Pros and Cons of an Irrevocable Trust for Asset Protection

An Irrevocable Trust is one option a person may consider to protect their assets from MassHealth and nursing homes or long-term care expenses.

An Irrevocable Trust is created during your lifetime. The primary goal of the Trust is to receive assets you transfer to it so that MassHealth will not count these assets toward your resource limit when determining whether you qualify for MassHealth benefits.

However, creating an irrevocable trust comes with a certain lack of control over the assets you transfer to this trust. Before making such a significant decision, consider some pros and cons to see if this long-term care strategy is right for you.

Image of a grandmother with her grandson. The grandmother has short white hair and glasses and is wearing a bright royal blue t-shirt and is holding the right-hand side of a book. Her grandson is standing to the right of her holding the other half of the book. He has short black hair and is wearing a t-shirt that includes characters from "Toy Story."  They appear to be standing in a family room just off the kitchen. The image is shown related to our Braintree estate planning firm's blog post about irrevocable trusts and asset protection.

Benefits of an Irrevocable Trust

1. You Maintain Limited Benefits from the Assets in the Irrevocable Trust

Although transfers of assets to an Irrevocable Trust will cause you to relinquish your ownership and control of them, the finality of the arrangement is not as harsh as it sounds.

In creating an Irrevocable Trust, you select a person (trustee) who manages the trust assets for your benefit. So, if you transfer investment accounts to the Irrevocable Trust, you can still receive the income generated from these investments. If you transfer your home, you can still live there. In exchange for giving up control of your assets to an Irrevocable Trust, your assets no longer count against you for MassHealth eligibility purposes.

2. Your Assets Are Safe From MassHealth and Other Long-Term Care Creditors

Once your assets are in an Irrevocable Trust and other criteria are met, MassHealth can’t seize them or ask you to spend them down to pay for your nursing home or long-term care costs. These assets also are not subject to MassHealth’s estate recovery lien.

As a result, your heirs can benefit from the assets without the interference of MassHealth or liens it could otherwise file against your estate after you pass. Furthermore, like most trusts, assets in the trust do not require the administration of a probate court when you pass away.

3. You Can Choose Your Beneficiaries

An Irrevocable Trust also functions as an estate planning tool. This is because you can designate who receives what remains of the trust upon your passing. The beneficiaries you choose will receive the assets per the terms of the trust agreement, and the assets in the Trust do not require probate court administration. Probate in Massachusetts isn’t particularly expensive (unless of course there is a challenge to the Will or actions of the Personal Representative), but in addition to the public nature of probate, the biggest complaint we frequently encounter is that the probate courts are extremely backed up and we’ve seen simple closing petitions take 18 months to be reviewed and processed. Sometimes these delays are meaningless (e.g. a title problem preventing you from selling a vacation home may have no impact to your family if you have no present intention of selling the property), but if your beneficiaries are trying to sell real estate and they are waiting on the court to enter a decree, a delay like this in a volatile real estate market can result in a significant financial impact.

In addition, you may be able to retain what is called a “limited power of appointment.” This allows you to change who the beneficiaries of the Irrevocable Trust will be, should your wishes or family circumstances change.

4. Assets Are Protected From Your Beneficiaries’ Creditors

Even though you can designate an Irrevocable Trust’s beneficiaries now, those beneficiaries do not have full access to the trust’s assets because of how it is structured. This also means their creditors do not have access to it. And, if your child is a beneficiary and is going through a messy divorce, neither does their spouse. You can also designate how bequests to beneficiaries can be used.

Frequently people will ask us “why don’t I just transfer the house to my children?” It is this creditor issue which makes transfers to children a disaster. We point out transferring assets to children is NOT asset protection, it is simply creditor swaping: instead of your assets being subject to future nursing home claims, your assets are now subject to your childrens’ future divorces, bankruptcies, catastrophic car crashes, etc.

5. Protection From Capital Gains Taxes

A properly drafted Irrevocable Trust preserves the full capital gains tax exclusion on the primary residence (currently $250,000 per spouse). After the parents’ death, when a person’s beneficiaries sell the home, the tax basis would be the parents’ date of death valuation and not at the original purchase price. This can eliminate the taxable gain on the increase in value the property enjoyed during a parents lifetime, with children only having to pay capital gains taxes on growth that occurred after your death and during the period of time that your children owned the property.

Drawbacks of Irrevocable Trusts

1. Timing Is Everything

For an Irrevocable Trust to function as intended, it needs to be created in advance to avoid the MassHealth lookback period of Five Years.

If less than five years have elapsed since you created your Irrevocable Trust, you may still be responsible for some or all of your long-term care costs until sufficient time has passed.

But given the restrictions on access to equity, you don’t normally want to set these trusts up too much further than 5 years in advance.

2. Income From Irrevocable Trust Is Countable by MassHealth

Although assets in an Irrevocable Trust may not be “countable” by MassHealth toward your resource limit, these assets may still generate income. If this income is payable to you, it will increase your Patient Pay Amount (“PPA”) paid to the nursing home each month.

3. Giving Up Control Is Non-Negotiable

A trust will not qualify as an Irrevocable Trust if you retain control other than the limited power of appointment that may be permitted in your situation. You must accept that a person you select to act as trustee will manage the trust, and distribute funds and income from the trust.

In addition, creating an Irrevocable Trust but not transferring assets to it is ineffective. You need to fully commit to the concept for it to benefit you. And keep in mind when you transfer real estate to an Irrevocable Trust you will likely never be able to obtain a mortgage, refinance a mortgage, home equity line or reverse mortgage on the property again because you are no longer the owner of the property.

That said, we frequently find that clients do not transfer 100% of their assets to these types of irrevocable trusts and instead will retain some assets to ensure they have funds to live on during retirement while protecting assets they have earmarked as assets children will inherit.

4. Setting Up an Irrevocable Trust Is Costly

Creating and implementing an Irrevocable Trust is a complex legal task requiring many hours of work and expenditures made on your behalf. In addition, because Irrevocable Trusts are tied to MassHealth regulations and the latest interpretations of those regulations, the expertise of a qualified elder law attorney is essential.

You should expect that this expertise comes at the cost of several thousand dollars or more. However, your potential savings between avoiding probate and protecting the property from future long term care costs could be exponentially greater for you and your family. For this reason, the price is often well worth it.

5. Potential Effects on Care

It’s important to realize that while the Irrevocable Trust strategy is designed to preserve assets and wealth, it assumes that a person will rely on MassHealth to pay for a portion of their care. However, MassHealth does not cover all facilities. For example, many assisted living facilities are not licensed as assisted living programs and only accept private pay residents. Thus, relying on MassHealth could affect the choice and quality of care a person may receive.

The pros and cons discussed above are not exhaustive, and there may be other ones that apply to your situation. Investing in an Irrevocable Trust is a highly fact-specific process, and Irrevocable Trusts are not suitable for everyone.

You should speak with your attorney to discuss how an Irrevocable Trust may affect other benefits you receive, your overall estate plan, its tax consequences, and whether it is right for you. Contact us today to schedule a meeting.