Third Circuit Court of Appeals Approves “Half-a-Loaf” Annuity

According to a recent decision in Federal Court, the duration of a short-term annuity does not remove it from the safe-harbor provisions of Medicaid regulations. For those using the Medicaid plan often referred to as “half-a-loaf, this decision means that even if the annuity is established with payments over a very short duration, it may still qualify as exempt from Medicaid eligibility. This finding comes from Zahner v. Secretary Pennsylvania Department of Human Services. To explain a bit further, let’s look closely at this concept known as “half-a-loaf.”

Using qualified annuities to protect assets from Medicaid

Those with significant assets do not typically qualify for Medicaid, thus they must “spend-down” their assets by paying out of pocket until they reach the point of financial eligibility: just $2,000. So, say you have $100,000, and you give it all to your adult children. Medicaid will look at the past five years to see all the money you gave away, and it will penalize you by dividing that gift by the monthly cost of care, thereby creating a period of ineligibility. During that period, your children would have to use that gift money to pay for your care; there would be no benefit to the gift at all.

To avoid this harsh result, the law allows you to give away some of your money and trigger the penalty period, then use the remaining money to purchase a special type of annuity that will make equal payments sufficient to pay for your care during that penalty period. The goal is to accurately assess your life expectancy and how long you will need the payments so that the payments stop almost exactly when the ineligibility period ends. Therefore, one side of the “loaf” is what your kids get to keep, and the other half is what you use to pay for your care while waiting for Medicaid to kick in.

The problem with short-term annuities

This plan can fail, however, if the annuity fails to meet certain tests. The general rule is that annuity payments are considered income. So, if they are also income, there would be no benefit to this plan. After all, both the gift and the money used to pay the bill during the ineligibility period would be counted against you. Nevertheless, federal law carves out a special exception for certain annuities under 42 U.S.C. 1396p(c)(1)(F). The law creates a “safe-harbor” provision that says such an annuity must meet the following strict requirements in order to not be considered an asset or income:

1. It must name the state as the remainder beneficiary upon your death.
2. It must be irrevocable and nonassignable.
3. It must be actuarially sound.
4. It must also provide for payments in equal amounts during its term, with no deferral and no balloon payments.

How the Third Circuit Upheld the Half-a-Loaf

In the Zahner case, the Pennsylvania court tried to argue that the purchasing of the annuities over 12 to 14 months were sham transactions, because the plaintiffs had paid larges sums of their money to buy annuities and received large payments in return, but for a short amount of time.

However, the appeals court disagreed, finding that the law makes no minimum duration of repayment in order to be exempt. The appeals court did, however, say that hypothetically, an annuity established with a two or three day repayment period would possibly be a sham, but the courts should not determine what a reasonable repayment period should be. That is up to the individual and his or her attorneys and financial advisors.

Thus, the “half-a-Loaf” mechanism is still alive and well. Though it is not for everyone, there are times when planning fails or when a person is in crisis and cannot avoid spending all of his or her money on care. In these cases, an experienced elder law attorney at the Millhorn Elder Law Planning Group in the Villages can help preserve at least a large portion of the assets, rather than allow them to go entirely to nursing home care. This is far from simple, and if you believe you may be in this type of situation, you should consult a local elder law attorney immediately to find out if this sort of plan would work for you.