Tuesday, May 28, 2013

Proposed Bill in Congress Would Permit Disabled Individuals to Create Their Own Special Needs Trusts

Special Needs Trusts are often vitally important lifelines providing the means of financial security for persons with disabilities.  One flaw in the current system is that "self-settled" special needs trusts  that are to be funded with the disabled person's own assets and/or income can only be created by a parent, grandparent or legal guardian for the disabled person, or by a court.

This statutory restriction effectively requires mentally competent but disabled individuals to find a permitted third party to "create" the trust.  If there is no available parent or grandparent, then the disabled person must file a time consuming and often expensive court petition to have the special needs trust put into effect.

Hopefully this unnecessarily burdensome restriction will be a thing of the past.  On May 23rd, Reps. Glenn Thompson of Pennsylvania and Frank Pallone of New Jersey introduced the Special Needs Trust Fairness Act of 2013. If enacted, this bill will permit competent adult disabled beneficiaries to create their own self-settled special needs trusts.

More information about this exciting development can be found here.

Thursday, May 16, 2013

Life Insurance with Long-Term Care Access: Covering all the Bases

Most people begin thinking about long-term care insurance – if they think about it at all – once they reach their 60’s or beyond.  Unfortunately by that age the cost may seem to be prohibitive to many of those interested in purchasing the product, or health conditions may render an applicant uninsurable.  And frankly, most people believe the need for long-term care will only apply “to the other guy.”  So, the reasoning goes, “if I don’t use the insurance, then all of my premium payments will be ‘wasted.’”

But the fact is that approximately 50% of all seniors will need at least some form of long-term care.  With the costs for care increasing by leaps and bounds – in the Hudson Valley, the cost for in-home care will run approximately $250 per day, and nursing home care is at least $350 per day -- very few people have sufficient resources to cover the costs for any extended period.  And, with governmental budgets shrinking, it is unlikely that Medicaid will continue to be available to cover a large chunk of long-term care costs for the ever-growing baby boomer population.

A possible solution for those reluctant to buy long-term care insurance is the availability of a growing number of “hybrid” life insurance policies that provides lifetime access to the death benefit to cover long-term health care costs.  These hybrid policies have been gaining in popularity, with sales increasing by 19% in 2012 over the previous year.

The hybrid policy generally works as follows: the policy provides a fixed death benefit and includes a chronic illness rider. Should the insured become disabled – typically defined as suffering from cognitive impairment or needing assistance with two or more “activities of daily living” such as dressing, bathing, toileting, transferring or eating -- then the death benefit can be “accelerated” with payments typically of 2% of the death benefit per month to cover long-term care costs. A hybrid policy with a $500,000 death benefit, for example, would provide up to $10,000 per month for 50 months for long-term care needs.  To the extent that long-term care is not needed, the remaining death benefit would be paid to the surviving spouse or other heirs. 

A potential downside is that ownership of a life insurance policy in your individual name would cause the death benefit to be includable in your taxable estate, which could result in estate taxes being owed on the death benefit.  For example, if an unmarried person added a $500,000 hybrid life insurance policy to an existing $1 million estate, the resulting $1.5 million taxable estate would require payment of a New York estate tax of approximately $65,000.

One strategy to minimize the likelihood that the life insurance will result in an increase in estate tax liability is to utilize a "Special Needs Irrevocable Life Insurance Trust" established by the insured's children to own the policy.  The parent would make cash gifts to the children, who would use the cash to pay the premiums for the life insurance policy owned by the trust.  Should the insured require financial assistance to pay for long-term care, the accelerated death benefit can be triggered, with the trustee (usually the children) having discretion to use the benefits to contribute towards the parent's long-term care needs.  If the parent is Medicaid-eligible, the children would not be forced to distribute money from the insurance policy to cover the parent's long-term care costs, and the death benefit can remain intact.  Adding icing to the cake, since the parent has no retained ownership interest in the policy, the death benefit would not be included as part of the parent's taxable estate.

Monday, May 13, 2013

Powers of Appointment – An Essential Tool For Building Flexibility Into Your Estate Plan

The ideal estate plan is one that not only satisfies all of a person’s current goals and objectives, but also provides flexibility to allow for changes both during the person’s life, as well as changing circumstances affecting the lives of their children and other loved-ones.  People typically recognize that they can modify wills and revocable trusts at any time.  But they are often surprised to learn that even an irrevocable trust – such as the Medicaid Asset Protection Trust that is commonly used as a Medicaid planning device – can be drafted to allow for changes not only in the choice of beneficiaries, but also the manner in which a beneficiary will receive an inheritance.

The magical planning tool that allows for such flexibility is known as a “power of appointment.”  A power of appointment may be either “general” or “limited” (which is also sometimes referred to as a “special” power of appointment).  A general power of appointment authorizes the power holder to direct the property over which the power is granted to any person or entity.  A limited power of appointment grants the power holder authority to direct the designated property to a more limited class of persons or entities, often limited to the descendants of the person granting the power.

Powers of appointment are typically included in wills and trusts, but can also be incorporated in other legal instruments such as deeds.  Why would someone consider incorporate a power of appointment as part of their estate plan?  Because life happens!  As but one example, one spouse will sometimes outlive the other spouse by many years, and changing circumstances may render the original planning unsatisfactory to the surviving spouse. 

Assume, for example, that in 2007 Sam and Mary met with their attorney to work on their estate planning.  The couple agreed that upon the first spouse’s death the deceased spouse’s assets would be left in a protective trust for the surviving spouse, and after both of their deaths, their combined assets would be divided equally between their two children, Paul and Jennie.  After learning the many benefits of leaving assets in protective trusts for their children, Sam and Mary executed revocable trusts providing that after both of their deaths the couple’s assets were to pass equally into protective trust shares for their children.

Relying on their attorney’s sage advice, Sam and Mary’s revocable trusts included limited powers of appointment authorizing the surviving spouse to leave the deceased spouse’s trust assets among any of their descendants in any manner.  Each trust further provided that the power of appointment would be deemed exercised if the surviving spouse were to include a provision in their will or revocable trust specifically exercising the power.  In essence, each spouse afforded the surviving spouse – whoever that would be – with the “last look” at the family’s circumstances to determine if the equal asset distribution included in the original plan remained desirable.  

Fast forward to 2009 when Sam passed away.  Soon thereafter Paul, who had a seemingly stable life, saw his world fall apart.  He was laid off from his job as an executive at a large company, and at age 53 found himself unemployed for the first time in his adult life.  Six months later, as the tension in his home continued to build, Paul’s wife Sally moved out with their three children and filed for divorce. 

Mary, being distraught over her son’s changing circumstances, called her attorney for advice. While she was helping out Paul with periodic cash gifts to help keep him going, she wondered if she should change the children’s inheritances in light of the changing circumstances. She spoke to Jennie, who told her mother that Mary should feel free to leave a larger inheritance for Paul.   Mary’s attorney told her that not only could she leave more of her own trust assets to Paul’s trust share, but that she could also exercise the power of appointment provided to her under Sam’s trust to make a similar allocation of Sam’s trust assets to Paul’s trust after Mary’s death.  Accordingly, Mary decided to amend her revocable trust to leave 75% of her own trust assets to Paul, and exercised the limited power of appointment granted to her by Sam to leave the same percentage of Sam’s trust assets to Paul.

Another common use of a power of appointment is for a person executing an irrevocable trust to retain for himself the power to modify the beneficiaries under the trust without having to formally amend the trust.  Even if the retained power is never exercised, the mere inclusion of the power in the trust instrument will cause the trust assets to be includable in the trustmaker’s estate, thereby insuring that the trust assets will receive a “step-up” in cost basis for capital gains tax purposes.

In my experience powers of appointment are woefully underutilized, presumably because of a lack of understanding of the many benefits that this legal tool provides.  But any serious estate planning discussion must include a conversation about how powers of appointment may be incorporated into one's estate plan to ensure that the desired objectives can be realized.