Federal Court: Short-Term Annuities Do Not Count Toward Medicaid

Short-term annuities cannot be considered assets in calculating Medicaid eligibility, a federal appeals court in Philadelphia has ruled.

Also known as “DRA-compliant” immediate annuities, the contracts meet safe harbor provisions established by Congress, the court determined.

The ruling by the U.S. Court of Appeals for the 3rd Circuit was closely watched by elder care experts and the case has important implications for calculating new penalty periods of Medicaid ineligibility, legal analysts say.

“Certainly it is favorable for elderly families, particularly if they are not of great means,” said attorney René H. Reixach in Rochester, N.Y., who represented the plaintiffs, in an interview Wednesday with InsuranceNewsNet.

Short-term annuities with durations of less than two years serve as a financial bridge until contributions from Medicaid, a health services program for the poor administered by the states, contribute to nursing home care expenses, which can run as high as $80,000 a year in some states.

Medicaid annuities have been used for several years by financial planners but questions remained concerning the length of the annuity contracts, wrote legal elder care expert Janet Colliton of Colliton Elder Law Associates in West Chester, Pa., in a Sept. 8 blog post.

“Can they be short term, giving the spouse at home at least enough income to equal what she or he has lost? Or do they have to be longer term, giving a tiny monthly income not enough to cover expenses?” she wrote.

Answers to those questions were among the many settled by the three-judge appeals panel in its 2-1 decision in Zahner v. Secretary Pennsylvania Department of Human Services handed down last week.

The court found that the annuities “were sheltered from inclusion in the plaintiffs’ assets,” allowing the plaintiffs to “reduce excess resources without incurring penalties,” under the federal Deficit Reduction Act (DRA) of 2005.

Lawyers representing the Pennsylvania Department of Human Services (DHS) argued that short-term annuities didn’t qualify as annuities, but rather “sham transactions” intended to shield assets from Medicaid eligibility calculations.

Not so, the majority on the appeals court ruled. The U.S. Supreme Court has found that annuities are “widely recognized” as investment products, even if the annuities, as in this case, delivered a negative rate of return after advisor fees, the majority wrote.

DHS’ arguments amount to a “tortured reading” of DRA, the court also said.

Writing for the majority, U.S. Circuit Judge Theodore A. McKee, wrote in a 31-page opinion that the annuities were neither trusts, nor “trust-like,” that they were actuarially sound and that they did not represent an asset transfer for less than fair market value. Federal courts have overruled Pennsylvania officials on this issue before.

U.S. Circuit Judge Margorie O. Rendell sided with the DHS.

In a four-page dissenting opinion, Rendell found that the plaintiffs had bought the annuities for the purpose of qualifying for Medicaid benefits, not as a long-term investment product.

“The short payback period for the annuities purchased by Sanner and Claypoole, 12 months and 14 months, respectively, precluded any meaningful return from an investment standpoint,” Rendell wrote. “Furthermore, when the broker fees are included, the transactions actually lost money.”

“Aside from the lack of investment purpose, these annuities also were not actuarially sound,” Rendell added.

While the 3rd Circuit reversed the District Court’s ruling that annuities should be considered resources for the purposes of Medicaid eligibility, the appeals court agreed with the lower court’s pre-emption analysis, which held that the federal Medicaid Act, under the Supremacy Clause of the Constitution, overrode Pennsylvania’s assignability statutes.

Pennsylvania law mandates annuities be assignable, which DHS argued was a reason for denying eligibility for Medicaid assistance.

But the lower court found that the annuities had valid nonassignability provisions, in compliance with federal law.

“States that elect to participate in the Medicaid program must comply with eligibility requirements set by the federal government,” McKee wrote.

Reixach said that if the annuities had remained assignable, contract holders would have been able to sell them in the secondary market, which in the eyes of DHS would have meant that the annuities qualified as a resource for Medicaid eligibility calculation purposes.

With one exception, courts in every other jurisdiction have rejected assignability arguments similar to the one made by DHS in this case, Reixach said.

The dispute dates to August 2011, when a Pennsylvania woman gifted more than $100,000 to her family, thereby reducing financial resources below Medicaid limits. Nursing home resident Donna Claypoole then bought an annuity from ELCO Mutual Life and Annuity for $84,874.08.

The contract paid $6,100.22 a month for 14 months for nursing home care during her period of Medicaid ineligibility.

Her husband, who didn’t enter the nursing home, paid MetLife $45,000 for an annuity paying $760.20 for five years.

When it came time consider the ineligibility period for Medicaid, DHS considered the annuities financial resources and part of the asset portfolio held by the Claypooles, which precluded them from receiving Medicaid assistance.

In response, the Claypooles sued the state in federal court. Two other plaintiffs, Anabel Zahner and Connie L. Sanner, filed separate suits, which were consolidated by the District Court.

A message left Wednesday with the lawyer who argued the DHS case not returned by press time.

Cyril Tuohy is a writer based in Pennsylvania. He has covered the financial services industry for more than 15 years. He can be reached at [email protected].