Transfer of Assets

Under prior law, any uncompensated transfer of "resources" (gifts) within 30 months of applying for Medicaid (known as the "look-back period"), which were not "exempt transfers" triggered a Medicaid transfer penalty making the individual ineligible for nursing home Medicaid benefits for a certain number of months. The number of months was calculated by dividing the value of the transfer by the average cost of care (defined to be the cost of care provided to a private patient for nursing facility services in the region in which such individual was institutionalized, presumed to be 120% of the average Medicaid rate), up to a maximum of 30 months.

OBRA '93 and New York's Budget Bill altered this in various ways. First, the numerator of the transfer penalty, "resources," has been replaced with the term "assets." This broadens the transfer penalty because the term "assets" includes not only resources, but also income. It also includes any income or resource which the individual or individual's spouse was entitled to but did not receive because of action by the individual or such individual's spouse, by a person including a court or administrative body with legal authority to act in place of or on behalf of the individual or such individual's spouse, or by any person including any court or administrative body acting at the direction or upon the request of the individual or individual's spouse. The effect of this change may be quite broad.

For example, if an individual who is entitled to an inheritance chooses to renounce it, the inheritance typically will pass to the individual's children. Under the old law this did not trigger a Medicaid transfer penalty. Under the new law, because this could be viewed as an action by the individual, a transfer penalty may be triggered.

The second change made by the new law was the removal of the 30-month cap on the transfer penalty, making the penalty itself unlimited. However, the new law also establishes a new look-back period which provides an opportunity for effective planning. The new look-back period is 36 months, or in the case of payments from a trust 60 months, prior to the date a person is institutionalized and applies for Medicaid. If the Medicaid application is filed after this look-back period has concluded, the combined effect of these two amendments will be to limit the transfer penalty to 36 or 60 months, as the case may be.

A third, and more positive, change in the new law is an expanded list of exempt transfers. As under the prior law, certain exempt transfers, such as transfers between spouses, do not trigger a transfer penalty. The list of exempt transfers now includes transfers of assets to or from a spouse to another for the sole benefit of the spouse, as well as transfers to certain trusts (as explained later) for disabled individuals.

The new law provides that when all assets transferred have been returned to the transferor, the original transfer penalty is erased. It is still unclear as to what "all assets" means. For example, if there were several transfers over several years, do all the assets have to be returned or just all the assets from a particular transfer?

OBRA '93 gave the states authority to apply the transfer penalty to Medicaid applicants who are not institutionalized. New York lawmakers chose not to exercise this power. Therefore, in the case of an individual who is receiving traditional Medicaid for home care, the transfer penalty still does not apply.

Jointly Held Assets

The treatment of joint accounts under prior law created a great deal of litigation. For example, assume More and Son open a joint account using Mom's money. Upon creation of the joint bank account, did More make a gift of part of the account to Son, or did More intend this account to be merely a convenience? If it was a gift, there would be a transfer penalty; if it was a convenience account, the funds would be counted as an available resource to Mom.

The new law seems to have resolved this by requiring that assets held by an individual with another person in joint tenancy, as tenants in common, or similar arrangement, or the affected portion of such asset, shall be considered to be transferred when any action is taken that reduces or eliminates such individual's ownership or control of such asset. Applying this to our example, it would appear that a transfer penalty would not be assessed until the money is withdrawn by Son. However, it is not clear how key terms such as "action" and "reduces or eliminates" will de defined.

Medicaid Recovery

The new law mandates adjustment or recovery of any medical assistance paid in the following situations:

1. If an individual owns real property and is an in-patient of a skilled nursing facility, the state is required to seek adjustment or recovery from the individual's estate or upon sale of the property.

2. When an individual is 55 or older when receiving medical assistance, the state must seek to recover from the individual's estate. (Under prior law the age was 65.)

OBRA '93 permitted states to redefine the term "estate" to include not only property subject to probate, but also any assets in which the individual had any legal title or interest at the tithe of death (to the extent of such interest), including such assets conveyed to a survivor, heir, or assignee of the deceased individual through joint tenancy, tenancy in common, survivorship, life estate, living trusts, or other arrangements.

New York elected not to expand the definition of an estate. An estate in New York is defined to include only the assets passing under the terms of a valid will or by intestacy.

This, as in the past, provides some very powerful planning opportunities simply by ensuring, via trust or some other arrangement, that an estate avoids probate.

The most common opportunity for this planning involves married couples, one of whom needs nursing home care. The law permits the transfer, without penalty, of all the assets to the well spouse. Should the well spouse refuse to provide financial support to the ill spouse, Medicaid is required to pay for the ill spouse's care. The local Department of Social Services, however, will have the right to recover from the well spouse, if of sufficient means, while alive, or from her probate estate upon her death. If the spouse should die without a probate estate, all assets being in a trust, the Department's ability to recover would be eliminated. To say this exhausts the Department's remedies would be misleading, however. For example, issues involving a surviving spouse's "right of election" must also be addressed.

Effective Dates

The new law takes effect with respect to transfers made after August 10, 1993, and applications filed on or after September 1, 1994. The recovery rules take effect for payments made, and for persons who die on or after October 10, 1993.

Self-Settled Trusts

The new law, with some exceptions, codifies the treatment of self- settled trusts to the extent they are funded with an individual Medicaid applicant's assets. An individual is defined as an individual, the individual's spouse, a person with legal authority to act in place of or on behalf of the individual or the individual's spouse, or a person acting at the direction or request of the individual of the individual's spouse. The new rules apply without regard to the purpose for which the trust is established, whether the trustees have any discretion under the trust, any restrictions on when or whether distributions may be made from the trust, or any restrictions on the use or distribution from the trust.

The new law distinguishes between revocable trusts and irrevocable trusts. A revocable trust is one in which the settlor can take their property back and thereby revoke the transfer. An irrevocable trust is one in which the settlor generally cannot take the property back.

The corpus or principal of a revocable trust is considered an available asset and any payments made to or for the benefit of the individual are considered income. Any other payments from the trust will be viewed as transfers triggering the Medicaid transfer penalty and could be subject to a 60-month look-back period, effectively denying Medicaid benefits for five years.

The new rules promulgated under OBRA '93 regarding irrevocable trusts were indecipherable. Based upon a written response by the federal Health Care Financing Agency (HCFA) and the wording of the New York statute, however, it seems clear now that to the extent that the income or corpus is available to the applicant/recipient it will be deemed an available resource. Therefore, the typical irrevocable trust permitting the grantor to receive income from the trust is still a viable planning tool, subject to the potential 60-month look-back period.

One interesting difference between OBRA '93 and New York's implementing legislation is that OBRA '93 defined a trust to include any legal instrument or device that is similar to a trust, including an annuity to the extent specified in regulations. This language does not appear in the New York statute.

Types of Trusts

Two types of trusts merit particular attention in Medicaid planning. These are generally referred to as "supplemental needs trusts" and "pooled income trusts."

Supplemental needs trusts contain the assets of a disabled individual and are: a) established while the individual is under 65-years old; b) established by a parent, grandparent, legal guardian, or court of competent jurisdiction; c) permit, to the extent there are amounts remaining in the trust upon the death of the individual, the state to be reimbursed for any medical expense paid on behalf of such individual.

Pooled income trusts contain the assets of a disabled individual and are a) established and maintained by a nonprofit association which maintains separate accounts for the benefit of the disabled individual, but, for purposes of investment and management of trust funds, pools the accounts, provided that accounts in the trust fund are established solely for the benefit of individuals who are disabled; b) funded by such disabled individual, parent, grandparent, legal guardian, or court of competent jurisdiction; c) to the extent that amounts remaining in the individual's account are not retained by the trust upon the death of the individual, the state is entitled to be reimbursed for medical expenses paid on the individual's behalf.

These two types of trusts differ in two important ways, both favoring the pooled income trust. First, only funds which are not retained by the nonprofit organization in the pooled income are required to be paid to the state upon the disabled beneficiary's death. Second, the disabled individual is not listed as a permissible creator of or transferor to the supplemental needs trust, but is permitted to fund the pooled income trust.

These trusts are extremely important when dealing with personal injury suits for disabled individuals. For example, a state Supreme Court in Nassau County recently permitted a disabled individual to place a recovery into a pooled income trust, even though Medicaid had an outstanding lien against the individual's property. This permitted the disabled individual to use funds from the recovery while alive, while deferring the state's repayment until the individual's death. Priority of this nature is not addressed in the statute, but must be resolved in this fashion in order to permit the disabled individual to gain any benefit from a recovery and these trusts.

An irrevocable trust permits an individual to make assets unavailable for Medicaid purposes while at the same time preventing a taxable event and loss of complete control over the property. There are alternatives to the irrevocable trust, such as outright transfers, or a transfer retaining the right to use property for life, (i.e., life estate). In some contexts these tools are appropriate. But the irrevocable trust, if drifted properly, gives the client the greatest degree of independence, control, and dignity while preserving other benefits. Why?

Example

Let's assume a couple has a home worth $150,000 with a basis of $25,000, and a transfer of the home outright or into a trust is being considered. If the house is transferred outright to the children, the Medicaid clock starts running, subject to a maximum penalty of 36 months, and the house will not be subject to any kind of recovery by Medicaid. The parents, however, have no control over the home; the children's creditors can reach the home; the children are now liable for all expenses, debts, and liabilities associated with the home; and significant tax benefits have been given up.

Probably the biggest problem with this approach is that a completed gift has been made for tax purposes. A New York state gift tax may be due, which the family may not have the resources to pay. If the house is sold either during the parents' life or upon their death, an income tax, which could have been avoided, will be due. If the parents had retained ownership of the property and sold it for $150,000, there would be a profit of $125,000, which could be offset with their $125,000 once-in-a- lifetime exclusion (or use of the rollover provision). If they did not sell it and died owning the property, their heirs would have received a stepped-up basis, and once again the income tax would have been avoided. However, by givIng the property away during their lifetime, the benefit of the $125,0000 exclusion is lost since they no longer own the home, and the donor will keep the parents' original basis of $25,000.

Now let's assume the home is transferred to a properly drafted irrevocable grantor trust. For Medicaid purposes, sInce the property is not available, the clock will start to run, now beIng subject to a maximum of 60 months, and the house will not be subject to any kind of recovery by Medicaid. However, the parents retaIn some control via a special power of appointment, the beneficiaries' creditors cannot reach the property In the trust, and the trust becomes liable for all expenses, debts, and liabilities associated with the home. Since it is a grantor trust, the trust is viewed as nonexistent for income tax purposes. This means that all house-related items will remain deductible by the parents as if they had maintained complete ownership of the property, the once-in-a-life-time exclusion is protected, no gift tax will be due upon the transfer since it is an incomplete gift, and the beneficiaries will receive the stepped-up basis at the parents' death.

The life estate falls between these two methods. Usually a life estate is created in these situations by a parent transferring the home to his or her children while retaining the right to use the property for life. For tax purposes, a completed gift has been made, and the entire value of the property will be subject to an immediate gift tax. However, part of the once-in-a-lifetime exclusion (the portion attributable to the life estate) may offset some income recognized in a lifetime sale. The retention of a life estate will cause the property to be included in the parent's estate, thereby preserving the step-up in basis. For Medicaid purposes a penalty will be triggered on the value of the remainder interest, limited to the 36-month look-back. If the parent needs Medicaid at a time when the family still owns the home, the Department of Social Services will require an assignment of proceeds to be executed and recorded. This would permit Medicaid to recover funds from the sale of the home during the parent's life. However, upon death of the parent the assignment of proceeds terminates by operation of law.

The availability of these techniques demonstrates that effective planning is still possible despite Congress' effort in OBRA '93 to tighten the Medicaid eligibility standards.

David R. Okrent is an attorney and CPA in Deer Park, New York, Mr. Okrent has spent four years with the IRS and three years with KPMG/Peat Marwick. He is a vice president of the Association of Professional Financial Consultants and a member of the National Academy of Elder-Law Attorneys.