One of the most popular estate planning vehicles in the last couple of decades is a so-called “Lady Bird Deed,” otherwise known as a Transfer-on-Death or Enhanced Life Estate deed. Supposedly, the name is derived from its use by Lady Bird Johnson, although neither President Lyndon B. Johnson nor Lady Bird Johnson ever used the strategy. The deed works by transferring real property to contingent remainder beneficiaries (usually the children of the grantor, or the grantor’s heirs) while reserving a life estate coupled with the power to convey, mortgage, or otherwise dispose of the property held by the grantor. At the death of the grantor, the property transfers automatically to the contingent remainder beneficiaries without the need for probate proceedings. This is similar to using transfer-on-death beneficiary designations for your bank and investment accounts.
The strategy is recognized in Michigan pursuant to Michigan Land Title Standards 6th, 9.3, which states:
STANDARD: THE HOLDER OF A LIFE ESTATE, COUPLED WITH AN ABSOLUTE POWER TO DISPOSE OF THE FEE ESTATE BY INTER VIVOS CONVEYANCE, CAN CONVEY A FEE SIMPLE ESTATE DURING THE LIFETIME OF THE HOLDER. IF THE POWER IS NOT EXERCISED, THE GIFT OVER BECOMES EFFECTIVE.
Problem A: Blackacre was devised to Laura Wales, “for her lifetime, to do with as she pleases, but on her death, if not previously disposed of, Blackacre shall be divided between Gerald Rapp and Ivor Sorenson.” Laura Wales died without having conveyed Blackacre. Is the gift over to Rapp and Sorenson valid?
Answer: Yes.
Using a Lady Bird Deed has several advantages in Michigan. These are:
- Drafting a Lady Bird deed is relatively inexpensive, attorneys usually charge $300-600 to prepare and execute the deed. When compared to the cost of a trust, which can range from $1,500 to $5,000, a Lady Bird deed is very effective if the primary goal of a client is to avoid probate.
- Avoiding probate avoids several thousand dollars of court fees and administrative expenses upon death. In addition, probate requires lengthy and burdensome court filings for your heirs with statutory waiting periods for paying creditors and settling the estate. In contrast, a Ladybird Deed gives your heirs the immediate power to sell and manage the property.
- Since a Lady Bird deed avoids probate, the property is not subject to Michigan Estate Recovery claims for Medicaid expenditures if the grantor later requires Medicaid for long term care. Furthermore, executing a Lady Bird deed is not a divestment for Medicaid eligibility purposes.
- The grantor retains control over the property, and may transfer, mortgage, lease, or perform any other transaction concerning the real estate, and unlike a joint tenancy-with-rights-of-survivorship, the creditors of a beneficiary or heir cannot reach the property until the death of the grantor.
- If the grantor is married, the grantor retains the creditor protection afforded by holding property as tenants-by-the-entireties.
- There is no uncapping of Michigan property tax when the deed is executed.
- There is no rescission of the principal residence exemption.
- There is no gift tax owed under the Internal Revenue Code.
- The property does not lose the step-up in income tax basis under IRC 1014 and 2036(a).
- The property does not lose the capital gain exclusion for a sale by the grantor under IRC 121.
- There is no county transfer tax.
- There is no state transfer tax.
This all sounds pretty great, right? Well like any legal strategy, there are disadvantages to using a Lady Bird Deed. These are:
- The property is still a countable asset for Medicaid eligibility. Therefore, if a married couple is considering using a Lady Bird deed when long term care is reasonably foreseeable (i.e. if one spouse has cognitive or physical limitations) it may not be the best strategy to transfer the property to the other spouse without unnecessary spend-down, or to avoid estate recovery.
- The property is an asset for federal estate and generation-skipping taxes (i.e., not a completed gift). If planning for the gift or estate tax is necessary, other vehicles like a qualified personal residence trust (QPRT) or another irrevocable trust are better options.
- It can create unforeseen undesirable consequences if one of the heirs or beneficiaries dies before the grantor(s). For example, if the grantor’s three children are remainder beneficiaries, and one of them passes away before the grantor, their interest belongs to that child’s probate estate, therefore defeating the goal of avoiding probate. If the contingent remainder beneficiaries take the property as joint-tenants-with-rights of survivorship, then if one remainder beneficiary dies before the others, that beneficiaries’ descendants are disinherited.
- If one of your heirs has special needs, the property will be counted against them for Medicaid and Social Security Disability eligibility. In this case, a third-party special needs trust is preferable to provide for such an heir.
- Likewise, if one of your heirs inherits the property and later gets divorced, declares bankruptcy, or has creditor issues, the property is not protected from these claims. Therefore, if these issues are a concern for you, a trust may be a better option for your estate plan.
- Finally, a Lady Bird Deed provides no guidance or direction as to the management or rights of the beneficiaries after the grantor’s death. The law provides that the remainder beneficiaries are each proportionally responsible for the property’s upkeep and maintenance, and likewise entitled to its income, but this right can only be enforced in court at considerable expense to your heirs. Furthermore, a Lady Bird Deed does not give an heir a right of first refusal if one or more of the remainder beneficiaries would like to sell their interest in the property. In this situation, the only recourse for the heirs is initiating a costly partition action or litigating over a buyout. In contrast, a trust can delineate the rules for upkeep of the property, provide rules for adjusting ownership equity when heirs pay an unequal amount of upkeep, provide rules for use of the property, and give your heirs a first-right-of-refusal to buyout the property at a set price if one heir wants to sell their interest in the property. For this reason alone, a trust is almost always the preferable method for estate plans when there is property you want to keep in the family.
- A Lady Bird deed should not be used for business property, as there is not an exemption from property tax uncapping when it’s used for commercial property.
For these reasons, I generally recommend using Lady Bird deeds when the estate is truly simple: there are one or two heirs who do not have special needs or creditor issues (or contemplating a divorce from their spouse), the Lady Bird Deed is for the primary residence which has no sentimental value to the remainder beneficiaries (i.e. is not for a property that you would like to remain in the family like a lakeshore cottage), the estate will be well below the federal estate and gift tax unified exemption, and the primary goal of the grantor in executing the Lady Bird deed is to avoid probate.
As you can see, a Lady Bird deed is a powerful, but not a universally applicable estate planning solution. The particular facts of your unique circumstances need to be carefully considered by you and your estate planning attorney. If you are considering using a Lady Bird deed for your estate plan, please call our office to schedule a complimentary, no-obligation consultation to determine whether this solution is right for you.