Under 26 U.S.C. § 2036, if an individual transfers property during their lifetime but retains for themselves or their spouse a life estate or the right to use the property, the value of the property is included in their gross estate for federal estate tax purposes. This includes any situation where the individual has the right to designate who will enjoy the property or its income. However, Lady Bird deeds are designed to avoid this inclusion by allowing the property owner to retain control and use of the property without a formal life estate, which may not trigger the same tax implications. The specific tax treatment can vary based on how the deed is structured and state law.
26 U.S.C. § 2501 imposes a tax on the transfer of property by gift by an individual. The tax applies whether the gift is direct or indirect and whether the property is real, personal, tangible, or intangible. However, Lady Bird deeds may be structured in such a way that the transfer is considered incomplete for gift tax purposes until the death of the original property owner, potentially avoiding the immediate imposition of gift taxes. The grantor's retention of control and the ability to revoke the deed may support the position that a completed gift has not occurred.
Under 26 U.S.C. § 121, an individual may exclude up to $250,000 ($500,000 for married couples filing jointly) of gain from the sale or exchange of a property that has been owned and used as the individual's principal residence for at least two of the five years prior to the sale. This exclusion may still apply to a property transferred by a Lady Bird deed if the original owner continues to use the property as their principal residence, despite the transfer of title. The ability to sell the property and benefit from this exclusion may be retained by the original owner, even after executing a Lady Bird deed.
42 U.S.C. § 1396p sets forth the provisions for Medicaid eligibility, including the treatment of transferred assets. Transfers of assets for less than fair market value may result in a period of Medicaid ineligibility. However, because a Lady Bird deed allows the grantor to retain control and the ability to sell or mortgage the property, it may not be considered a transfer for Medicaid purposes until the grantor's death. This can potentially help the grantor qualify for Medicaid by not counting the home as an available asset. Additionally, since the property passes outside of probate upon the grantor's death, it may not be subject to estate recovery by Medicaid, depending on state law.