The acronym HEMS is commonly used in estate planning. HEMS, which stands for “health, education, maintenance, or support”, is frequently included in trust agreements to guide a trustee on the types of distributions they may make to a trust beneficiary. When a trustee is limited to distributions for HEMS, often called an ascertainable standard, they must ensure that whatever they distribute to the beneficiaries falls within one of the four categories. Any other distribution can result in a variety of negative results, including tax consequences and loss of asset protection.
Why Use the HEMS Standard in Trusts?
Tax Purposes
The HEMS standard is an Internal Revenue Service safe harbor rule. When used properly, it can prevent the property in the trust from being subject to estate taxes at the death of the beneficiary or the trustmaker. If a trust beneficiary is also the trustee, the HEMS standard prevents the value of the accounts and property in the trust from being included in the beneficiary’s gross estate for federal estate tax purposes. Likewise, if a trustmaker has created a trust to transfer accounts and property out of their taxable estate but also wants to act as a trustee to make distributions to the other trust beneficiaries, the HEMS standard, if included, prevents the trust’s property from being included in the trustmaker’s taxable estate.
Asset Protection
The HEMS standard can also be an effective method for building important asset protection features into a trust. When combined with a spendthrift provision, it can prevent a beneficiary’s creditors from obtaining trust property if a lawsuit is filed and a judgment is obtained against the beneficiary. By legally limiting the purposes for which the trustee can make distributions to the beneficiary, the judgment creditor is not able to reach the trust assets.
For example, if a beneficiary were being sued and the opposing party demanded that the trustee or beneficiary use trust property to pay the lawsuit judgment, the beneficiary and the trustee could both truthfully refuse because the trust clearly does not allow distributions for that purpose. A trustee would have a very hard time trying to include payments to a beneficiary’s creditors in the standard of allowable distributions for the beneficiary’s “health, education, maintenance, or support.” Because the trustee has a fiduciary responsibility to the trust beneficiary and not to the beneficiary’s creditors, the HEMS standard becomes a very effective tool to prevent lawsuit plaintiffs and creditors from reaching the trust property, even in situations where the trustee and the beneficiary are the same person.
Practical Application of HEMS
So what kind of distributions fit within the HEMS standard? There is no clear bright-line definition of what fits and what does not. As a result, a trustee has some discretion in determining what is in the beneficiary’s best interest. The following are some examples of the types of expenses that the HEMS standards might include:
Health
- healthcare, dental, vision insurance premiums
- regular healthcare checkups and exams
- emergency and regular medical treatment
- home healthcare or long-term care expenses
- gym, spa, golf club memberships
- exercise equipment
- healthcare supplements
- eye care, glasses, contact lenses, vision correction surgery
- mental health counseling
- psychiatric treatments
- substance abuse rehabilitation programs
- health-related home improvements or renovations
- handicap-related transport and mobility services and items
- allergen cleaning services
- cosmetic surgeries
- alternative medical treatments (e.g., acupuncture, massage therapy, etc.)
- extended vacations or retreats to improve mental health
Education
- tuition for all levels of public or private schools
- uniforms and school clothes
- daycare for dependents to allow a parent time to attend classes and study
- graduate or professional degrees including medical school, law school, etc.
- school-related expenses including room, board, books, computer, etc.
- private tutoring
- study-abroad programs and related travel expenses
- a beneficiary’s support between semesters or during unpaid internships
- extracurricular-activity related expenses
- graduation costs, proms, class rings, announcements, robes, etc.
- career training
Maintenance and Support
- rent or mortgage payments
- down payment on a home
- insurance premiums including life, auto, disability, or homeowner’s policies
- vehicles and related repairs and maintenance
- home repair and maintenance
- property taxes
- living expenses and support for a beneficiary engaged in charitable work or low-income vocations that provide social and community benefits
- charitable contributions
- continuation of family gifting for birthdays, weddings, holidays, baby showers, etc.
- legal fees
- supporting family members
- continuation of typical and periodic vacations
- seed money to start a business
The examples above are only some of the expenses that can commonly be justified under the HEMS standard. A trustee must exercise good judgment when making distributions to demonstrate to potential lawsuit plaintiffs, judges, and the IRS that the HEMS standard is in fact preventing the beneficiary from having complete control over the trust property.
For example, if the trustee distributes enough money for the beneficiary to purchase and drive a Ferrari when the beneficiary normally drives a Toyota, or to take a six-month vacation to Tahiti each year instead of the typical one week at Disney World that the beneficiary and their family are accustomed to, the trustee may be putting the trust’s tax and asset protection properties at risk by disregarding its terms.
The HEMS standard is widely used in drafting trusts for good reason. Used properly, not only can it be a powerful and effective tool to reduce the risk of unnecessary taxation at each generation as wealth passes through the family, but it can also protect trust property from people who should not have access to it, such as creditors, divorcing spouses, and predators. We can help you determine if such standards would be appropriate for your circumstances and help to prepare a trust that properly includes them. We can also advise you if you have questions about what qualifies as an appropriate distribution under the HEMS standard in a trust that you currently have. Call our office or use the online scheduling link to arrange a meeting today.