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If you own property or real estate, you may consider passing it to your heirs after your death. However, you may not want to give up any of your rights to the property during your lifetime. Creating a life estate that conveys life tenant status to you is one possible solution. The rights of life tenants include the ability to use a property and collect any rent payments generated by it during their lifetime.
A financial advisor can help you create an estate plan for your family’s needs and goals.
What Is a Life Estate?
A life estate is a legal arrangement in which the holder retains an interest in a piece of property during their lifetime. They then transfer it to someone else when they pass away.
Life estates can be created by deed. A life estate deed names the life tenant and the beneficiary or beneficiaries of the property.
Benefits of a Life Estate
So why would someone create a life estate? One of the chief advantages is that it allows heirs to avoid the probate process for estate assets.
Probate is a three-part legal process in which an executor:
- Inventories a deceased person’s assets
- Pays their outstanding debts
- Distributes the remaining assets to their heirs
This distribution can occur under the terms of a last will and testament or under state inheritance laws if the person dies without a will.
Probate can be costly and time-consuming for everyone involved. When you create a life estate, probate is not necessary for the distribution of assets.
Life estates can be used for Medicaid planning, as assets in a life estate do not count as financial resources for Medicaid eligibility.
A life estate can also help heirs avoid capital gains tax. There is always the chance that your heirs will want to sell the inherited property, and your life estate can reduce or eliminate that tax liability.
What Is a Life Tenant?
A life tenant is someone with a lifetime interest in a life estate and its underlying assets.
If you create a life estate, you can name yourself as a life tenant. This is something you may consider doing if you want to leave your home to your adult child, for example. You also have the option to name someone else as a life tenant for the property you own.
Life tenancy lasts for the duration of your natural life if you’re the life tenant. If you’ve named someone else as a life tenant, the duration is their lifetime instead. The person who stands to inherit the property after your death is a remainderman.
However, while the life tenant is alive, they share ownership of the property with the remainderman.
Rights of Life Tenants
Life tenancy conveys certain rights which cannot be infringed upon.
Specifically, a life tenant has the right to:
- Occupy property included in the life estate during their lifetime
- Enjoy use of the property, even if they don’t live in it full-time
- Collect rent from properties included in a life estate
- Collect royalties associated with leases for gas, oil or mineral rights
So, for example, say you want to leave your home to your adult son. You could set up a life estate with yourself as the life tenant and your son as the remainderman.
As long as you’re living, you can live in the home and enjoy its use. Your son cannot evict you. If you move into long-term nursing care and rent the home, you have the right to collect the rental income that the property generates.
If you own a property with gas, oil and mineral right leases in place prior to the creation of the life estate, you are still entitled to receive those royalty payments. After the life estate is created, any new leases must be agreed to and signed by both you and your remainderman.
There are, however, some things that a life tenant cannot do without the consent of the remainderman. As a life tenant, you cannot:
- Sell the property
- Transfer the property
- Obtain a mortgage against the property
For example, say you set up a life estate and put your home in it. Later, you decide you want to take out a home equity loan to make improvements. You will not be able to do that given your life estate.
You may also run into issues if you’re hoping to take out a reverse mortgage to create an additional stream of income in retirement. Life estates are irrevocable. This means once you create one, you cannot revoke or reverse it.
Life Tenant Responsibilities
Along with understanding the rights of life tenants, it’s also important to understand the responsibilities of being a life tenant.
As a life tenant, you’re responsible for:
- Maintaining homeowner’s insurance and paying premiums
- Paying property taxes and homeowner’s association fees for the home
- Keeping up with maintenance and making necessary repairs
While you might ask the remainderman for their help with these costs, they have no obligation to pay anything toward them.
There is one upside, however. The rights of life tenants extend to claiming tax breaks related to homeownership. So if you have a mortgage on the property, for example, you could still claim the mortgage interest deduction if you itemize.
You could also claim deductions for state and local taxes, including property tax.
Is a Life Estate Right for You?
Creating a life estate could offer some protection if you want to leave real estate to your heirs while still retaining use of it during your lifetime.
The rights of life tenants are broad enough to give you some leeway in what you can do with the property, including collecting rental income. You still get the tax benefits of homeownership.
On the other hand, a life estate can be problematic if there’s a possibility you’ll want to sell the home at some point or borrow against your equity. If you need to move into a long-term care facility, for instance, you may need cash to cover those costs. Selling the home may be the best option if you don’t have a long-term care insurance policy and don’t qualify for Medicaid.
You cannot do that, however, without the remainderman’s consent. If the person who stands to inherit the property from you is unwilling to part with it, it can create financial difficulties, in addition to putting a strain on your relationship.
Talking to an estate planning attorney or financial advisor can help you get a better understanding of life tenant rights and how a life estate works. They may also offer alternatives to a life estate in order to avoid the potential downsides of becoming a life tenant.
How a Life Estate Affects Capital Gains Tax for Your Heirs
One of the strongest financial reasons to create a life estate rather than gift property outright is the effect on the tax basis when the life tenant dies.
If you simply add your child to the deed or gift the property to them while you are alive, they receive your original purchase price as their basis. A home you bought for $110,000 thirty years ago, now worth $500,000, would give your child a $110,000 basis.
If they sell the property after you die, the IRS would calculate the taxable gain from that $110,000 starting point, producing a $390,000 gain. At a 15% federal capital gains rate, that is roughly $58,500 in tax.
A life estate avoids this problem. When the life tenant dies, the remainderman’s basis resets to the property’s value on that date. If the home was worth $500,000 at the time of the life tenant’s death, the remainderman’s basis becomes $500,000.
Selling the property at that price produces no taxable gain. The entire appreciation that accumulated during the life tenant’s ownership passes to the heir free of capital gains tax.
This basis reset is the same benefit that applies to property inherited through a will or a revocable trust. But unlike those options, a life estate also removes the property from the probate process entirely. This means the heir gets both the tax benefit and a faster, less costly transfer of ownership.
The Medicaid Look-Back Period and Why Timing Matters
While assets in a life estate don’t count toward Medicaid eligibility, there is a critical time restriction that requires you plan ahead.
Medicaid imposes a five-year look-back period on asset transfers. When you apply for Medicaid to cover long-term care costs, the agency reviews your every transfer for the five years before your application date. Creating a life estate counts as a transfer because you are giving away the remainder interest in the property to the person who will eventually receive it.
If the life estate is less than five years before you apply for Medicaid, the agency will calculate a penalty period based on the value of the transferred interest. You will have to cover care costs independently for the duration of that penalty, regardless of whether you meet every other Medicaid requirement. The penalty can last for months or longer, depending on the property’s value and your state’s Medicaid rules.
This means timing is everything. A life estate you create six or seven years before needing Medicaid is fully protected. One created three years before you apply could leave you in a gap. You will have given away ownership rights to the property, but you cannot get Medicaid to pay for your care.
If long-term care planning is your reason for considering a life estate, the five-year clock should start as early as possible.
How a Life Estate Compares to Other Ways of Passing Property
A life estate is not the only way to transfer property to your heirs while retaining some use of it during your lifetime. Several other tools accomplish similar goals with different trade-offs.
Revocable Living Trust
A revocable trust avoids probate and preserves the basis reset at death while giving you full control over the property during your lifetime. This includes the ability to sell it, refinance it or change beneficiaries at any time.
Unlike a life estate, a revocable trust is not irrevocable, so you are not locked in. The downside is that assets in a revocable trust still count for Medicaid eligibility because you retain control.
If Medicaid planning is your primary goal, a revocable trust does not help.
Transfer-on-Death Deed
Many states allow property owners to file a transfer-on-death (TOD) deed that names the beneficiary who receives the property when the owner dies. The property skips probate, and the beneficiary receives the basis reset.
What makes this different from a life estate is that nothing changes while you are alive. You still own the property outright and can sell it whenever you want. You can also tear up the TOD deed and name a different beneficiary if your plans change. The flexibility is the main advantage.
The limitation is the same as a revocable trust. Because you never gave up ownership, the property still counts toward your assets if you apply for Medicaid.
Outright Gift
Giving the property to your child during your lifetime is the simplest approach. However, it also costs the most in taxes.
The recipient takes your original purchase price as their basis, potentially producing a large capital gains bill when they sell. You also lose all rights to the property after making the gift.
An outright gift does remove the asset from your estate for Medicaid purposes, but the five-year look-back period still applies.
Irrevocable Trust
An irrevocable trust removes the property from your estate. It can then protect it from Medicaid claims if created more than five years before you apply.
However, you give up control entirely. The trustee manages the property according to the terms you create when you set up the trust. Those terms generally cannot be changed.
The basis treatment depends on the type of irrevocable trust, but in many cases, the property doesn’t receive a basis reset at death. This can create a tax liability for the beneficiaries.
A life estate falls somewhere in between these options. It avoids probate, preserves the basis reset, removes the property from Medicaid countable assets after five years and lets you continue living in and using the property.
The trade-off is that it is irrevocable. Once it is in place, you cannot sell the property, borrow against it or change the remainderman without their consent.
5 Ways a Financial Advisor Can Help With Life Estate Decisions
A financial advisor can help you evaluate whether a life estate is the right tool for your situation. They can ensure it aligns with your broader estate and tax plan.
These are five ways an advisor can help.
1. Compare the Tax Cost of a Life Estate to Other Transfer Methods
An advisor can calculate the capital gains on all your options to show you which strategy produces the lowest tax bill for your heirs.
Example:
A client owns a home purchased for $130,000 that is now worth $480,000.
The advisor compares the heir’s tax liability under a life estate (basis resets at death; no capital gains if sold at current value) versus an outright gift (basis stays at $130,000, resulting in a $350,000 taxable gain). The life estate saves the heir roughly $52,500 in federal capital gains tax.
The client creates the life estate.
2. Make Sure the Medicaid Timeline Works
An advisor can calculate whether you have enough time for the five-year look-back period to clear before you are likely to need long-term care. They can recommend an alternative if the timing is too tight.
Example:
A 78-year-old client with early signs of cognitive decline wants to create a life estate to protect her home from Medicaid. The advisor explains that if she needs nursing home care within the next five years, the life estate transfer will trigger a Medicaid penalty period.
Given her health trajectory, the advisor recommends consulting an elder law attorney about other Medicaid planning strategies that may be more appropriate given the limited time horizon.
3. Evaluate Whether You Might Need to Sell the Property Later
An advisor can assess your financial situation and help you determine whether giving up the right to sell or borrow against the property could create a problem down the road.
Example:
A 70-year-old client wants to create a life estate on her home but has limited retirement savings. The advisor points out that if she eventually needs to move into assisted living, selling the home may be the only way to fund the cost.
Because a life estate would prevent her from selling without the remainderman’s consent, the advisor recommends a revocable trust instead. This avoids probate, preserves the basis reset and keeps the option to sell open.
4. Structure the Life Estate to Fit Your Full Estate Plan
An advisor can make sure the life estate does not conflict with your will or other beneficiary designations. They will also ensure it does not alter the division of the rest of your assets among your heirs.
Example:
A client with three children creates a life estate naming only one child as the remainderman on the family home. The home is worth $400,000 and represents the largest asset in the estate.
The advisor flags that the will divides everything equally among the three children, but the life estate overrides the will for the home. The advisor works with the client and an estate attorney to rebalance the plan so the other two children receive equivalent value from remaining assets.
5. Work With an Elder Law Attorney on Medicaid and Legal Requirements
An advisor can collaborate with your attorney to ensure the life estate is structured correctly for both tax and Medicaid purposes. They will also confirm that the deed has been properly drafted and recorded in your state.
Example:
A couple wants to create life estates on two properties: their primary home and a rental property.
The advisor works with the elder law attorney to confirm that both properties qualify for the basis reset at death in their state. They will also confirm that the county records the life estate deeds and that the transfers account for the five-year Medicaid look-back period will clear well before either spouse is likely to need care.
Bottom Line
Life tenant rights can offer certain protections to you if you decide to leave your home or other real estate you own to someone else. You may also find a life estate helpful for Medicaid planning if you think you might need long-term care and aren’t sure how you’ll pay for it.
Estate Planning Tips
- Consider talking to a financial advisor about the rights of a life tenant and how they may apply to you if you decide to set up a life estate. If you don’t have a financial advisor yet, finding one doesn’t have to be difficult. SmartAsset’s free tool matches you with vetted financial advisors who serve your area, and you can interview your advisor matches at no cost to decide which one is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, begin now.
- Aside from a life estate, there are tools you might use for estate planning. A will, for example, allows you to specify how you’d like your assets to be distributed after you pass away. You may also create a living trust to manage assets that you don’t want to include in a wall.
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