Shielding assets for Medicaid: The note and loan strategy

The Deficit Reduction Act (DRA) of 2005, signed into law by President George W. Bush on February 8, 2006, is a federal law designed to severely restrict Medicaid eligibility by radically changing the transfer of asset rules. More particularly, the law seeks to eliminate altogether transfer of asset strategies at the so-called “crisis” phase, that is, last-minute transfers of assets just prior to or immediately after placement in a long-term care (LTC) facility. However, the federal law left open one planning strategy in particular: planning via a “note and loan.”

In this climate of ever more stringent Medicaid eligibility rules, it is critical for facilities to understand the asset protection/Medicaid planning techniques employed by facility residents and prospective residents as a means of gauging the risk they might pose to the facility’s bottom line.

The most draconian change wrought by the DRA is the change to the start date of a penalty period associated with a transfer of assets. Under the prior law, the penalty period based on a transfer of assets commenced on the first day of the month following the date of the asset transfer. As such, an LTC facility resident could transfer approximately one-half of his assets; the half of the assets transferred incurred a penalty period of a certain number of months (varying based upon the amount transferred) beginning the month following the transfer, while the other half of the assets was used to pay the healthcare facility privately during the penalty period assessed on the transferred assets. Under this calculation, both the private-pay funds and the penalty period were exhausted at the same time, allowing the resident to secure Medicaid eligibility on that date.

Under the DRA, however, the penalty period based on a transfer of assets does not begin until the facility resident is “otherwise eligible” for Medicaid benefits but for the asset transfer. In other words, a Medicaid applicant must be both residing in an LTC facility and below the resource limit before the penalty period clock will begin to run. What this means is that the resident must spend-down all of her remaining assets (down to the resource limit set by the state) before the penalty period will begin on any asset transfers made in the past five years, regardless of when they were made. The goal, of course, is to prohibit last-minute transfers of assets.

However, rather than curtailing such “crisis” asset protection planning altogether, the DRA, by default, made available planning via a “note and loan.” The DRA calls for the inclusion of funds used to purchase certain notes and loans as “assets” with respect to transfer of asset penalties unless the note or loan: (1) has a repayment term that is actuarially sound; (2) provides for payments to be made in equal amounts during the term of the loan, with no deferral or balloon payments; and (3) prohibits the cancellation of the balance upon the death of the lender. By taking these enumerated requirements into consideration, the planning technique of asset preservation via a note and loan was born.

How it works

So, what is a promissory note and how does the strategy work? To begin with, a promissory note is a contract wherein the maker of the note makes an unconditional promise in writing to pay a sum of money to the payee either at a fixed or determinable future time or on demand of the payee. In healthcare it works as follows: the healthcare facility resident transfers all of her funds (less the state permissible resource allowance) to an individual (typically a family member). The person receiving the funds signs a note promising to pay back approximately one-half of the monies transferred (the loaned assets), plus interest, to the resident on a monthly basis. The monthly amount to be paid back to the resident is calculated using the LTC facility’s daily rate less the resident’s income. Upon payment of the monthly amount to the resident, the resident writes a check for the same amount to the facility. The note repayment amount covers payment to the facility during the penalty period incurred by the transfer of the other one-half of the assets (the gifted assets).

To illustrate: Mr. White transfers a total of $420,407.96 to his daughter on September 30, 2008, as a part-gift/part-loan transaction. The healthcare facility’s daily rate is $425 (a typical rate in the New York metro area) and Mr. White’s monthly income totals $1,854. To determine the monthly loan repayments, Mr. White calculates the actual monthly cost at the facility private-pay rate for each month (30 or 31 days) less his monthly income. He then calculates the average of the monthly payments during the term of the penalty period (number of months) and factors in an interest rate (typically 5%). The average monthly loan repayment amount works out to $10,908.40 per month-the amount that Mr. White’s daughter will pay back to him each month and which he will then turn over to the LTC facility. The term of the loan will be 20 months beginning in October 2008. As such, $208,907.96 will be the total loan amount and $211,500 will be the total gift made to Mr. White’s daughter, which amount is free and clear to her. After 20 months, the loan will be repaid, the gifted money will be protected, and Mr. White will be eligible for Medicaid benefits. The facility will have secured 20 months of private payment and a seamless transition to Medicaid as the third-party payer at the end of the term.

It is important to note that in order for the strategy to work, there must be a monthly shortfall in the amount paid to the facility each month. This is because the resident must have medical expenses greater than the Medicaid rate in order to be considered “otherwise eligible” for Medicaid benefits while also having medical expenses she or he is unable to meet in full. This shortfall needs to be made up at the end of the loan period from the gifted portion of the assets, and this can present a problem for the long-term care facility. However, if the facility and the family are working together (as they should, since they have a common goal), they may have a disclosure arrangement or escrow arrangement to address the monthly shortfall.

Details, details…

The strategy, albeit basic in concept, is very particular in the details. While facility staff cannot be charged with knowing the minutiae of such a note and loan strategy, it is important that admissions and business office personnel understand the general strategy and be able to identify whether a potential resident’s plan meets all the criteria. In this way, an LTC facility can make an educated decision whether to admit the potential resident, and can work with the family to ensure that the plan is appropriately carried out to all parties’ mutual benefit.

Jennifer B. Cona, Esq., is a partner with Genser Dubow Genser & Cona, LLP, an elder law firm located in Melville, Long Island. The firm provides a full range of elder law and healthcare facility representation services, including litigation, collections, Medicaid application processing and appeals, guardianships and discharge procedures. For further information, phone (631) 390-5000 or visit

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At a glance…

Medicaid applicants forced to spend-down remaining monies, thereby prohibiting last-minute asset transfers to families, should pursue an alternative planning strategy. A combination of a loan and promissory note can protect savings transactions from government penalty.

Long-Term Living 2009 May;58(5):36-37

Topics: Articles , Facility management , Finance