Long-term healthcare planning strategies.

LONG-TERM HEALTHCARE PLANNING STRATEGIES

Skyrocketing long-term healthcare costs have radically altered estate planning for older clients. Planning can no longer cover only estate taxes and probate--it must consider the significant financial risks of long-term institutionalization.

With the average cost of a nursing home running between $25,000 and $50,000 annually, half of all couples with one spouse in a nursing home have lost their life savings within a year. Contrary to popular belief, Medicare does not cover custodial care--the type most nursing home patients require. Private insurance policies alone are not the answer. Standard Medigap supplemental insurance provides practically no long-term nursing home coverage. And while there are a growing number of insurance policies aimed specifically at long-term care, they generally are far too expensive for most older people.

WHAT MEDICAID COVERS

Medicaid, which provides healthcare coverage for lower-income Americans, does cover long-term nursing home care for those who are at least 65, blind or disabled and meet certain income and asset requirements. To qualify, a person generally must have less income than the nursing home's cost. This limit isn't a problem for most people, but Medicaid's asset limitations can pose difficulties.

Senior citizens are required to turn over most of their life savings to pay nursing home bills before Medicaid coverage begins. A nursing home resident and spouse may protect the higher of $12,000 or one-half of their combined life savings up to a maximum of $60,000. (States may raise the minimum.) In addition, a married couple with one spouse in a nursing home may keep certain exempt assets, which generally include the family residence, if a spouse or dependent relative is living there; household goods and personal effects; a car; and up to $1,500 for a burial plot and an additional $1,500 for funeral costs.

For unmarried individuals entering a nursing home, the Medicaid asset limits are even more severe. They vary by state, but generally protect only about $2,000 of savings and impose dollar limits for categories of exempt assets.

PLANNING ISSUES

By taking into consideration clients' income, assets and tax consequences, CPAs can help clients select strategies to protect financial security. Even a simple plan can save thousands of dollars.

There are dozens of options. Three of the most common involve transfers of assets to children, transfers to Medicaid qualifying trusts and the use of insurance.

TRANSFERS TO CHILDREN

Clients can't simply transfer assets the day before entering a nursing home and expect to qualify for Medicaid immediately. Transfers for less than fair market value made within 30 months of a Medicaid application render applicants ineligible for benefits for up to 30 months. The ineligibility period is based on a formula that considers the amount transferred and average nursing home costs.

But even if clients haven't planned ahead, asset transfers may be worthwhile since they do enable qualification for Medicaid after 30 months. In making transfers, clients should keep only what they'll need, including yield on assets and additional income (such as Social Security), in order to cover all of their expected expenses for the 30-month period.

If a client transfers appreciated assets, such as stocks or the family home, CPAs should consider the transfer's impact on capital gains taxes, particularly the loss of the stepped-up basis available at death. Also, income produced by the transferred assets will be taxed to the client's children at the children's potentially higher rate.

Clients should execute a durable power of attorney to ensure they can take advantage of this asset transfer technique. This is the single most important action they can take to protect themselves. Without a durable power of attorney, they may be unable to transfer assets if they become incompetent. A durable power of attorney can guarantee that long-term nursing home care will cost them no more than 30 months' expenses.

A durable power of attorney must be made when the client is competent and must authorize transfers. However, if the document expressly provides gift-giving authority to an heir, that heir may face costly tax consequences as a result.

MEDICAID TRUSTS

Another planning option is transferring assets into an irrevocable Medicaid qualifying trust. Properly designed trusts protect assets from being depleted to pay the costs of long-term care and eliminate the risks of asset dissipation inherent in transfers to children.

The trust must be irrevocable and unchangeable and the client must forfeit control of the assets in it. He or she may retain the right to asset income and leave the assets to named beneficiaries.

Transferring assets into a Medicaid trust is like giving a gift to another person--Medicaid can't force someone to sell them or give them to a nursing home before it starts paying the bills. But transfers to Medicaid trusts generally must be made 30 months before assets can be protected.

How can a Medicaid trust help? Here's an example:

A client's assets consist of $150,000 in certificates of deposit invested at 8% annually. She needs the $12,000 annual income from the investment but is not using the principal.

She puts the entire amount into a Medicaid trust, giving up complete control of the assets. The trust provides that she will receive the income during her lifetime and her children will inherit the untouched principal.

The client is later confined to a nursing home that charges $25,000 a year. Who pays the bill? The $12,000 income from the trust is paid to the nursing home, but the balance is covered by Medicaid. If the client later leaves the nursing home, the assets in the trust and the $12,000 annual income are still available. Without a trust, she would have to pay the $13,000 annual balance and her savings would quickly disappear.

Clients must use care in selecting trustees. Clients or their spouses can't serve--as they can with revocable living trusts. Another family member or an institution, such as a bank, should be chosen.

There are potential tax implications, both negative and positive, in establishing a Medicaid trust. For example, if a client appoints as trustee a potential trust beneficiary, the trustee could experience adverse tax consequences when making distributions of income or principal of more than $10,000 a year. On the other hand, appreciating assets placed into the trust might create favorable tax benefits.

A Medicaid qualifying trust can be an extremely valuable planning tool. It is most useful when a client

* Has liquid assets (cash, CDs, etc.) of less than about $300,000.

* Has income of less than $30,000 a year or is willing to limit his or her income to that amount.

* Is living on investment income but not principal.

* Has not yet entered a nursing home.

LONG-TERM CARE INSURANCE

As mentioned earlier, long-term care insurance generally is too expensive for the benefits provided--annual premiums in the thousands are not uncommon. Lower premiums are available, but they usually add significant restrictions and exclusions to the policies. For example, some policies exclude coverage for Alzheimer's and Parkinson's diseases. Others require a prior hospital stay. Many policies pay a fixed daily amount that does not rise with nursing home costs.

Long-term care insurance can be worthwhile, however, when used in conjunction with other planning options. Good coverage at a reasonable premium is available--if benefits are limited to 30 months. This limits the insurance company's maximum exposure and allows it to reduce premiums even on a high-quality plan.

Here's an example of how a 30-month policy can be used.

The client's assets consist of $150,000 in CDs. He purchases nursing home insurance limited to 30 months' coverage. When it becomes apparent he will need nursing home care, he transfers his assets either to his children or to a Medicaid trust. The transfer triggers a 30-month period in which he will not qualify for Medicaid; during that time, the insurance policy pays the daily cost. After 30 months, the insurance runs out and Medicaid coverage begins.

In other words, by combining insurance--at a reasonable premium--with one of the other planning tools, the client is able to retain his assets as long as possible and protect them from nursing home charges.

Long-term care insurance is fairly new and is offered by over 70 companies. Policies vary widely in terms of coverage and cost.

PRUDENT STRATEGIES

Nursing home costs present a great risk to older people and their families. Their financial security depends on adequate long-term care planning. CPAs can help clients protect their assets by using the right planning strategies.

Armond D. Budish, a partner of the law firm of Hahn, Loeser and Parks, Cleveland, Ohio, and the author of Avoiding the Medicaid Trap (Henry Holt and Company, 1989), describes funding methods for long-term care.