Many times over the years, as we work on their estate planning, my senior clients have told me that they gave a substantial sum to one of their children to help them with a specific need. Perhaps it was to pay off debt, or buy a house, or start a business, or pay for college expenses for their own children. Whatever the reason, an important legal question comes up: “Was this a gift or a loan?”
A gift is a unilateral transfer of assets from one person to another made for “no consideration,” meaning, with no expectation of repayment and no obligations placed on the receiving party to return something of equivalent value. (By the way, “selling the house for a dollar” is a gift). A loan on the other hand is a 2-party transaction, in which one party gives money to the other in exchange for a mutually-understood obligation to repay. It’s a contract. There must be a “meeting of the minds” on all of the terms.
Why does it matter? The parent may feel that they want to treat their children individually during lifetime and help them as needed, even if that means giving one child more than the other. That same parent may plan to leave her estate equally to all of the children. I always ask, was this transaction a loan to be repaid during your lifetime? Did your child sign a promissory Note? If so, the child has a debt on their “balance sheet,” and you have an asset (the Note). Do you expect to be repaid during your lifetime? Did the child make some agreement with you to repay, even if it wasn’t put in writing? Is the child in the process of repaying you? If the loan is unpaid at your death, the estate will be the holder of the Note. Do you expect the child to repay the estate? Or do you want to forgive the indebtedness? Do you want to adjust the distributions in the Will to take into account the money you previously lent?
There has been plenty of litigation in estates, where money was advanced by the deceased to one child, but the others believe the money was intended as a loan and not an unconditional gift, and they want the recipient to repay the estate or take less of an inheritance. In the absence of a writing that confirms the loan, these can be real uphill battles. In the Medicaid context, there are different consequences — gifts made during the 5-year look-back may cause disqualification, whereas loans would not, but the Note might be a “resource” and the loan repayments might be “income.”
These loving family transactions can have serious legal ramifications. Sometimes the simple, unwritten agreement can cause more problems for you later than a written arrangement made with legal advice. In planning for a good old age, be sure to think it all through.
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