What Is Reasonable May Be Unreasonable

Farmer Schmidt has a quarter of ground that has long been favored by his neighbor. Farmer Schmidt is trying to downsize and is ready to sell the property to neighbor Jones. Farmer Schmidt and neighbor Jones enter into a contract to purchase the quarter of ground for $2,000 an acre ($320,000). Neighbor Jones is a young farmer, just getting his operation off the ground. He and Farmer Schmidt enter into a purchase for deed contract. The standard in the area is a 20-year contract. Farmer Schmidt also wants to help out neighbor Jones, so he sets the interest rate at 3% (below what was then a 6% rate).

A few years down the road, Farmer Jones develops dementia and is put into a nursing home. Within five years, he has gone through almost $400,000 in cash resources. His resources are now down to his land and the contract on the quarter of ground.

Typically, Farmer Schmidt would be able to qualify for Medicaid as long as the land is producing income. The income would go to reduce what Medicaid pays for his care.

However, in the Medicaid application process, the contract is reviewed, and Medicaid disqualifies Farmer Schmidt from Medicaid.

Why, the family asked me.

At the time the contract was written, Farmer Schmidt was 70. Unfortunately, under the actuarial tables of Social Security, his life expectancy was only 14.59 years. The 20-year contract violated that rule by five years. As a consequence, Medicaid considers it an “undercompensated transfer.” In addition, the low interest rate is also an undercompensated transfer. Both cause Farmer Schmidt to be disqualified from Medicaid.

Take that same analogy with annuities. An annuity that would be otherwise reasonable may be unreasonable because of the length of the annuity. As an example, all lifetime annuities under Medicaid rules are considered undercompensated transfers. For Medicaid purposes, the annuity or the contract must end before the actuarial date for that individual.

I am not telling you this is fair; I am just telling you what the rule is.

We have had to help clients in the past restructure their investments/contracts in order to comply with Medicaid rules. It is unfortunate, but we must be really careful when we are working with a client regarding their transactions that could end up costing them benefits down the road.

I want to give you a similar warning about Veteran’s Administration Pension. VA Pension has taken a very narrow view of annuities and annuity-like products. I am not telling you that we never use them, but we are extremely careful to make sure they are going to fit under the VA’s rules.

So, while what Farmer Schmidt did was a reasonable business practice, for Medicaid purposes it was unreasonable and undercompensated and disqualified him from benefits.

Beware.