Public Law Number 109-171 (The Deficit Reduction Act of 2005) includes new requirements for annuities to satisfy the Medicaid asset transfer rules.
- Do these DRA annuity rules apply to structured settlement annuities, including those paid to a community spouse, and if so, how?
- Do these DRA annuity rules impact structured settlement annuities irrevocably assigned to special needs trusts (SNT), and if so, how? Note: SNTs are sometimes referred to a supplemental needs trusts. SNTs include self-settled (d)(4)(A) trusts and (d)(4)(C) pooled trusts.
Sylvius H. von Saucken, a partner in The Garretson Law Firm, has written an important new article addressing these questions. von Saucken introduced his article, titled "The DRA of 2005 - What Havoc has Congress Wrought?", as a featured presentation at the 2007 Annual Meeting of the Society of Settlement Planners (SSP). von Saucken's article provides an excellent summary of the DRA from a structured settlement perspective. His article also compares arguments for and against applying the DRA annuity rules to structured settlements annuities - whether paid directly to Medicaid recipients and their spouses or indirectly using a special needs trust.
von Saucken's analysis should serve as a wake-up call for the structured settlement, settlement planning and special needs planning industries which have heretofore ignored the serious potential problems the DRA poses for structured settlement annuities.
von Saucken's conclusions:
- There appears to be very little (if any) direct authority whether and how the Deficit Reduction Act of 2005 (DRA) impacts special needs trusts, structured settlement annuities, or structured settlement factoring transactions.
- If applicable, the new DRA annuity rules could negatively impact the structured settlement market by substantially restricting the types of structured settlement annuities that allow recipients to qualify for Medicaid long term care.
- Greater clarity is needed from Congress, the Centers for Medicare & Medicaid Services (CMS), and/or the states concerning the impact of the DRA's annuity rules on structured settlements paid directly to claimants or their spouses or indirectly using a special needs trust.
- Additional lobbying and education is required by the structured settlement industry to help Congress, CMS and the states connect the DRA rules to structured settlement annuities.
- The DRA annuity rules point out a growing potential conflict among various federal and state laws that impact structured settlements.
This blog post (Inconvenient Questions - 1), the first of three S2KM posts reviewing von Saucken's article, identifies the DRA requirements impacting annuities. S2KM's next blog post (Inconvenient Questions - 2) will summarize von Saucken's arguments for and against the DRA's applicability to structured settlements. A third S2KM blog post (Inconvenient Questions - 3) will consider the relevance and significance of past "authority" from the Social Security Administration (SSA) and CMS to the DRA structured settlement issues.
Enacted as Federal law on February 8, 2006, the DRA was intended to cut federal spending for certain domestic programs by billions of dollars. One the primary programs targeted by the DRA was Medicaid, a joint federal-state program of medical assistance for low income persons who are aged, blind or disabled. Many personal injury victims receive Medicaid benefits prior to settlement and subsequently depend upon Medicaid to pay for their long term care.
The Omnibus Reconciliation Act of 1993 (OBRA) defined self-settled special needs trusts and pooled trusts as safe harbor administrative vehicles for trust beneficiaries to avoid Medicaid's income and resource requirements as well as Medicaid's asset transfer rules. Although OBRA does not include any statutory reference to annuities or structured settlements, structured settlements annuities have been used frequently since 1993 to fund both types of special needs trusts.
The most recent authority concerning structured settlement annuities paid into self-settled special needs trusts are private letters written by SSA and CMS to two attorneys, Jay Sangerman and Roger Bernstein, representing the National Structured Settlement Trade Association. These letters, however, do not address the DRA annuity rules or their impact on structured settlements.
von Saucken's extensive article summarizes the DRA's many complicated and controversial requirements. His article primarily focuses, however, on the two DRA sections that appear most important for structured settlements. Each of these DRA sections apply specifically to disabled persons who receive, or expect to apply for, Medicaid long term care.
DRA section 6011 - Asset Transfer Rules Changes
Several Medicaid programs provide for an administrative penalty triggering a period of ineligibility resulting from the transfer of assets by a Medicaid applicant or spouse to a non-spouse for less than fair market value. DRA section 6011 extends the look back period for Medicaid asset transfers from three years (36 months) to five years (60 months). This means that state Medicaid agencies will now review all transfers (including annuity purchases) that an applicant for long term care made during the previous five years as part of its eligibility determination.
Although the DRA does not change the method for calculating the penalty period, it does change the beginning date of the penalty period which, under pre-DRA rules, was the date the transfer was made. Under the new DRA rules, according to von Saucken, the penalty period begins on the later of the date of transfer or the date: 1) the applicant is financially eligible for Medicaid long term care; and 2) the applicant requires long term institutional care; and 3) the applicant has filed a Medicaid application; and 4) there exists no other outstanding penalty period. von Saucken believes these changes will make it more difficult for Medicaid applicants to use asset transfer planning to obtain early Medicaid eligibility.
DRA section 6012 - Annuity Rules
As von Saucken's article points out, the DRA does not address whether an annuity is a countable asset if it is not considered an asset for transfer purposes. DRA section 6012, however, does add new requirements for annuities to satisfy Medicaid's asset transfer rules for those persons who receive or apply for Medicaid long term care.
- Disclosure - Pre-DRA, according to von Saucken, there were no formal Medicaid disclosure rules for annuities other than listing all assets on a Medicaid long term care application. The DRA now requires Medicaid applicants and their spouse to specifically disclose a description of any interest in an annuity at the time of a Medicaid application or recertification of eligibility. If an applicant or spouse fails to disclose any interest in an annuity, the applicant may be denied Medicaid long-term care services. According to CMS, this disclosure requirement applies regardless of whether an annuity is irrevocable or is treated as a countable asset.
State as Remainder Beneficiary
- The DRA requires all states to include in their Medicaid long term care application and recertification a statement naming the state as a remainder beneficiary for any annuity purchased on or after February 8, 2006. If the Medicaid applicant has a community spouse or minor or disabled child, the state must be named as secondary beneficiary after those individuals. As a remainder beneficiary, the state may receive up to the total amount of medical assistance paid on behalf of the Medicaid recipient, including both long term care services and community services. If the state is not named as a remainder beneficiary in the correct position, the purchase of the annuity will be considered a transfer for less than fair market value. CMS interprets the statute to mean that the full purchase value of the annuity will be considered the amount transferred. The state must also notify the annuity issuer of the state's rights as a remainder beneficiary.
- Naming the state as remainder beneficiary, according to von Saucken, represents a new Medicaid requirement not previously applicable to annuities. By comparison, OBRA established its own state reimbursement rules for self-settled special needs trusts (42 U.S.C. 1396p(d)(4)(A)) and pooled trusts (42 U.S.C. 1396p(d)(4)(C)). Following the death of the beneficiary of a (d)(4)(A) trust, the trust is required to reimburse the state all amounts remaining in the trust up to the amount of total medical assistance paid on behalf of the beneficiary under the state Medicaid plan. As a pre-DRA Medicaid planning strategy, many special needs attorneys recommended listing a family member as the beneficiary for structured settlement annuities used to fund special needs trusts to prevent the state from accessing any remaining annuity payments following the annuitant's death. Some state courts, including New York, supported this pre-DRA strategy.
- Additional Annuity Design Rules
- In addition to naming the state as remainder beneficiary (referred to as "F" rules because they amend 42 U.S.C. 1396p(c)(1)(F)), the DRA annuity rules set forth several other annuity design rules (referred to a "G" rules because they amend 42 U.S.C. 1396p(c)(1)(G)). von Saucken explains how both DRA annuity rules "F" and "G" set forth exceptions to avoid characterizing the purchase of an annuity as a transfer for less than fair market value. Although commentators, including the National Academy of Elder Law Attorneys (NAELA), believe these DRA annuity "F" and "G" rules represent alternative exceptions, CMS has stated that annuities must meet both the "F" and "G" rules or they will be considered transfers for less than fair market value.
- In § 1917(c)(1)(G) (DRA annuity rule “G”), the DRA creates two alternative exceptions to the Medicaid asset transfer rules for annuities. The first exception is for retirement annuities: if the annuity is owned by an IRA or if the annuity is purchased with proceeds from an IRA account and held within that account. The second, alternative DRA annuity rule "G" exception requires an annuity to be: irrevocable and non-assignable; actuarially sound as determined in accordance with the actuarial publications of the office of Chief Actuary of the SSA; and for payments in equal amounts during the term of the annuity with no deferral and no balloon payments. Unlike the DRA's state as beneficiary requirement (DRA annuity rule "F"), these alternative DRA annuity exceptions (DRA annuity rule "G") do not apply to annuities where the community spouse (the spouse not receiving Medicaid long term care) is the annuitant.
Potential Problems for Structured Settlements - As von Saucken's article points out, if applicable to structured settlements, each of the requirements set forth in the second DRA annuity rule "G" exception for annuities creates potential problems:
- Irrevocable - one of the most important advantages of a structured settlement annuity is its exclusion from federal income tax under IRC section 104(a)(2). There is no apparent tax authority, however, for the proposition that the IRS will treat an irrevocable structured settlement annuity as non-taxable periodic payments under IRC section 104(a)(a). To the contrary, in multiple private letter rulings, the IRS has stated that the owner of the structured settlement annuity must maintain the right to change the beneficiary. Arguably, an "irrevocable" structured settlement annuity creates actual receipt of a present economic benefit.
- Non-assignable - Even prior to the DRA, state Medicaid directors argued that the secondary structured settlement market creates a legal presumption that structured settlement annuities are saleable and therefore available and countable for purposes of Medicaid eligibility. State courts have been divided on this issue. Although structured settlement recipients might insist that anti-assignment language be included in structured settlement documentation, it is unclear what language will satisfy a state Medicaid administrator or state court. At worst, the secondary market for structured settlement means that: 1) all structured settlement annuities qualify as countable assets for Medicaid eligibility; and 2) all structured settlement annuities qualify as transfers for less than fair market value for Medicaid's asset transfer rules. Significantly, however, when a structured settlement annuity is irrevocably transfered to a special needs trust, it is the trustee (not the beneficiary) who has the right (if any) to sell or transfer the structured settlement payment rights.
- Actuarially Sound - The actuarially sound test appears in section 3258.9(B) of the CMS pre-DRA State Medicaid Manual as well as in section 1917(c)(1)(G) of the DRA. Section 3258.9(B) includes two case examples both involving term certain annuities. To be actuarially sound under both the pre-DRA and DRA annuity requirements, von Saucken suggests that annuities now must be term certain and the payout term must be less than the annuitant's life expectancy according to SSA life expectancy tables. This actuarially sound Medicaid requirement appears to eliminate two important advantages of structured settlement annuities: lifetime payouts and age rated annuities.
- Annuity Payments in Equal Amounts with No Deferred or Balloon Payments - This DRA annuity requirement would eliminate important features typically incorporated in structured settlement annuities including: percentage increases; step increases; deferred payments; and deferred lump sums.
S2KM's next blog post (Inconvenient Questions - 2) will summarize and review Sylvius von Saucken's analysis of the arguments for and against applying the DRA annuity requirements to structured settlements - including structured settlements irrevocably assigned to special needs trusts. A third S2KM blog post (Inconvenient Questions - 3) will consider the relevance and significance of past "authority" from the SSA and CMS to the DRA structured settlement issues. In addition, Release 41 of "Structured Settlements and Periodic Payment Judgments" (available in April 2007) will feature a detailed analysis of the DRA.