By Anthony J. Enea, Esq.
Since the Fall of 2008 I am confident that the above titled question has been posed to many parents and grandparents. The severe economic recession and its staggering resulting significant unemployment have placed many on the precipice of financial disaster. Parents and grandparents who had already seen their investment portfolios decimated have in many cases been asked by their families to help support them until they can get back on their feet. Recently, a long time client advised me that it was necessary that her estate plan be modified as a result of the hundreds of thousands of dollars she had lent to her son to help keep his business afloat. Sadly, his business did not survive, and he recently informed her that he would not be able to repay her. Thus, she no longer felt it would be appropriate and fair to include him as part of her estate plan.
Obviously, the first and most important question that needs to be posed is whether the client who has transferred money to his or her family member(s) has done so in the form of either a loan or a gift; and whether or not said loan or gift has been adequately and appropriately documented. I am willing to speculate that in most cases parents and grandparents have been giving the money to their families without properly documenting the form of the transactions and its terms, especially if it is to be a loan. Unfortunately, it is the unintended consequences of their failure to do so that has prompted me to write this article.
If the parent or grandparent is making a gift of monies or assets to his or her family members, he or she needs to remember that if the amount of said gift is in excess of the personal exclusion amount of Thirteen Thousand ($13,000) Dollars per person for the year 2009 ($26,000 if the gift is being made by a couple) that it will be necessary that a gift tax return(s) be filed by April 15th of the year following the year the gift was made. If a taxable gift is made in 2009, the gift tax return is due by April 15, 2010. Additionally, they should be made aware of the fact that said gifts in excess of the personal exclusion amount as aforestated will reduce their individual One Million ($1,000,000) Dollar lifetime gift tax credit and that a corresponding reduction will result to their individual federal estate tax credit ($3.5 million dollars for the year 2009). While for the overwhelming majority of parents and grandparents said reduction of their federal gift and estate tax credits are of no significant consequence for some depending on the amount gifted and the size of their taxable estates, gifting beyond the exclusion amount could have a significant impact. This impact could be greater as a result of uncertainty as to the amount of the federal estate tax credit in the year 2010 and beyond. Additionally, the New York Estate Tax Credit of One Million ($1,000,000) Dollars per person has remained unchanged, placing an additional tax wrinkle on estates greater than One Million ($1,000,000) Dollars.
Another unintended consequence resulting from the parent(s) and/or grandparent(s) gifting of assets is that for purposes of Medicaid Nursing Home eligibility the transfer would be considered an "uncompensated transfer" of assets which results in the creation of a five (5) year lookback period and a period of ineligibility for nursing home Medicaid. Unless a promissory note or some other document evidencing that the transfer was a loan was contemporaneously executed, Medicaid would take the position that the transfer was an "uncompensated transfer" creating the five (5) year look back period and period of ineligibility. Thus, the onus would then fall the parent and/or grandparent to establish to Medicaid that the transfer (gift) was not made for Medicaid planning purposes. He or she would have to show at a fair hearing that ............... This would be a complexity arising from the gift that the parent and/or grandparent would not be aware of until he or she needed nursing home Medicaid within five years from the date of the gift.
The gifting of assets also creates complexities for those parents and grandparents who have more than one child or grandchild. If one child or grandchild has been the beneficiary of a large gift, the question often becomes what can be done to equalize the amount gifted for the benefit of other children and grandchildren. Obviously, the gifting of an equivalent amount is the first option, but, not necessarily the best option, depending on the finances and lifestyle of the parent or grandparent. The next alternative would be for the parent or grandparent to modify his or her estate plan (wills/trusts) to give to his or her other children or grandchildren an amount equal to that received by the recipient of the gift. Again, this is often not something usually addressed at the time of the gift and, if addressed at all, occurs years after the gift was made. The cost of modifying their estate plan also presents an obstacle for some clients.
If the amount given by the parent or grandparent is truly a loan and not a gift, it is most important that a promissory note, mortgage, or some other writing evidencing the loan and its terms be executed. The promissory note, mortgage or equivalent loan document needs to carefully address repayment terms and interest due. One consequence of a loan made by a parent or grandparent that is often not properly addressed at the time the loan is made are the rules regarding imputed interest on Intra Family Loans and Notes delineated in § ______ of the IRC. [insert intra family loan rules - get info from Joe P.]
From an estate tax perspective, it is important to remember that upon the death of the person making the loan, the principal balance due and accrued interest on the promissory note, mortgage or loan will be an asset includible in his or her estate for estate tax purposes.
It is perhaps the Medicaid eligibility consequences of the making of a promissory note, loan or mortgage that are most often overlooked. As a result of the enactment of the DRA which became effective on February 8, 2006, any promissory note, loan or mortgage will be treated as an "uncompensated transfer" (gift) of assets which creates the five year lookback period and period of ineligibility for the Medicaid nursing home program unless :
(a) the repayment term is actuarially sound;
(b) payments are made in equal amounts during the term of the loan, with no deferral of payments and no balloon payments being permitted;
(c) prohibits cancellation of the balance upon the death of the applicant/recipient; and
(d) must be non-assignable.
As can be seen from the above, the promissory note that would need to be prepared to avoid the unintended consequence of the loan being considered a gift for Medicaid nursing home eligibility purposes is not your standard Blumberg promissory note form.
To paraphrase what a wise person once stated... "no good deed goes unpunished," that may very well be the case if parents and grandparents don't fully review and understand the consequences of their decisions to gift or loan monies to their loved ones.