidance to those who have hobbies that don’t involve reading the tax code.

This article is titled Traditional vs Roth IRA: Planning for Seniors, but it likewise applies to anyone who is gainfully employed. Everyone, if they’re lucky, will age and eventually reach the point where they are planning for the possibility of a health crisis or the need for long-term care. Thus, the following is to help you, the reader, understand your options in planning for life beyond the nine-to-five grind.

What is an IRA?

Individual Retirement Plans or IRAs are quite aptly named. They are a vehicle used by an individual to save for retirement. IRAs are many times confused with 401(k) accounts. I won’t delve too far into it, but the principal difference between the two is that a 401(k) must be established by an employer. IRAs, on the other hand, may be established by an employer or by an individual. IRAs were created by Congress in the early 70’s as a response to public disdain for the current retirement savings options in the country. Over the years, they have been modified and expanded in scope by almost every administration. Nowadays, we have a dynamic set of options regarding IRAs, among them being the traditional and the Roth IRA.

The Roth IRA

The Roth IRA is named after Senator William Roth who sponsored its creation in the Taxpayer Relief Act of 1997. At the time, the Traditional IRA had been repealed for about ten years and Senator Roth wanted to restore. Through legislative compromise, we the people received the Roth IRA. Some of the key attributes are as follows:

  • Roth IRAs have income limits and contribution limits.
    • The contribution limit is currently $5500 ($6500 for age 50 or older).
    • The income limit is based on your modified adjusted gross income (MAGI). The income limit is two-part. The initial limit kicks in at a MAGI of $120,000 for a single individual and a $189,000 for a married couple. Once an individual’s MAGI reaches $130,000, or $199,000 for married couples, no amount may be contributed to a Roth IRA.
  • Roth IRAs hold non-qualified funds, meaning they are taxed at the front end. This means that the money you contribute is pre-taxed so that they money taken out for retirement will be available with no tax liability.
  • Roth IRAs allows the account holder to withdraw funds after five years anytime tax free and penalty free.

The Traditional IRA

The traditional IRA was created as a solution to the lack of uniform retirement options in the United States. The IRA has evolved over the years and it has had its share of supporters and detractors in that time. The traditional IRA seems to be the tried and true retirement option. However, there are some downsides that may not be obvious at first glance. But first, here are the
key attributes:

  • Traditional IRAs have no income limit
  • There is a contribution limit—the same as Roth IRA (currently $5500 or $6500
    for age 50 or older).
  • Tax must be paid on any distributions from the traditional IRA
  • They contain already taxed money (qualified funds) and allow for an above the line tax deduction per IRC section 219. Note, there is an income limit for contribution deductions (see IRS Publication 590-A).
  • If you pull any money out of a traditional IRA before you turn 59 ½, you will face a penalty in addition to the income tax from the distribution.
  • You will be required to start taking distributions from the traditional IRA after age 75 ½. These are called minimum required distributions (RMDs).

Roth vs Traditional

Traditional IRAs have potential benefits beyond the tax deduction for contributions. They are not taxed on the front end. Thus, you can put in a pretax gross amount up to $5500 per year and receive the same compounding interest as if you contributed an after-tax amount up to $5500. In other words, you can grow your money in a traditional IRA at the same rate as a Roth
IRA but with less of a contribution (assuming your contributing up to the limit).

This point is especially poignant if you are not going to contribute up to the limit. If you are just putting in what you can, you may benefit from a traditional IRA, since it will allow you to put in a larger amount—and benefit from the compounding interest—than you would be able to if the money was pre-taxed. Thus, you may potentially be able to grow your retirement at a higher rate with a traditional IRA. But, that money is locked up and can’t be withdrawn without a possible penalty and a definite tax bill.

Roth IRAs are much more flexible. Money in the Roth can be pulled out in a short period of time with no significant penalty. Also, there are no RMDs associated with Roth IRAs. Thus, the money can be left in the interest-bearing account until it is ready to be pulled out.

Roth IRAs are also much more flexible than traditional IRAs in terms of planning for long term care. IRAs, in general, are counted as an asset under the Medicaid rules. Consequently, the money in the IRA must be spent down to qualify for Medicaid benefits. If the money is in a traditional IRA, you would be required to pull that money out of the IRA, which would result in a significant tax burden. However, if the money is in a Roth IRA, that money can be taken out of the IRA and spent down or put in trust with no penalty or tax hit.

Which is Best for You?

There are many individuals out there who love to give advice but determining the best route to take is a case by case basis. What may be good for your neighbor may not be good for you. The two biggest considerations are whether you are depending on the IRA as your main retirement plan and whether you anticipate needing long term care in the future.

It is important to remember that you are not limited to one type of account. You can have a traditional and a Roth IRA if you so wished. Also, if your employer provides a solid retirement plan with matching, it may be in your best interest to narrow your focus to the employer created account to help you grow your assets as much as possible.

Ryan Begley
Benefits Specialist