Thursday, October 28, 2010

Hidden Financial Breaks for Caregiver Children

Hidden Financial Breaks for Caregiver Children
by Jeffrey A. Marshall, CELA*

Caring for an aging parent is a difficult road for a child. It’s hard to appreciate the potential emotional, physical, and financial toll until you have driven this road yourself. The financial costs for the caregiver child are hard to calculate. they can range from missed opportunities at work, through lost wages and the inability to work at all, to having to use up the child’s income and savings to pay for Mom or Dad’s care.  
I’m a certified elder law attorney. For the past 30 years I have helped my clients find ways to minimize these financial burdens. One approach is to try to shift the cost of care off of the family and on to a third party payor such as a long term care insurance provider or Medicaid or another government program.  

When I first started on the elder care law path in 1981 long term care insurance coverage was very limited, Medicaid was like the dark side of the moon, and the term elder law didn’t yet exist. I remember attending a conference in Arlington Virginia in the 1980’s and hearing the speaker talk about Medicaid benefits for long term care, and wondering how anyone could ever find their way through that maze. 

But over time, families and their elder care advisors have become better educated about complex programs like Medicare, Medicaid, and Veterans Pension that can provide critical financial support for a parent. And long term care insurance has been regulated and improved. Of course, relatively few care recipients have long term care insurance, or are Veterans (or spouse or widow or a Veteran), and it is difficult to qualify for Medicaid for numerous reasons. Most care giving in America continues to be provided gratuitously by family members at tremendous cost to the caregivers.
Medicaid and other third party benefits that are payable directly to the person in need of care have become much better understood over the three decades I have been practicing elder law. But, there continues to be an unfortunate lack of knowledge about a number of important tax and financial benefits that can accrued directly to the caregiver child rather than the care recipient. 

These financial breaks are relatively unknown even to tax and legal advisors. As a result they are woefully underutilized.  The purpose of this article is to shed light on 3 of these overlooked opportunities. Two of them are hidden gems that can provide many thousands of dollars in savings for the child who is a caregiver.  


Claiming a Dependency Exemption for your Parent


Probably the best known (though not the most significant) potential tax break for a caregiver child is the federal income tax dependent exemption (IRC § 151).   

An exemption reduces your taxable income. You can take an exemption for yourself and for your spouse if you are married.  You can also claim an exemption for other dependents such as children AND a parent who meets the dependency tests. In 2010 each exemption is worth $3,650, although the benefit is phased out for higher income taxpayers. 

Unfortunately, the rules make it difficult for a child to claim the exclusion for a dependent parent. You can only claim a federal income tax dependent exemption for a parent provided:
  1. Your parent is a citizen or resident of the U.S. or a resident of Canada or Mexico.
  2. Your parent did not file a joint income tax return with anyone else.
  3. You provided over half of his or her support.
  4. Your parent had gross income of less than $3,650 for the entire year (in 2010).
Since the taxable portion of Social Security payments are included in the parent’s income, the $3,650 gross income limit prevents many children from claiming the exemption for a parent they are supporting. 

Another issue may arise when a parent is receiving support from several children none of which have provided over half the support. A parent cannot be claimed as a dependent by more than one child. But, if several children combine to provide more than half of the parent’s support, they can agree on which sibling is going to get to claim the exemption.  The children do this through a multiple support agreement. Under this agreement two or more persons whose combined support exceeds 50% and each of whom would be allowed to take the exemption but for the 50% support test can agree that any one of them who individually provides more than 10% of the support can claim the exemption.  

Here is an example from IRS Publication 501

“You, your sister, and your two brothers provide the entire support of your mother for the year. You provide 45%, your sister 35%, and your two brothers each provide 10%. Either you or your sister can claim an exemption for your mother. The other must sign a statement agreeing not to take an exemption. The one who claims the exemption must attach Form 2120, or a similar declaration, to his or her return and must keep the statement signed by the other for his or her records. Because neither brother provides more than 10% of the support, neither can take the exemption and neither has to sign a statement.”

For more information on the dependency exemption, see IRS Publication 501: Exemptions, Standard Deductions and Filing Information. Publication 501 includes a worksheet you can use to figure out whether you have provided more than half of your parent’s support.   


Deducting your Parent’s Medical Expenses

Don’t be discouraged if your parent has income in excess of $3,650 and you can’t claim an exemption from them.  The exemption break is relatively insignificant in any event – it is worth only $3,650 times your marginal tax rate at best (e.g. $3,650 x .28 = $1,022).[1]  A much more valuable tax break may await – the potential for the caregiver child to deduct the medical and qualified long term care expenses paid for the parent. Fortunately, the medical expense dependency/deduction rules are easier to meet than those for claiming a dependency exemption because you can deduct medical expenses even if your parent has income in excess of $3,650. 

Section 213 of the Internal Revenue Code allows for the deduction of medical expenses paid by a taxpayer for himself, spouse, and dependents to the extent that the expenses exceed 7.5% of the taxpayer’s adjusted gross income.  For you to include your parent’s medical expenses on Schedule A of your tax return your parent must have been your dependent either at the time the medical services were provided or at the time you paid the expenses. (You can deduct the expenses in the year you pay them, even if your parent is now deceased). You can include any deductible medical expenses you paid for a parent who would have been your dependent except that:
1.     He or she received gross income of $3,650 or more in 2010,
2.     He or she filed a joint return for 2010, or
3.     You, or your spouse if filing jointly, could be claimed as a dependent on someone else’s 2010 return.

To deduct the medical expenses you pay for your parent you must provide more than half of his or her support for the year.  However, you will be considered to have provided more than half of your parent’s support if you and your siblings combined to provide that level of support and entered into a multiple support agreement.  Any medical expenses paid by others who joined you in the agreement cannot be included as medical expenses by anyone. However, you can include the entire un­reimbursed amount you paid for medical expenses. Here is an example from IRS Publication 502:  
“You and your three brothers each provide one-fourth of your mother’s total support. Under a multiple support agreement, you treat your mother as your depen­dent. You paid all of her medical expenses. Your brothers repaid you for three-fourths of these expenses. In figuring your medical expense deduction, you can include only one-fourth of your mother’s medical expenses. Your broth­ers cannot include any part of the expenses. However, if you and your brothers share the nonmedical support items and you separately pay all of your mother’s medical ex­penses, you can include the unreimbursed amount you paid for her medical expenses in your medical expense.”
Amounts paid for qualified long-term care services are deductible as medical expenses under Tax Code Section 7702B. Qualified long-term care services are necessary diagnos­tic, preventive, therapeutic, curing, treating, mitigating, re­habilitative services, and maintenance and personal care services (defined later) that are:
Required by a chronically ill individual, and
Provided pursuant to a plan of care prescribed by a licensed health care practitioner.

An individual is “chronically ill” if, within the previous 12 months, a licensed health care practitioner has certified that the individual meets either of the following descriptions.
(1) He or she is unable to perform at least two activities of daily living without substantial assistance from an­other individual for at least 90 days, due to a loss of functional capacity. Activities of daily living are eat­ing, toileting, transferring, bathing, dressing, and con­tinence. OR
(2) He or she requires substantial supervision to be pro­tected from threats to health and safety due to se­vere cognitive impairment.

“Mainte­nance or personal care services” is care which has as its primary purpose the providing of a chronically ill individual with needed assistance with his or her disabilities (includ­ing protection from threats to health and safety due to severe cognitive impairment). Don’t forget to get the annual certification by a licensed health care practitioner if you (or your parent) intend to claim a medical expense deduction for qualified long-term care services.   A “licensed health care practitioner” includes any physician and any registered professional nurse or licensed social worker.

A recent US tax court case confirms the deductibility of caregiver expenses, even though the caregivers were not medical professionals. In Estate of Lillian Baral (U.S. Tax Ct., No. 3618-10, July 5, 2011), Lillian Baral suffered from dementia and her doctor recommended that she get 24-hour-a-day care. Her brother hired personal caregivers to assist her. The Tax Court agreed that the payments to the caregivers were deductible medical expenses, even though the caregivers were not medical personnel, because a doctor had found that the services provided to Ms. Baral were necessary. 

Given the high cost of long term care, whether at home or in an institution, the tax savings from the medical expense deduction may substantially reduce or even eliminate a child’s income tax liability. With planning, the deduction can be maximized. It is a shame that this tax break is so often overlooked.

Getting Paid for Caregiving Services

Most long-term care services are provided by family members. A parent may want to reward a caregiver child for otherwise uncompensated services. One way to achieve this is for the parent to make either a lifetime a testamentary gift to the caregiver child. 

Compensating a child for services via “gift” can raise some interesting income tax issues – (see United States v. Dieter, 2003-1 U.S.T.C. ¶ 50,439 (D.Minn. 2003)) which are beyond the scope of this article. In addition, the restrictions in Medicaid laws make it difficult to thank the child by using a gift because gifts can create an ineligibility period.  As a result, families have begun to use employment-based compensation to pay a child for personal care services rendered to a parent. This can be accomplished through the use of a Family Caregiver contract which an agreement under which a child agrees to provide personal care services to the parent for reasonable compensation. 

The term of the contract may be for the duration of the elder’s life but is typically for a shorter duration or at-will basis. The contract may be funded through use of the income and assets of the elder prior to asset exhaustion and Medicaid application. 

Payment of funds under a proper personal care agreement avoids Medicaid’s asset transfer restrictions because the elder is receiving fair market value—personal care services or the promise to be provided with care. Depending upon the amount of compensation there may be no uncompensated transfer and no period of ineligibility for Medicaid. On the downside, the benefit passed along to the child is reduced to the extent of the taxes that must be paid on the compensation. 

Family caregiving contracts raise numerous issues and need to be drafted with expert advice. As with gifts from the parent, issues related to competency and undue influence abound especially if the compensated child is not the sole heir of the parent. In terms of later eligibility for Medicaid, method of payment is a often disputed element of the care contract. The parties may choose lump sum, hourly fee-for-service, or some other form of payment. The lump sum offers the potential to retain assets within the family and is thus the most likely to be contested by the state Medicaid agency.  A major problem with hourly “pay as you go” contracts is that the funds of the person in need of care may eventually be exhausted in paying for other supplemental services. In addition, the retention of resources can delay eligibility for needed Medicaid services.

A care contract is an employment contract. The employer and employee must comply with federal, state, and local laws, regulations, and ordinances regarding household employees. These include income, Social Security, Medicare, and unemployment taxes and workers’ compensation. Withholding may be required for some of these. 

The employer parent and caregiver child should seek assistance from a qualified tax advisor to set up and maintain proper bookkeeping and to ensure that all required payments are made. These records will also help justify the expenditures and avoid transfer penalties.

While the child must pay tax on the compensation he or she receives from the parent, the cost of the personal care services may in some cases be deductible by the payer as a medical expense for qualified long-term care services. Since it is the parent who is paying the expense, any qualified medical expense deduction belongs to the parent and can be used to reduce the parent’s taxable income. However, a limitation applies to services provided by family caregivers. Payments for “qualified long-term care services” are not deductible if the person who was paid is the spouse or any relative of the person who is receiving the care in question. Thus payments to family caregivers do not generally provide any income tax deduction for the payer. There is an exception, however, if the family caregiver is a “licensed professional with respect to such service.”  See Internal Revenue Code Section 213(d)(11)(A)

Proper documentation is required for both tax and Medicaid qualification purposes. The parent should keep cancelled checks written to the caregiver child, together with an itemized statement, log, or invoice from the caregiver showing the date(s) or hour(s) worked. A doctor’s note describing the need for assistance from the caregivers might also be helpful.

Training and Support
Being a caregiver is stressful and physically demanding. The caregiver is at risk of injury. Knowing the right way to lift or transfer an individual can greatly reduce the dangers. Making arrangements for backup support and respite is critically important. Caregiving can be improved, and its dangers reduced through proper support and training. Families should consider obtaining training, assistance, and support from community resources including private duty nursing agencies and licensed therapists. Training caregivers can be an allowable Medicare Home Health skilled service.[2]

Hiring Family Members through Government Programs
A few government funded programs may allow for compensation of family members for personal assistance services provided to a consumer. The rules vary depending on the program. A child can contact his parent’s area agency on aging or state Medicaid agency or a certified elder law attorney to determine if any programs might be applicable.


Conclusion: Getting Paid for Caregiving Services

This article discusses three of the hidden financial breaks that may be available to the child who is caring for an aging parent.  To explore these and other possibilities, families should consult with an experienced elder law attorney.  Certification programs for elder law attorneys are recognized in many states and offer a means of ensuring you that your lawyer is a specialist in elder care matters. Families can locate a certified elder law attorney through the website of the National Elder Law Foundation

*Jeffrey A. Marshall is Certified as an Elder Law Attorney by the National Elder Law Foundation. This article is copyright 2010-2011 by Jeffrey A. Marshall, who is founding attorney of Marshall, Parker and Associates. It may be duplicated and distributed provided no changes are made to its content and full attribution is given to Jeffrey A. Marshall.  Short quotations from this article are also permitted with such attribution. This general information is not intended as and should not be relied upon as legal advice. Its dissemination does not create any attorney/client relationship. Its author is licensed to practice law in the Commonwealth of Pennsylvania. For specific advice about your particular situation, consult a lawyer who is licensed to practice in your jurisdiction. Pursuant to IRS regulations, any tax advice contained in this communication is not intended to be used and cannot be used for purposes of avoiding penalties imposed by the Internal Revenue Code or promoting, marketing, or recommending to another person any tax related matter. 

[1] A single child who is caring for a parent may also want to consider whether the child can qualify for more favorable tax rates as “head of household” under IRC 2(b).

Additional Resources:
Anne Tergesen, Should You Pay a Relative to Take Care of Mom?, W.S.J., Dec. 11, 2010.
Joseph Matthews, How to Get Paid for Being a Family Caregiver, AARP Caregiving Resource Center 

No comments: