Tax and Medicaid Planning Aspects of the Standard Vermont Estate Plan—2007 Update
Article written by John C. Newman, Esq.
Posted on Jul 01, 2011
Need for a 2007 Update
Judging from the interest generated by our 2004 CLE offering and by telephone calls and emails we have received since then, our article on the tax and Medicaid planning aspects of what we tongue-in-cheek termed the “standard Vermont estate plan” has led attorneys to explore alternatives to the rather common recommendation of a joint tenancy with a family member to pass a Vermont elder’s home to the next generation. Since the article was published (VBA Bar Journal, Summer 2003), the US Congress passed legislation that radically changes the Medicaid planning aspects of our article. In addition, the Vermont Supreme Court has issued three recent decisions that also must be considered in using the survivorship or remainder features in deeds to pass a home to surviving children.
For this reason, we decided to republish our prior article with updated information on current Medicaid and Vermont Supreme Court implications impinging on the planning rules we explained in summer 2003.
Background: The Standard Vermont Estate Plan
In Vermont, it seems typical for an elderly single widow or widower to visit a local attorney’s office and request that the attorney prepare a deed adding the individual’s children as joint tenants with right of survivorship on the title to the family farm or ancestral residence. We have come upon this type of transaction so frequently that in our office we refer to it as the “standard Vermont estate plan”. As with any proposed transfer of property, this transaction has inherent risks and advantages which should be weighed against other possible forms of transfer, such as the conveyance of a contingent remainder interest to the children while the elder retains a life interest with a power to sell the whole property (termed “an enhanced life estate” in Medicaid planning parlance).
Summary of Legal Consequences of Plan
The table below sets forth in summary fashion the various consequences of these family net wealth transfer strategies:
Federal Gift Tax
A lifetime transfer of the fair market value of the undivided interest in real property; value of entire property is included in decedent’s estate (IRC § 2040).
100% basis step-up at death of parent/Transferor; carryover basis if sold during transferor’s life. $250,000 gain exclusion available for sale of owner/occupant’s interest in residence only.
Residence: a transfer for no value resulting in a disqualifying period; Non-residential property: not a transfer, but value of entire property treated as countable resource.
Joint Tenant is a title owner with liability.
Equal share of town taxes due from each joint tenant; no income sensitivity unless transferor is 62 years of age or older.
Transfer of interest in property cannot be revoked.
Life Interest (Power to Sell).
No lifetime transfer; value of entire property is included in decedent’s estate (IRC § 2036(a)(1)).
100% basis step-up at death of parent transferor. $250,000 exclusion should be available for entire gain on sale of residence by life-tenant owner/occupant.
NOT a transfer of a liquid asset triggering a disqualifying period.
Remain-derman has no liability while life tenant is alive.
Owned by life tenant; Act 60 prebate available to life tenant.
Property may be sold by life-tenant transferor, and proceeds applied for his/her sole benefit.
In this article, we would like to comment on the table and set forth a few considerations that should be discussed with the client who asks you to add their children to their deeds as joint tenants.
I. Federal Gift Tax
A. Joint Tenancy
The creation of a joint tenancy by a parent adding a child’s name to a deed as a joint tenant with right of survivorship is a taxable gift to the extent that the value of the transferred interest exceeds $12,000 per donee (an amount periodically indexed by the IRS in thousand dollar increments). This transfer to the new owner/child is a completed gift because, under Vermont law (12 VSA §5161), the child can make a unilateral decision to sever the joint tenancy and make it into a tenancy in common, allowing the child to then sell his/her interest in the property. Although the Vermont Supreme Court has resisted giving full effect to Vermont statutory law when the equities militate against it (see below, Section VII), these equitable remedies are unlikely to be given credence by IRS in the gift tax context under the principle that the taxpayer cannot argue against the form he or she selects for the transaction. If the joint tenancy is not severed, upon the elderly transferor’s death the entire value of the property is includable in the transferor’s taxable estate under Internal Revenue Code (“IRC”) §2040, even though a completed gift had previously been made. However, because of the way the estate tax and gift tax work together, there will not be a double level of taxation imposed on the transaction. Moreover, the inclusion for estate tax purposes is advantageous because it allows a basis step-up at death for capital gains tax purposes, as discussed below.
Although many Vermont attorneys seem to ignore or minimize this tax compliance formality, as tax lawyers we must recommend that when you document the creation of a joint tenancy between a parent and their child, you should inform your clients that they are required to file a federal gift tax return recording this gift at the same time they file their annual IRS Form 1040. This filing is made on IRS Form 709. In general, no gift tax will be due unless the transferor is a nonresident alien. Beware, however, when a non-resident, non-citizen is involved; such a non-resident does not have a gift tax exclusion amount exceeding the annual $12,000 exclusion. United States citizens and tax residents usually do not have this problem because a US citizen or resident’s gift very likely is covered by the US donor’s lifetime gift exclusion of $1 million. This $1 million gift tax exclusion has not increased since the 2001 estate tax reforms (in the parlance of tax wonks: EGTRRA 2001).
Under these EGTRRA 2001 reforms, the applicable federal estate tax exclusion amount is $2,000,000 in 2007 and 2008, increasing to $3.5 million in 2009. Under current tax legislation, the estate tax is supposed to sunset in 2010 only to be reinstituted under the rules in effect in 2001. In our office, we had assumed that the US Congress and the President would have reached an agreement to rationalize the effect of the estate tax sunset provision in advance of the X-generation’s incentive to euthanize its wealthy elders in 2010 when the estate tax will sunset for one year, but that has not happened.
This is all to say that while a gift tax formality is imposed on the creation of joint tenancies neither a gift tax nor an estate tax is likely to be payable for the clients who we find typically engage in this type of estate planning.
B. Life Estate Interest (Power to Sell)
The transfer of a remainder interest in a property to a child or children, with the transferor reserving a life estate and the ability to sell the property during his/her life and to retain the sale proceeds, is essentially equivalent to a testamentary transfer. Not surprisingly, the federal estate tax rules consider the life estate retained by an individual to be a testamentary interest in the entire property that will be fully includable in the donor’s federal taxable estate at death (IRC §2036(a)(1)).Although the authors are unaware of any case or IRS ruling on the subject of such transfers, the retained power to sell and keep the proceeds of sale during the transferor’s life would appear to prevent the transaction from being a completed gift; therefore, no federal gift tax return should be required. For this reason (no completed gift), this will be the preferred transaction when a non-citizen, non-resident wishes to pass property down a generation through the automatic survivorship feature using a retained life estate.
II. Capital Gains Taxation
A. Joint Tenancy
When a parent transfers a joint tenancy interest to a child, the tax basis of the property that is given away is “carried over” to the recipient. In other words, the joint-tenant child will have a “carryover” tax basis in one-half of the real property, assuming a 50/50 joint tenancy . Depending upon the parent’s tax basis in her residence, the carryover basis could result in an unanticipated income tax cost if the property is subsequently sold during the parent’s life.
For example, if the parent had a tax basis of $20,000 in the property, and the property is subsequently sold for $200,000, the one-half interest that the child received by gift (worth $100,000) will have a $10,000 tax basis. When the $100,000 in proceeds is received by the child for his/her gift interest, the child will owe federal and state income tax on a capital gain of $90,000 ($100,000 sales price minus $10,000 tax basis). In Vermont, the combined federal and state tax on such a capital gain is likely to be 20 percent (combined state and federal rate), for a tax liability of $18,000. Here again, we had assumed that EGTRRA 2001 income tax reforms (which temporarily pushed the long-term capital gains tax rate down to 15 percent) would be made permanent. Nevertheless, current legislation sunsets the reduced 15 percent rate after 2010. Thereafter, the federal general long-term capital gains rate reverts to its prior 20 percent rate.
Unless there is no possibility of a sale of the residence prior to the death of the parent, the risk of a substantial income tax liability upon the sale is a major drawback to the use of this conveyancing technique.
If the selling child is not a resident of Vermont, the attorney closing the transaction will withhold Vermont’s normal 2.5 percent mandatory withholding tax on the gross proceeds. If the child is a non-resident alien, the federal 10 percent withholding also must be made.
Formerly, the most serious consequence of a transfer of a joint tenant interest followed by a sale of the property was the potential loss of the $250,000 ($500,000 for joint returns) capital gains exclusion with respect to the parent’s interest in the personal residence. On December 24, 2002, the Internal Revenue Service promulgated new regulations under IRC §121 (capital gains exclusion for sale of a personal residence). New regulation section 1.121-4(e)(1) permits a taxpayer to exclude from taxable income gain on the sale of a partial interest in his/her personal residence. This exclusion will not apply however to the sale of the non-occupant co-tenant’s interest in the real property.
If the property is not sold until after the parent’s death, the property will receive a “stepped-up” tax basis equal to the fair market value of the property at death, dramatically reducing, if not eliminating, any potential capital gains taxes when the property is subsequently sold.
B. Life Interest (Power to Sell)
Since with an enhanced life estate, the parent continues to have full control over the use and disposition of the residence during his/her lifetime and may sell the residence and keep all of the proceeds, the remainder interest of the child is contingent. As a result, if the residence is sold, with the parent receiving all of the sale proceeds, the parent should qualify for the capital gains exclusion under IRC §121. The primary difference from the creation of a joint tenancy is that in a joint tenancy the child receives a present interest in the property which at the very least disqualifies the child’s interest from the capital gains exclusion. In our example ($200,000 property, $20,000 historic basis), the tax savings from using the life-interest/remainder transfer is $18,000. For most heirs whose parents engage in the standard Vermont estate plan, a tax savings of this magnitude is significant.
As with joint tenancy property, if the property is held until the parent’s death, the full fair market value of the property will be included in the parent’s estate under IRC §2036 (as discussed in I. B. above). Therefore, the property’s tax basis will be adjusted to its fair market value. IRC §1014(a). As noted above, the result likely will be that there will be little or no capital gain payable by the surviving child when the real property is sold after the parent’s death.
III. Medicaid Planning
When we first drafted this article in summer 2003, it was stimulated by our experience with enhanced life estates as a Medicaid planning device. Under the Vermont Medicaid Manual (M232.16), the transfer by a potential applicant of a contingent remainder interest in his/her residence by the creation of an enhanced life estate is not a transfer for no value. Since then, the Deficit Reduction Act of 2005 (signed by President Bush on February 8, 2006) made a number of changes to federal law on Medicaid qualifications. All of the statutory amendments are unfavorable for Medicaid applicants, designed to reduce the federal deficit created by the increased cost of Medicaid long-term care benefits. For this reason, Medicaid planning became that much more difficult.
A. DRA 2005 Changes
The 2005 Act’s changes are discussed below under two headings dealing with the family residence and the penalty provisions for transfers for no value. We then make a few comments on how these changes affect the planning choices set forth in our prior article. Other changes were made by DRA 2005 that are not relevant here.
1. Family Residence
Prior to DRA 2005, the family residence was a protected resource, whatever the equity value of the home. DRA 2005 changes this situation by protecting only $500,000 of equity in the family’s personal residence ($750,000, at the option of states when adopting this change into their domestic legislation or administrative rules). All that the applicant needed to do to maintain the protection of the home as a resource is to claim the desire to return home when institutionalization is no longer necessary.
Vermont proposed to implement this federal law change in its Medicaid Manual (M233.23) with effect for applications filed on or after January 1, 2006. The final regulation was published only on February 1, 2007, however.
The maximum “home equity” allowed to a Vermont Medicaid applicant generally is $500,000. Home equity is measured by the difference between the town assessed value of the home and the total amount owed in terms of mortgages, liens, or “other encumbrances”. This cap on home equity does not apply if the applicant’s spouse, his or her child under age 21, or the applicant’s child who is blind or permanently disabled lives in the home. A hardship waiver is available under normal Medicaid standards, and the Medicaid Manual advocates a reverse mortgage as a solution. The actual rules in M233 require some study by the advocate for an applicant who is affected by the home equity cap. They are not a model of clarity.
How the reverse mortgage will be a solution in practice remains to be seen. For example, one author’s experience with the pre-DRA 2005 reverse mortgage suggested that the widow or widower (this measure only reaches single persons) who is in a nursing home will lose the ability to continue a reverse mortgage arrangement a year after leaving the home.1 Perhaps a home equity loan would be a better solution. Nevertheless, using a home equity loan the widow must still service the loan, and once received the loan proceeds presumably must be spent on nursing home care. Of course, the loan must be paid back, and so the home must be sold rather than pass to the children unless they can assume the mortgage under the terms of the arrangement.
This cap on home equity value and the advocacy of a reverse mortgage as a solution could well affect the advice of a Vermont lawyer to transfer the home to remaindermen, with the potential applicant retaining an enhanced life estate. The potential for having to enter into a reverse mortgage may have to be considered when (and if) drafting such a conveyance. Articulating a home equity loan in such cases also bears some forethought. The life estate planning technique has become that much more complex.
2. Asset Transfer Look-Back Period
Under pre-DRA 2005 federal law (as implemented in Vermont), when a Medicaid applicant transferred property for less than full fair market value during a look-back period, on the date the gratuitous transfer was made a disqualifying period commenced that was equal to the days that the applicant could have paid for nursing home care by using the particular transfer for no value. In Vermont, the disqualification period created by a transfer for no value during the look-back period was measured in days. The exact number of days of disqualification was arrived at by dividing the value transferred for no consideration by the average daily cost to a private patient for nursing facility services in Vermont ($216.04/day at 10/1/07). In other states, the look-back period was computed by applying the monthly average nursing home rate.
Under pre-DRA 2005 law, the look-back period for such gratuitous transfers was for the three year period prior to the individual’s application for Medicaid. If the “transfer for no value” (as these transfers are termed) was to a trust, the look-back period was 60 months. Under the DRA 2005, the look back period is extended to 60 months in all cases. Under pre-DRA law, the look back period commenced to run on the date of the gift, but DRA 2005 commences the disqualifying period on the date that the applicant for Medicaid files the application.
For example, if on October 31, 2007 a widow gives away her farm worth $210,000 to her two children, and then applies for Medicaid long-term care assistance on January 1, 2012, the widow theoretically will disqualify herself for Medicaid for 893 days (assuming an average nursing home day rate in Vermont of $235). This disqualifying period will commence on January 1, 2012 and run for about two and a half years. The unsophisticated applicant is likely to find out about the disqualification some months after the application is filed, when the official response to the application comes back with a calculation of the disqualifying period. Presumably, a second application will be required after our example widow’s disqualifying period has expired. This disqualification may come as an unexpected surprise, and the children may not have the money to cover their mother’s care for this period (presumably costing at least the $210,000 that was transferred).
Vermont’s post-DRA 2005, amended Medicaid Manual (M440.44) provides for a hardship waiver for transfer for no value penalties. DRA 2005 required the state to implement such a procedure. As the Vermont Medicaid Manual’s bulletin transmitting the creation of this new hardship waiver procedure states, “At a minimum, the waiver process must provide notice that an undue hardship exception exists; a timely process for determining whether an undue hardship waiver will be granted; and a process under which an adverse determination can be appealed.” It will be interesting for practitioners to track the success of the hardship waiver process in alleviating the suffering that will be caused by Medicaid refusal letters that are sent to unwary children. Because it is unlikely that a deed will be prepared without the assistance of a lawyer, we recommend that in advance of the decision to make the transfer advice in writing be given on the potential Medicaid consequences of lifetime transfers of real property by a transferor who might apply for long-term care assistance during the look-back period.
We now turn to the classic implications of using a joint tenancy or an enhanced life estate on an individual transferor who might subsequently apply for long-term care assistance.
B. Joint Tenancy of Personal Residence
Although an individual’s residence is exempt from treatment as a “countable resource” for Medicaid qualification purposes, the conveyance of an interest in an individual’s residence to his or her child will trigger a disqualifying period based upon the value of the interest conveyed, as illustrated above. Therefore, it is not ordinarily advisable for an individual to “add their children to the title” to the residence by creating a joint tenancy if there is a likelihood that the individual will be applying for Medicaid assistance in the foreseeable future.2
For example, if a widow engages in the standard Vermont estate plan and gives her daughter and son one-third joint tenancy interests in her farm (total value: $210,000) on October 31, 2007, the transfer for no value could start a disqualifying period if the widow applies for Medicaid long-term care assistance any time before October 31, 2012. Let us assume that the widow indeed needs long-term care because she has exhausted her private capital and makes an application, January 1, 2010. The Vermont Medicaid application requires that the applicant report the $140,000 transfer, and the widow will then discover that she must find the resources to be private pay for 595 days (assuming an average private pay day rate in 2010 of $235).
In real life, this discovery likely will be made by one of the widow’s children who helps her file her Medicaid application. Will the children have the cash to pay mother’s stay in a nursing home for a little under two years because she has exhausted her resources or will the farm be sold and all of the proceeds used to pay for nursing home care? Unless the widow has been reading the national newspapers closely (or this Bar Journal), she likely will be unaware of the problem she has created by giving away interests in the farm until it is too late. Instead of saving the farm for her children, she has destroyed their inheritance.
The situation is potentially much worse with the transfer of property other than the individual’s personal residence. Vermont law regarding the Medicaid qualification consequences of the creation of a joint tenancy in property other than an individual’s personal residence was changed with the enactment of the 2002 Budget Act (Act 142) and the adoption (with an effective date of July 1, 2002) of amended rules in Vermont’s Medicaid Manual (M 233.23). Vermont’s Medicaid authorities will presume that an individual owns the entire equity value of real property (other than the individual’s principal place of residence) which is owned jointly with others when the joint ownership was created after July 1, 2002 and within 60 months before the individual applies for Medicaid long-term care assistance. In other words, the entire fair market value of the property will be treated as a “countable resource”. The presumption may be rebutted by showing through reliable sources that others have purchased shares of the property. An individual with a countable resource must sell the resource and use the proceeds for qualified expenditures that reduce their net worth and income below SSI-Medicaid resource and income limits. Certain pre-July 1, 2002 joint-tenancy interests are grandfathered.
B. Life Interest (Power to Sell)
Pursuant to the Vermont Medicaid Manual, the transfer of a remainder interest to a prospective Medicaid applicant’s children while retaining a life interest with the power to sell the whole property will not be a transfer that will trigger a look-back period if the property is the applicant’s home. The home is still an excluded resource (M 233.16).
When the life estate is not excluded as a countable resource (because the real property is not the applicant’s principal residence), the Vermont Medicaid authorities establish the value of the life estate using the life expectancy tables in its Medicaid Manual.
DRA 2005 did not amend life estate rules, but Vermont did in 2006. When the potential applicant purchases a life interest in another individual’s home, the life estate will be a countable asset unless the purchaser resides in the home for at least one year after the purchase. In Vermont, this new rule (M440.32) applies to payments made for nursing home services on or after April 1, 2006. Responsibility for all taxes and costs associated with house remain with life estate holder. We’ve had issues with Town Clerks sending tax bills to future interest holders despite clear language – just something to warn clients about.
IV. Liability Issues
A. Joint Tenancy
Should our Vermont widow add her child to the deed to real property, and should someone be injured on the property, the child could possibly be jointly liable for any resulting damages. For example, if the widow rents out a property (such as a farm) to an individual who is injured while riding a tractor, with death resulting, both the widow and the child could be named as defendants in a lawsuit brought by the heirs of the deceased.
The financial damage of potential lawsuits can be managed through different means (liability waiver in the farm lease, liability insurance, etc.), and it is not certain the injured individual’s heirs would prevail in proving damages exceeding the fair market value of the farm, but these issues should be addressed at the time the joint tenancy is created.
B. Life Interest (Power to Sell)
As a remainderman on a deed, a child does not have current liability while the life tenant is alive. While the injured individual in the above example still could sue our Vermont widow and seek recovery against the property, the individual could not seek a recovery against the child’s personal assets.
V. Town Taxes
A. Joint Tenancy
According to the Vermont taxing statutes (32 VSA 6061 et seq.) our Vermont widow should not be disqualified for the Town Tax income sensitivity provisions if she is 62 years of age or older and she adds a child to the deed. She may add her descendants to the deed without losing the right to an income adjustment to her real property taxes. The general rule is that when a householder adds co-owners to the deed, the householder’s income sensitivity is restricted to their percentage ownership in the property (32 VSA 6062(c)). In the future, the special exemption for individuals age 62 and older may be eliminated and income sensitivity denied. The Vermont Legislature seems likely to attempt to amend the educational property tax rules annually for some time to come.
B. Life Interest (Power to Sell)
The transfer of a remainder interest to a child will not result in the widow being disqualified for income sensitivity, even under the general rule. The child will simply have a contingent remainder interest, and the life tenant will continue to be fully responsible for Town taxes. See note on Pg. 9 re: Town Clerks sending the tax bills.
VI. Exit Strategy
A. Joint Tenancy
A transfer of a joint-tenancy interest in real estate is irrevocable. This is a point that is often overlooked or misunderstood by elderly homeowners, who tend to believe that they can add or remove children from the title whenever they want, since it is “their house.” This misunderstanding can lead to a real shock in cases where the parent wishes to remove a child from the title, and are advised that this cannot be done without the child’s consent. Worse, the child’s interest in the property could be a marital asset subject to equitable division upon the child’s divorce, and the elder may find it impossible to remove the child’s name from the deed during the divorce.
B. Life Interest (Power to Sell)
Although the life tenant cannot revoke the contingent remainderman’s interest, the life tenant’s power to sell the property and retain all of the proceeds gives the life tenant considerably more leverage in “donor’s remorse” situations. Although an actual sale of the residence may be required to undo a gift which hindsight reveals was imprudent, the “life interest, power to sell” technique at least offers an option that is unavailable to creators of joint tenancies.
VII. Recent Vermont Supreme Court Case Law
Since our Summer 2003 Bar Journal article, the pitfalls of using a joint tenancy as a “will substitute” have become apparent. So far, it appears that the Vermont Supreme Court will allow a court to consider evidence that a joint tenancy was created for the sole purpose of “avoiding probate.” However, the cases should be a beacon to attorneys that the joint tenancy option not only is risky but engenders litigation if the new joint tenant attempts to sever the interest.
A. Gregoire v. Gregoire
In what must have been a rather nasty family battle, Michael Gregoire appealed from the decision of the trial court declaring that when Michael was added as a joint tenant to a parcel of business real property by his parents, all three had a mutual understanding that the property would be held in trust for the benefit of the parents during their lifetime. Although the deed executed in 1986 specified that the property in St. Albans would be held by the parents as tenants by the entireties and by Michael as a joint tenant with right of survivorship, the trial court refused to grant Michael his requested declaratory judgment that he was entitled to a valid legal interest in the property and a portion of the commercial rents generated by the business property. The parents alleged that the form of transfer was used simply for estate planning purposes to avoid probate and the parents did not intend that Michael would have a current interest in the property.
The decision bears reading for its object lesson in the difference between a resulting trust (“which may be recognized when one party provides the funds to purchase property and the other holds title”) that the trial court imposed on the transaction and a constructive trust (“imposed to prevent unjust enrichment of another”). The parents had argued that the trial court should impose a constructive trust on the transaction, and the son defended by showing the lack of fraud or wrong doing. The trial court cured the parents’ pleadings by imposing a resulting trust instead of a constructive trust. The Supreme Court (No. 2006-137), in an three-judge panel entry order (“not to be considered as precedent before any tribunal”) sent the matter back to the trial court because the issue of whether a resulting trust could be imposed (the finding of the trial court) was not briefed at the trial court level.
This decision illustrates the rather circuitous legal logic that had to be used by the trial court (sua sponte, it would appear) to prevent what the court clearly perceived to be the wrong result. One wonders what will happen now. Will the parents be able to remove the son’s name from the business property without his consent? If the matter is re-litigated below, will the trial court find another solution to the dilemma of construing what is clearly expressed in the recorded title to the property against the conduct of the family business? What are the tax consequences of finding a resulting trust; is the property taxed by Internal Revenue Code subchapter J as if owned by a trust?
B. Brousseau: the Standard Vermont Estate Plan Runs in the Family
If any case illustrates the persistence of the standard Vermont estate plan (and its pitfalls) over many generations, the fact pattern in Brousseau v. Brousseau (Entry Order; September 2006 Term; No. 2006-142) is that case. In the Court’s words, Mother acquired her interest in her residence when it was deeded to her by her parents when they added her as a joint tenant with right of survivorship in 1965. Mother moved into the house to take care of her failing parents, the first of whom died in 1983. In March 1984, Mother signs a deed conveying the property to herself and her daughter as joint tenants without Mother’s signature on the deed. Mother’s mother dies three months later.
It will surprise no one reading this article that Mother then applied for long-term care (in 2005). Despite the fact that the property normally would not be a countable resource, Mother decided to sell the property to pay for her own care. Daughter refused to sign a deed, and potential buyer’s attorneys noticed the title defect. In December 2005, a probate judge was willing to quiet title in Mother’s name, while in November 2005, Mother sued daughter in Superior Court to compel daughter to sign a deed of sale and surrender all of her share of the proceeds to Mother. In the Superior Court action, the daughter moved for summary judgment, which was granted.
The Supreme Court found summary judgment was not appropriate because the donative intent of Mother in March 1984 was an issue of fact that was in dispute when the Superior Court ruled on the issue, citing a 1978 Vermont case that found a son failed to prove an inter vivos gift despite title in a joint tenancy. The Court in Brousseau explicitly adopted the position that donative intent is the intent to convey an immediate beneficial interest, and not merely the intent to transfer legal title. The Court decision does admit that the act of titling property in another’s name gives rise to a presumption to convey a present interest, but it will now allow the parties to present proof on original intent to defeat the presumption. Perhaps this is a case where pleading was not sufficient. Mother presented an affidavit denying intent to give the daughter a present interest in the property, and the daughter’s pleading contained “a one-word denial”. One wonders how Mother is going to jump over the explicit terms of the deed itself; whether the deed contained a warranty clause; and whether an attorney was involved in drafting the conveyance who gave advice to the parties.
Justice Dooley’s dissent bears quotation at length:“Mother asks us to hold that otherwise valid record title to real estate is subject to a grantor’s unexpressed intent to avoid the consequences of transferring property later by purporting to transfer it now. In endorsing this result, the majority subverts record title to post-hoc, self-serving testimony of intent. It also gives the desire to “avoid probate” a special status that allows a property owner to create a fictitious record title interest, revocable whenever the property owner desires for any reason or no reason. The linchpin of the majority’s rationale is that a conveyance made in contemplation of “estate planning” – specifically a desire to “avoid probate” – does not show donative intent and in fact rebuts the legal presumption in favor of a gift. This is a bad rule, and one we should categorically reject.”
Clearly, the Supreme Court’s desire to achieve a result that protects participants in the standard Vermont estate plan from their own legal actions represents an assault on the recorded title system and the explicit terms of standard words of conveyance and warranty of title. As the next case demonstrates, the threat to conveyancer’s words meaning what they say is not only found in the case law. Under current statutory law, no conveyancer can be sure that his or her title work will not be undone by a surviving spouse electing to take a homestead share, whatever form of conveyance or “magic words” of intent are used.
C. The Mainolfi Trap
In an article in our Firm’s e-Newsletter we discussed the Supreme Court’s 2005 decision in Estate of Mainolfi, 178 Vt. 588, under the title, The $75,000 Question. We believe that this decision illustrates the antiquated nature of Vermont’s probate laws and the need for reform efforts to instill certainty in the legal finality of modern estate planning methods. We add our Mainolfi discussion here because the decision threatens the certainty that scriveners should be able to assume when drafting the joint tenancy or life interest instruments that we examine here.3
Mainolfi deals with the transfer of a home for estate planning purposes and the resulting implications of the statutory homestead interest for the surviving spouse. Neither the facts nor the law of the case are very clear from this 2-page decision, but the ruling casts uncertainty over any conceivable estate plan that involves the transfer of a home owned by spouses.
As set forth in the Supreme Court decision, Sara and Frank Mainolfi owned a home together in Rutland. In 1993 they executed a quitclaim deed in favor of two nephews, but reserved a life estate for themselves. According to the Court’s opinion, Frank Mainolfi and his two nephews later executed a second quitclaim deed in 1995 in favor of Sara and retained a life estate for Frank. The Court held that this second quitclaim deed “served only to transfer to Sara the fee interest in the home that she had previously conveyed to the nephews by the first quitclaim deed, together with any interest held by Frank at that time.” The Court then held that when Sara died on December 5, 2001, a $75,000 homestead interest vested in her husband, as provided in 27 V.S.A. § 105. The Court ruled that the homestead interest did not arise prior to the death of a spouse, and therefore there was no way that Frank could waive his inchoate homestead interest by quitclaim deed or any other means.
When Frank died on December 26, 2001, Frank’s intention as expressed in his conveyance of the remainder interest to Sara (or to her heirs) was defeated by his own heirs’ election to take his homestead allowance. We reviewed the probate file in the underlying case, and judging from the decree of final distribution, the takers of Frank’s intestate estate were one brother and a plethora of nieces and nephews (children of Frank’s predeceased brothers and sisters). In other words, the answer to who benefited from Frank’s homestead allowance (the “$75,000 question”) is not Frank himself (whom the statute was intended to benefit), but rather remote relatives at least one of whom had not had any contact with Frank (to judge from an affidavit in the file) for many years.
Many plans for larger estates require dividing property between spouses, and thus transferring the home, in order to take advantage of the current estate tax exemption of $2 million per person. There are a number of ways that this might be done. One spouse could, for example, grant a life estate to the other and reserve a remainder interest for their children. Or, more commonly when the husband has a large (non-transferable) pension plan, the home may be transferred to the wife as trustee of her lifetime revocable trust. If, in either situation, the spouse with the interest in the property should die first, the surviving spouse could claim that Mainolfi affords him or her a right to claim a homestead interest at the expense of the remaindermen or other intended beneficiaries. The ability to control the distribution of property is particularly important in blended families where each spouse would like to provide for separate children. An individual may also wish to ensure that all property is eventually transferred to joint children rather than to children from a first marriage or of a second spouse. The inchoate homestead interest inhibits the ability to plan for these contingencies because there is currently no way to transfer or waive the interest before it vests upon the death of a spouse.
Vermont’s law is out of date in this regard. For most Americans personal wealth is no longer centered on the ownership of real property. Larger estates in particular are more likely to be dominated by investment portfolios containing stocks and bonds. A law that focuses on protecting an interest in real property merely hampers the ability to conduct more efficient planning. The Uniform Probate Code (UPC) has dealt with this issue by allowing for the prospective, binding waiver of the inchoate homestead interest as well as other waivable estate interests. Section 2-213(a) of the Code provides that “The right of election of a surviving spouse and the rights of the surviving spouse to homestead allowance, exempt property, and family allowance, or any of them, may be waived, wholly or partially, before or after marriage, by a written contract, agreement, or waiver signed by the surviving spouse.” This UPC waiver would not be enforceable if it is shown to be involuntary or unconscionable. A waiver could be unconscionable if the waiving spouse did not have adequate knowledge and did not receive or waive disclosure with regard to the property or financial obligations of the decedent. These are the same sorts of protections that are provided when drafting an antenuptial agreement.
The ability to waive the homestead interest allows one spouse to retain sole ownership of the home and ensure that its entire value is distributed in accordance with the estate plan rather than risking the possibility that a portion will be carved out in favor of a future spouse or the separate children of the surviving spouse. Reform in this area of probate law would be a solid first step in modernizing Vermont law, which has not kept pace with modern planning techniques.
As this article illustrates, the use of a joint tenancy with right of survivorship as a “will substitute” to avoid probate at death may not always be the most advantageous means of accomplishing this goal. In many cases, a transfer of a remainder interest to the child will be preferable. In particular, the use of the “life interest with power to sell” technique can save a substantial sum in subsequent capital gains taxation if the residence is sold prior to the parent’s death, and adverse consequences may be avoided with respect to Medicaid planning.
1Gilfix and Krooks ,“Asset Preservation and Long-term Care” Probate & Property, November/December 2006, p.34, 35.
2It should also be noted that the transfer of a residence to a revocable trust created by the owner will cause the residence to cease to be a “non-countable resource”, and instead it will be treated as a countable resource that must be exhausted before the applicant may qualify for long-term care assistance.
3We thank Matt Getty, an associate in our firm, for his work on this note.