If you own farmland, chances are you’ve heard about life estates. Maybe your land is already set up in a life estate, or maybe your neighbor has land in a life estate. Or, maybe you’ve been advised to create a life estate to protect your farmland from nursing home costs by someone you know. But this summer, the Minnesota Supreme Court handed down a decision that significantly changes the landscape for the owners of a life estate and may make life estates less effective than before.
First, what is a life estate? A life estate divides real property into two parts across time. A deed gives a gift of a future interest in the land, often to children or other heirs, and then reserves ownership in the land for the life of the current owner (or, in some cases, for the joint lives of two co-owners). The current owners, called the “life tenants,” continue to own the property and receive all the rent as before, but when they die their interest automatically transfers to the owners of the future interest, known as the “remainder persons.” This transfer at death qualifies for a step up in tax basis under the tax code as well, meaning if the land is sold at death no capital gains tax is owed.
Why are life estates important for long term care planning? Medical Assistance (MA), the program that pays for long term care costs in Minnesota (also known as Medicaid), has historically treated life estate property as unavailable to the applicant and their spouse. Because a life estate is considered unmarketable (would you want to buy an interest in property that could extinguish at any moment when the life tenant dies?), state guidance provided that the value of a life estate interest did not count toward an applicant or their spouse’s asset limit. So, an individual or married couple could continue to own farmland in a life estate and qualify for (MA) benefits. In addition, the life estate interest could be transferred to the healthy spouse so that all the rent payments could be retained by them instead of having to be spent on care.
But a new Minnesota Supreme Court case, In re Esther Schmalz, may have changed all that. In this case, Esther and Marvin Schmalz owned farmland in Renville County and transferred the land to their children, retaining a life estate interest for their joint lives. Esther went into a nursing home, and Marvin applied for MA benefits. Renville County initially determined that the value of the life estate interest counted against Marvin’s community spouse asset limit making Esther ineligible for benefits. They appealed their case all the way to the Minnesota Court of Appeals where the court sided with Esther and Marvin, holding that Minnesota law requires the county to disregard the value of life estate property. The Minnesota Department of Human Services appealed this determination, and the Minnesota Supreme Court reversed the decision of the lower court, holding that Minnesota statutes require the county to count a life estate interest owned by the non-MA spouse against that spouse’s community spouse asset limit.
What might this mean going forward? We know that if the non-applicant spouse (i.e. the healthy spouse) owns a life estate interest at the time of application, the value of the life estate will be counted against that spouse’s asset limit, which at present is $128,640. The applicant spouse will not qualify for MA if their spouse’s total assets exceed this limit. Could the non-MA spouse transfer their life estate interest to the MA-spouse and qualify? Perhaps, but consider that the owner of the life estate interest holds all rights to income from the property, which means that any rental income would have to be spent on nursing home care in most cases.
Life estates were already falling out of favor with Elder Law attorneys since the law changed on August 1, 2003 to allow the state to put an MA lien on the life tenant’s interest in life estate property when they die. (Prior to that date, there could be no estate recovery on life estates because, technically, a life estate ceases to exist on the death of the life tenant.) Since this new court ruling, life estates no longer protect the income from farmland for the non-MA spouse. Life estates may no longer offer much promise as a planning tool for the future.
If you currently own valuable real estate, like farmland, in a life estate arrangement, consider speaking to a licensed attorney with experience in MA planning to advise you about alternative options to protect your assets from the cost of long term care.
