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Transferring and Gifting:

The Medi-Cal program has developed a complete set of rules to discourage people from giving away their assets in order to become eligible. Applicants must report transfers of assets, for less than fair market value, that occurred within the 30 months of application for benefits, which may soon be extended to 36 months, known as the "look back rule." Namely, if you transfer non-exempt assets for less than fair market value, Medi-Cal will disqualify you for up to 30 months, the disqualification period to be derived by a formula which can be illustrated by the following example:

There are certain exceptions to the transfer rules if either the asset is exempt, or based upon the recipient of the asset. Exempt assets can be transferred if the purpose is other than to qualify for benefits and a purpose other than to qualify will be presumed. In addition, at this time, assets can be transferred without penalty to the community spouse, a disabled child of the institutionalized spouse and under other limited circumstances.

Tax Consequences of gifting assets:

Asset transfer strategies that involve assets other than cash, have the downside of depriving the recipient of a step up in basis to the date of death value. When property is transferred by gift, the recipient receives a carryover basis, in other words, the basis that the transferor had. If assets are transferred on death, the recipient receives a date of death basis in the property which helps eliminate capital gains on significantly appreciated assets. Often the residence has appreciated significantly and it is important to consider tax implications of transferring the residence by gift. Tax issues always must be weighed against the Medi-Cal estate claim which will be described below. An example follows:

Medi-Cal and the home

Although the home is only one asset that may be subject to an estate claim, it is the most common asset remaining in a Medi-Cal beneficiary’s estate, and the easiest to collect on. Our main objective is to plan so that you can enjoy your residence while you are alive and avoid or decrease the estate claim after your death.

Note that placing property in joint tenancy no longer provides any protection from the estate claim because the Department of Health Services ("DHS") takes the position that it may recover against the decedent’s interest in joint tenancy. Further, placing property in a living trust also provides no protection because California’s recovery regulations specifically include assets in living trusts as subject to estate recovery.

The home can be transferred to the community spouse or another individual without causing disqualification. That is because the asset is exempt and there is no policy against transfer of exempt assets because you are not transferring the home for purposes of eligibility. There is no 30 (or 36) month look back period of ineligibility because the home is not a countable asset. Note that if the house is sold before the Medi-Cal beneficiary’s death, the community spouse is losing valuable tax benefits of exclusion of gain on the sale of a personal residence.

The concern with this strategy to an individual other than your spouse is that the person the home is transferred to ("transferee") now has control of the home, and unless you are somehow protected, the transferee can encumber the property or sell it without your agreement. In addition, the transferee may also have tax debts or other creditor problems that threaten the home. In addition, gifting your home can have negative tax consequences. The transferee’s basis is your basis. So if your basis is low (the home has appreciated), the transferee will incur significant reportable capital gain on the sale of the property. On the other hand, if the transferee receives the home as a result of your death, the basis is stepped up to the property’s date-of-death value, thus reducing the gain on the later sale of the property.

Life Estate

A second option is to transfer the home and retain a life estate. This option gives you a great deal of protection by guaranteeing you the right to remain in the home and providing that the house cannot be sold or encumbered without your consent. A life estate includes the right to exclusive possession and the right to rents, issues, and profits. If you retain a life estate, the property will be included in your gross estate for federal estate tax purposes and therefore the recipient of the property enjoys a stepped-up basis. The concern with this option is that DHS has recently announced its intention to begin recovering against life estates as soon as it issues new regulations.

Agreement

A third option is to transfer the property with a "reserved right of occupancy" on the face of the Deed. This transfer should be exempt from any transfer penalty because you retain a right to return home and can claim the intent to return home that makes the residence exempt. This type of interest is less likely to be subject to an estate claim under current regulations than a life estate because it is such an attenuated property interest that it may prove to have no market value and be worthless for purposes of Medi-Cal estate recovery. The benefit is that a retained right of occupancy, gives you some degree of control because it will be impossible to sell the property or to borrow on it without your participation and agreement until you die. There is still a concern that a reserved right of occupancy on the face of the deed will fall under the definition of a life estate with the same concerns as expressed above.

A fourth option is to place a retained right in a separate agreement between the transferor and transferee and draft a deed conveying the property outright without any limitation. The disadvantage of this approach is that the IRS may be more inclined to disregard the right of occupancy as a sham if it is evidenced only in an unrecorded separate agreement. Odds are that DHS will always make a claim, but the IRS will only sometimes audit. Further it seems more likely that the IRS will be persuaded that the property is entitled to a stepped-up basis than that DHS will be persuaded that the property is free from an estate claim. The retained occupancy right gives grounds for a stepped-up basis, and just to be sure you can retain a special power of appointment in the agreement.

Irrevocable Trust

A fifth option is to do an irrevocable grantor trust. The trust gives the transferor no rights to the residence in the trust other than a right of occupancy, but it allows the trustee the right to sell the property. Because the trust is an irrevocable trust providing only for a right of occupancy, the sale proceeds will not be counted against the transferor’s Medi-Cal eligibility. Finally, the trust estate may escape Medi-Cal estate recovery claims. The results of this approach are promising but are still a bit unclear.

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