Why Can’t I Just Transfer Ownership of My House to My Child? Isn’t that Enough Estate Planning?
Transferring ownership of your home to your adult child during your lifetime may seem like an easy and cheap way to qualify for Medicaid, avoid probate, and/or reduce your taxes. However, this planning “strategy” has three major pitfalls which can lead to disastrous consequences:
You May Not Qualify for Medicaid
Lengthy stays in assisted living or a nursing home are a major concern for adult children and their elderly parents. Neither traditional insurance nor Medicare will pay for long-term care, and to become eligible for Medicaid you need to exhaust almost every asset and penny of savings.
Many people think that transferring title of their home into an adult child’s name (and other assets like bank accounts, etc.) will avoid losing the home and will qualify them for Medicaid since the asset is no longer theirs.
However, this tactic can delay, or even disqualify, someone for Medicaid eligibility. Congress passed the Deficit Reduction Act in 2006, which is aimed at reducing Medicaid abuse. One provision in the Act is a five-year “look back” for eligibility. In other words, before you can qualify for Medicaid, your finances will be reviewed for any “uncompensated transfers” within the five years before you apply. Any “uncompensated transfers” may carry a penalty period which will delay eligibility for Medicaid. The penalty period is calculated by dividing the amount of the transfer by the average cost of one month of nursing home care in the state where you live. On average, nursing home care costs $10,000.00 per month. That means for every $10,000.00 of uncompensated transfers made within the five-year window, your Medicaid benefits will be delayed for one month.
Your Child Can Get a Massive Tax Bill
If you are elderly, you may have owned their home for a long time, and its value may have increased dramatically over time. You may think this means your adult child will make a large profit upon sale of the house if you transfer it to him or her. And, of course, transferring the home during your lifetime will avoid probate.
Again, this rationale is flawed. While probate can be a long and expensive court process, the probate expenses may be minor in comparison to the capital gains tax your adult child can face if they take ownership of your home.
Capital gains tax is the difference between your home’s value when you purchased it and the home’s selling price at the time it is sold. Depending on value, that bill can be enormous. And capital gains tax is only one kind of tax that can be assessed by a transfer of your home during your lifetime. You may also destroy valuable property tax basis and cause a reassessment.
In contrast, when you transfer your home to your child through careful estate planning, your child will receive a “step-up” in basis. This is a tax savings, which means that capital gains taxes are only paid when your adult child sells the home, and the tax is based only on the difference in the value of the home between the time of inheritance and the time of the sale, not the difference in value between the time you bought the home and the sale date.
Here's an example: Let’s say you originally purchased your home for $50,000.00. When you die, and the house is inherited it is worth $200,000.00. Your daughter inherits the home, and 3 years later sells it for $250,000.00. With a “step-up” in basis through careful estate planning, your daughter pays capital gains tax on $50,000.00. If you transferred your home to her during your lifetime, when she goes to sell the house, she will pay capital gains tax on $200,000.00.
Your Home Could Be Vulnerable to Debt, Divorce, Disability, and Death
If your child takes ownership of your home and has significant debt, creditors can make claims against the property. If your child acquires title to your home while he or she is married, and later divorces, their spouse can have a claim to the home as marital property, forcing a sale of the home or a payout of a portion of the home’s value.
If your child becomes disabled, the home is now their asset and affects their eligibility for government benefits like Medicaid, just like it affects you. And if your child dies before you do, the home is part of their estate and will be passed onto their heirs who may leave you homeless.
I Can Help
Transferring your home to your adult child during your lifetime is almost never the right way to plan. There are better ways to keep your family out of court, out of conflict, and paying the least amount of taxes and fees possible, while preparing for long-term care. Trust-based estate planning and how it can work for you and your family is something you should consider before going down this road. Set up an appointment with me so we can design a plan that will provide you with the right solution and will work when you need it. You want a plan that will provide the maximum benefit for the people you love most.
