The Need for Planning
One of the greatest fears of older Americans is that they may end up in a nursing home. This not only means a great loss of personal autonomy, but also a tremendous financial price. In the California Bay Area, nursing homes cost approach $90,000 a year, and are rising.
Most people end up paying for nursing home care out of their savings until they run out. Then they can qualify for Medi-Cal to pick up the cost. The advantages of paying privately are that you might gain entrance to a better quality facility and doing so eliminates or postpones dealing with your state’s welfare bureaucracy–an often demeaning and time-consuming process. The disadvantage is that it’s expensive.
Careful planning, whether in advance or in response to an unanticipated need for care, can help protect your estate, whether for your spouse or for your children. One planning approach involves purchasing long-term care insurance, if you can qualify and afford the premiums. Another involves making sure you receive the benefits to which you are entitled under the Medicare and Medi-Cal programs. Veterans may also seek benefits from the Veterans Administration, even if their disability is unrelated to combat activities.
Download your own copy of our “Consumer’s Guide To Medical Planning”, a consumer friendly explanation of Medi-Cal that you may find quite helpful.
Medicare Part A covers up to 100 days of “skilled nursing” care per spell of illness. However, the definition of “skilled nursing” and the other conditions for obtaining this coverage are quite stringent, meaning that few nursing home residents receive the full 100 days of coverage. As a result, Medicare pays for only about 9 percent of nursing home care in the United States. Check out the Medicare section of this site for tips on making sure you receive the nursing care benefits to which you are entitled.
For all practical purposes, in the United States the only “insurance” plan for long-term institutional care is Medicaid. In California, we refer to this program as “Medi-Cal”, and these words are sometimes used interchangeable on this site. Lacking access to alternatives such as paying privately or being covered by a long-term care insurance policy, most people pay out of their own pockets for long-term care until they become eligible for Medi-Cal. Although their names are confusingly alike, Medi-Cal and Medicare are quite different programs. For one thing, all retirees who receive Social Security benefits also receive Medicare as their health insurance. Medicare is an “entitlement” program. Medi-Cal, on the other hand, is a form of welfare — or at least that’s how it began. So to be eligible for Medi-Cal, you must become “impoverished” under the program’s guidelines. However, if you understand these guidelines, even middle class couples may qualify if one needs care.
Also, unlike Medicare, which is totally federal, Medi-Cal is a joint federal-state program. Each state operates its own Medicaid system, but this system must conform to federal guidelines in order for the state to receive federal money, which pays for about half the state’s Medicaid costs. (The state picks up the rest of the tab.)
This complicates matters, since the Medicaid eligibility rules are somewhat different from state to state, and they keep changing. (The states also sometimes have their own names for the program, such as “MediCal” in California and “MassHealth” in Massachusetts.) Both the federal government and most state governments seem to be continually tinkering with the eligibility requirements and restrictions. This has most recently occurred with the passage of the Deficit Reduction Act of 2005 (the DRA) which significantly changed the rules governing the treatment of asset transfers and homes of nursing home residents. The implementation of these changes will proceed state-by-state over the next few years. In California, we anticipate that these rules will be adopted in early 2009. The rules for gaining eligibility to the program are explained in detail in the Medi-Cal section of this site. But to be certain of your rights, consult an expert. He or she can guide you through the complicated rules of the different programs and help you plan ahead.
Those who are not in immediate need of long-term care may have the luxury of distributing or protecting their assets in advance. This way, when they do need long-term care, they may quickly qualify for Medi-Cal benefits. Giving general rules for so-called “Medi-Cal planning” is difficult because every client’s case is different. Some have more savings or income than others. Some are married, others are single. Some have family support, others do not. Some own their own homes, some rent. Still, a number of basic strategies and tools are typically used in Medi-Cal planning. These are described below.
(Is Medi-Cal planning ethical? For ElderLawAnswers.com’s opinion on this, click here.)
As explained in the Medi-Cal section of this site (see The Transfer Penalty), Congress has established a period of ineligibility for Medi-Cal for those who transfer assets by passing the “Deficit Reduction Act” (DRA) . The DRA significantly changed rules governing the treatment of asset transfers. For transfers made prior to enactment of the DRA on February 8, 2006, many state Medicaid officials will look only at transfers made within the 36 months prior to the Medicaid application (or 60 months if the transfer was made to or from certain kinds of trusts). But for transfers made after passage of the DRA the so-called “look back” period for all transfers is 60 months. In California, the DRA has not yet been fully implemented, but we anticipate that that will change in later 2012 or early 2013. Therefore, for those Californians contemplating asset transfers as a Medi-Cal planning tool, there exists a limited window of opportunity for planning.
While the look back period determines what transfers will be penalties, the length of the penalty depends on the amount transferred. The penalty period is determined by dividing the amount transferred by the average monthly cost of nursing home care in the state. For instance, if the nursing home resident transferred $100,00 in a state where the average monthly cost of care was $5,000, the penalty period would be 20 months ($100,000/$5,000 = 20). For year 2011 in California, the Average Private Pay Rate has been set at $6,840. Thus, for every $6,840 transferred, the person giving away money will lose one (1) month of Medi-Cal eligibility.
Another significant change in the treatment of transfers made by the DRA has to do with when the penalty period created by the transfer begins. Under the prior law, the 20-month penalty period created by a transfer of $100,000 in the example described above would begin on the first day of the month during which the transfer occurred. Under the DRA, the 20-month period will not begin until after (1) the transferor has moved to a nursing home, (2) he has spent down to the asset limit for Medi-Cal eligibility, (3) he has applied for Medi-Cal coverage, and (4) has been approved for coverage “but for” the transfer. In other words, the disqualification or “penalty period” will not BEGIN until the person is in a nursing home and nearly broke! Who will pay for his care during this period? The DRA does not give us the answer!
For instance, if an individual transfers $100,000 on April 1, 2011, moves to a nursing home on April 1, 2012, and spends down to Medi-Cal eligibility on April 1, 2012, only then does the 20 month penalty period begin, and it will not end until December 1, 2013. How this change is implemented in California will be worked out over the next few years.
Transfers should be made carefully, with an understanding of all the consequences. People who make transfers must be careful not to apply for Medi-Cal before the five-year look back period elapses without first consulting with an elder law attorney. This is because the resulting penalty could ultimately extend even longer than five years, depending on the size of the transfer and the timing of the Medi-Cal application.
One of the prime planning techniques used prior to the enactment of the DRA, often referred to as a “half a loaf gift,” was for the Medi-Cal applicant to give away approximately half of his or her assets. It worked this way: before applying for Medi-Cal, the prospective applicant would transfer half of his or her resources, thus creating a Medi-Cal penalty period. The applicant, who was often already in a nursing home, then used the other half of his or her resources to pay for care while waiting out the ensuing penalty period. After the penalty period had expired, the individual could then apply for Medi-Cal coverage.
Example: Mrs. Jones had savings of $72,000. Let’s say that the average private-pay nursing home rate is $6,000 a month, just to make the math easy. When she entered a nursing home, she transferred $36,000 of her savings to her son. This created a six-month period of Medi-Cal ineligibility ($36,000 ÷ $6,000 = 6). During these six months, she used the remaining $36,000 plus her income to pay privately for her nursing home care. After the six-month Medi-Cal penalty period had elapsed, Mrs. Jones would have spent down her remaining assets and be able to qualify for Medi-Cal coverage.
While you could generally give away approximately half your assets, the exact amount depended on a variety of factors, including the cost of care, the transfer penalty then in effect in the state, your income, and possible other expenses. One of the main goals of the DRA was to eliminate this kind of planning. To determine its impact in your situation, you should consult with a knowledgeable elder law attorney.
Any transfer strategy must take into account the nursing home resident’s income and all of her expenses, including the cost of the nursing home. Also, be very, very careful before making transfers. Also, bear in mind that if you give money to your children, it belongs to them and you should not rely on them to hold the money for your benefit. However well-intentioned they may be, your children could lose the funds due to bankruptcy, divorce or lawsuit. Any of these occurrences would jeopardize the savings you spent a lifetime accumulating. Do not give away your savings unless you are ready to assume these risks. And, don’t confuse tax gifting rules with Medi-Cal gifting rules; they are vastly different!
In addition, be aware that the fact that your children are holding your funds in their names could jeopardize your grandchildren’s eligibility for financial aid in college. Transfers can also have bad tax consequences for your children. This is especially true of assets that have appreciated in value, such as real estate and stocks. If you give these to your children, they will not get the tax advantages they would get if they were to receive them through your estate. The result is that when they sell the property they will have to pay a much higher tax on capital gains than they would have if they had inherited it.
Transfers should be made carefully, with an understanding of all the consequences. In any case, as a rule, never transfer assets for Medi-Cal planning unless, (1) you keep enough funds in your name to pay for any care needs you may have during the resulting period of ineligibility for Medi-Cal; and (2) you feel comfortable and have sufficient resources to maintain your present lifestyle.
You do not have to save your estate for your children. The bumper sticker that reads “I’m spending my children’s inheritance” is a perfectly appropriate approach to estate and Medi-Cal planning.
Even though a nursing home resident may receive Medi-Cal while owning a home (the DRA has restricted Medi-Cal eligibility for some homes; click here for more information), if she is married she may consider the strategy of transferring the home to the well spouse (called the “community spouse”), assuming that the nursing home resident is both willing and competent to do so. This gives the community spouse control over the asset and allows him or her to sell it after the nursing home spouse becomes eligible for Medi-Cal. In addition, the community spouse should consider changing his or her will to bypass the nursing home spouse. Otherwise, at his or her death, the home and other assets of the community spouse will go to the nursing home spouse ; this would then result in the loss of Medi-Cal eligibility until those inherited funds are spent down to the eligibility ceilings. for a single individual, that ceiling is the modest sum of $2,000. See, “Planning For An Incapacitated Spouse” in our Elder Law Blog for more information, accessible from our Home Page on this site.
While most transfers are penalized with a period of Medi-Cal ineligibility of up to five years, certain transfers are exempt from this penalty. Even after entering a nursing home, you may transfer any asset to the following individuals without having to wait out a period of Medi-Cal ineligibility:
- Your spouse (but this may not help you become eligible since the same limit on both spouse’s assets will apply)
- Your child who is blind or permanently disabled.
- Into trust for the sole benefit of a child under age 65 and permanently disabled.
In addition, you may transfer your home to the following individuals (as well as to those listed above):
- Your child who is under age 21.
- Your child who has lived in your home for at least two years prior to your moving to a nursing home and who provided you with care that allowed you to stay at home during that time.
- A sibling who already has an equity interest in the house and who lived there for at least a year before you moved to a nursing home.
- In California, unlike other states, a home may also be transferred to anyone else, providing that the transferor retains the right to return home and that other requirements are met. Where this strategy is invoked, it is imperative that an Elder Law attorney be consulted. There are also tax issues that must be considered.
The problem with transferring assets is that you have given them away. You no longer control them, and even a trusted child or other relative may lose them. A safer approach is to put them into an irrevocable trust. A trust is a legal entity under which one person — the “trustee” — holds legal title to property for the benefit of others — the “beneficiaries.” The trustee must follow the rules provided in the trust instrument. Whether trust assets are counted against Medi-Cal’s resource limits depends on the terms of the trust and who created it.
A “revocable” trust is one that may be changed or rescinded by the person who created it. Medi-Cal considers the principal of such trusts (that is, the funds that make up the trust) to be assets that are countable in determining Medi-Cal eligibility. Thus, revocable trusts are of no use in Medi-Cal planning. This kind of trust is often referred to as a “Living Trust” and is the kind of trust to which most people refer when they say, “I have a trust”.
An “irrevocable” trust, on the other hand, is one that cannot be changed after it has been created. In most cases, this type of trust is drafted so that the income is payable to you (the person establishing the trust, called the “grantor”) for life, and the principal cannot be applied to benefit your or your spouse. At your death the principal is paid to your heirs. This way, the funds in the trust are protected and you can use the income for your living expenses. For Medi-Cal purposes, the principal in such trusts is not counted as a resource, provided the trustee cannot pay it to you or your spouse for either of your benefits. However, if you do move to a nursing home, the trust income will have to go to the nursing home.
You should be aware of the drawbacks to such an arrangement. It is very rigid, so you cannot gain access to the trust funds even if you need them for some other purpose. For this reason, you should always leave an ample cushion of ready funds outside the trust. Further, the transfer of money into this kind of trust will usually trigger a “penalty period” of disqualification from Medi-Cal. Creating this kind of trust, then, should only be considered if you are relatively certain that you will not need nursing home care during the ensuing penalty period, or that you retain sufficient assets, or long term care insurance, to pay for care during that “penalty period”. An Elder Law attorney can advise you about this strategy, including penalty and “timing” issues.
You may also choose to place property in a trust from which even payments of income to you or your spouse cannot be made. Instead, the trust may be set up for the benefit of your children, or others. These beneficiaries may, at their discretion, return the favor by using the property for your benefit if necessary. However, there is no legal requirement that they do so.
One advantage of these trusts is that if they contain property that has increased in value, such as real estate or stock, you (the grantor) can retain a “special testamentary power of appointment” so that the beneficiaries receive the property with a step-up in basis at your death. This will also prevent the need to file a gift tax return upon the funding of the trust.
Remember, funding an irrevocable trust may cause you to be ineligible for Medi-Cal for a period of time. Once the DRA is fully implemented in California, this period could be up to the following five years. Extreme caution must be exercised when creating these trusts.
Testamentary trusts are trusts created under a will. The Medi-Cal rules provide a special “safe harbor” for testamentary trusts created by a deceased spouse for the benefit of a surviving spouse. The assets of these trusts are treated as available to the Medi-Cal applicant only to the extent that the trustee has an obligation to pay for the applicant’s support. If payments are solely at the trustee’s discretion, they are considered unavailable.
Therefore, these testamentary trusts can provide an important mechanism for community spouses to leave funds for their surviving institutionalized husband or wife that can be used to pay for services that are not covered by Medi-Cal. These may include extra therapy, special equipment, evaluation by medical specialists or others, legal fees, visits by family members, or transfers to another nursing home if that became necessary. But remember that if you create a trust for yourself or your spouse during your lifetimes (i.e., not a testamentary trust), the trust funds are considered available if the trustee has the ability to use them for you or your spouse. If “available”, then they will usually disqualify you or your spouse from Medi-Cal. For more information, see “Planning For An Incapacitated Spouse” in our Elder Law Blog accessible from our Home Page on this site.
Supplemental Needs Trusts
The Medi-Cal rules also have certain exceptions for transfers for the sole benefit of disabled people under age 65. Even after moving to a nursing home, if you have a child, other relative, or even a friend who is under age 65 and disabled, you can transfer your own assets into a trust for his or her benefit without incurring any period of ineligibility. If these trusts are properly structured, the funds in them will not be considered to belong to the beneficiary in determining his or her own Medi-Cal eligibility. This is sometimes called a “Third Party Special Needs Trust”, because you are using your own assets to fund the trust for someone else.
Another kind of special needs trust can be funded using the disabled individual’s own money. If such an individual is under age 65 and uses his or her own assets to fund a supplemental needs trust (e.g. money from an injury settlement or inheritance), the rules are a bit different: in this situation, after the disabled individual dies, the state must be reimbursed for any Medi-Cal funds spent on behalf of him or her. This is sometimes called a “First Party Special Needs Trust”, because it is funded by assets belonging to the disabled individual, himself.
For more on supplemental needs trusts, click here.
For more on trusts in general, see the Estate Planning section of this site.
Protection of the House
As explained in the Medi-Cal section of this site, after a Medi-Cal recipient dies, the state must attempt to recoup from his or her estate whatever benefits it paid for the recipient’s care. This is called “estate recovery.”
For many people, setting up an irrevocable “life estate” is the most simple and appropriate alternative for protecting the home from estate recovery. A life estate is a form of joint ownership of property between two or more people. They each have an ownership interest in the property, but for different periods of time. The person holding the life estate possesses the property currently and for the rest of his or her life. The other owner has a current ownership interest but cannot take possession until the end of the life estate, which occurs at the death of the life estate holder.
Jane gives a remainder interest in her house to her children, George and Mary, while retaining a life interest for herself. She carries this out through a simple deed. Thereafter, Jane, the life estate holder, has the right to live in the property or rent it out, collecting the rents for herself. On the other hand, she is responsible for the costs of maintenance and taxes on the property. In addition, the property cannot be sold to a third party without the cooperation of George and Mary, the remainder interest holders.
When Jane dies, the house will not go through probate, since at her death the ownership will pass automatically to the holders of the remainder interest, George and Mary. Although the property will not be included in Jane’s probate estate, it will be included in her taxable estate. The downside of this is that depending on the size of the estate and the state’s estate tax threshold, the property may be subject to estate taxation. Another downside is that—if the decision is later made to sell the home during Jane’s lifetime—the children will not likely be able to avoid capital gain tax under the tax rule affording a $250,000 exclusion from the gain to a homeowners who sell his own home. This is because the children will not have resided in the home, as required by the rule. The upside is that, if the home is not sold until after Jane dies, this arrangement can mean a significant reduction in the tax on capital gains when the children later sell the property because they may then receive a “step up” in the property’s basis. Note: these rules concerning “step up” in basis are likely to change for persons dying in the year 2010 and beyond, so it is important to seek tax advice from a qualified Elder Law attorney or tax professional before deciding upon this strategy.
Life estates are created simply by executing a deed conveying the remainder interest to another while retaining a life interest, as Jane did in this example. If done properly, and under rules currently in effect in California, once the house passes to George and Mary, the state cannot recover against it for any Medi-Cal expenses Jane may have incurred.
Another method of protecting the home from estate recovery is to transfer it to a special irrevocable trust during the lifetime of the owner. Trusts provide more flexibility than life estates but are somewhat more complicated. Once the house is in the irrevocable trust, it cannot be taken out again. However, the parent or owner may still retain all of the benefits of home ownership, including the right to continue to live in the home. Although it can be sold, the proceeds must remain in the trust. This can protect more of the value of the house if it is sold. Further, if properly drafted, the later sale of the home while in this trust might allow the settlor, if he or she had met the residency requirements, to exclude up to $250,000 in taxable gain, an exclusion that would not be available if the owner had transferred the home outside of trust to a non-resident child or other third party before sale. In our firm, we generally prefer these trusts as the strategy of choice, primarily because of this significant tax advantage over the use of the “life estate” arrangement discussed above. Use of these trusts would also be the strategy of choice if the homeowner contemplates entry into a nursing home in the near future and the corresponding need for a Medi-Cal subsidy to help pay for the cost of care, and the family prefers not to deal with ongoing home rental and management issues.
Applicants for Medi-Cal and their spouses may protect savings by spending them on Exempt Assets. These expenditures may include:
- prepaying funeral expenses,
- paying off a mortgage,
- making repairs to a home,
- replacing an old automobile,
- updating home furnishings,
- paying for more care at home, or even
- buying a new home.
Immediate annuities can be ideal planning tools for spouses of nursing home residents. For single individuals, they are usually less useful. An immediate annuity, in its simplest form, is a contract with an insurance company under which the consumer pays a certain amount of money to the company and the company sends the consumer a monthly check for the rest of his or her life. In most situations, the purchase of an annuity is not considered to be a transfer for purposes of eligibility for Medi-Cal, but is considered instead the purchase of an investment. It transforms otherwise countable assets into a non-countable income stream. As long as the income is in the name of the community spouse, it’s usually not a problem.
In order for the annuity purchase not to be considered a transfer, it must meet three basic requirements: (1) It must be irrevocable–you cannot have the right to take the funds out of the annuity except through the monthly payments. (2) The pay out must be structured so that you are scheduled to receive back at least what you paid into the annuity during your actuarial life expectancy, even if you actually die sooner. For instance, if you have an actuarial life expectancy of 10 years, and you pay $60,000 for an annuity, you must be scheduled to receive annuity payments of at least $500 a month ($500 x 12 x 10 = $60,000). (3) If you purchase an annuity with a term certain (see below), it must be shorter than your actuarial life expectancy. (4) Under the DRA, the state must be named the remainder beneficiary up to the amount of Medi-Cal paid on the annuitant’s behalf.
Mrs. Jones, the community spouse, lives in California where the most money she can keep for herself and still have Mr. Jones, who is in a nursing home, qualify for Medi-Cal (her maximum resource allowance) is $104,400 (in 2008). However, Mrs. Jones has $214,400 in countable assets. She can take the difference of $110,000 and purchase an annuity, making her husband in the nursing home immediately eligible for Medi-Cal. She would continue to receive the annuity check each month for the rest of her life.
In addition, if the annuity has a term certain — a guaranteed number of payments no matter the life span of the annuitant — the term must be shorter than the life expectancy of the healthy spouse. Further, if the community spouse does die with guaranteed payments remaining on the annuity, they must be payable to the state for reimbursement up to the amount of the Medi-Cal paid for either spouse.
Annuities are of less benefit for a single individual in a nursing home because he or she would have to pay the monthly income from the annuity to the nursing home.
In short, immediate annuities are a very powerful tool in the right circumstances. They must also be distinguished from deferred annuities, which have no Medi-Cal planning purpose. We find that most seniors who own annuities usually own ‘deferred’ annuities, which are treated by Medi-Cal the same as owning a savings account; the value is a “countable” asset.
(The use of immediate annuities as a Medi-Cal planning tool is under attack in some states, but is presently still available in California. Be sure to consult with a qualified elder law attorney before pursuing the strategy described above.)
Before passage of the Deficit Reduction Act of 2005 (DRA) community spouses in some states whose own income was less than their MMMNA (see discussion under Medi-Cal section of site) had an alternative to receiving the shortfall from the income of the nursing home spouse. These community spouses could petition the state Medi-Cal agency for an increase in their standard resource allowances (called the Community Spouse Resource Allowance, or CSRA) so that the additional funds could be invested in order to generate income to make up the shortfall in the MMMNA. The DRA has put an end to this practice in many cases. However, for certain couples this option may still be available, but will now require a Petition to the Superior Court and a Judge’s Order. This option may be available where one spouse suffers mental incapacity. In this situation, the “well spouse” may be able to petition the court for a CSRA increase under California’s Substituted Judgment statutes.
In other situations, an increased resource allowance may only be granted to a community spouse whose income is still not enough to reach the MMMNA after first receiving the income of the nursing home spouse.
The Attorney’s Role
Do you need an attorney for even “simple” Medi-Cal planning? This depends on your situation, but in most cases, the prudent answer would be “yes.” The social worker at your mother’s nursing home assigned to assist in preparing a Medi-Cal application for your mother knows a lot about the program, but maybe not the particular rule that applies in your case or the newest changes in the law. In addition, by the time you’re applying for Medi-Cal, you may have missed out on significant planning opportunities.
The best bet is to consult with a qualified professional who can advise you on the entire situation. At the very least, the price of the consultation should purchase some peace of mind. And what you learn can mean significant financial savings or better care for you or your loved one. As described above, this may involve the use of trusts, transfers of assets, purchase of annuities or increased income and resource allowances for the healthy spouse.
If you are going to consult with a qualified professional, the sooner the better. If you wait, it may be too late to take some steps available to preserve your assets.
Under our “system” of paying for long-term care, you may be able to qualify for Medi-Cal to pay for nursing home care, but there’s little public assistance for in-home care. Most people want to stay at home as long as possible, but few can afford the high cost of home care for very long. One solution might be to tap into the equity built up in your home.
If you own a home and are at least 62 years old, you may be able to quickly get money to pay for long-term care (or anything else) by taking out a reverse mortgage. Reverse mortgages, financial arrangements designed specifically for older homeowners, are a way of borrowing that transforms the equity in a home into liquid cash without having to either move or make regular loan repayments. They permit house-rich, but cash-poor, elders to use their housing equity to, for example, pay for home care while they remain in the home. The loans do not have to be repaid until the last surviving borrower dies, sells the home or permanently moves out.
In a reverse mortgage, the homeowner receives a sum of money from the lender, usually a bank, based largely on the value of the house, the age of the borrower, and current interest rates. For example, a 70-year-old borrower with a $200,000 house might be able to receive a maximum loan of $108,584 (based on 2007 figures). The lower the interest rate and the older the borrower, the more money can be borrowed.
Reverse mortgages are not suitable for everyone and they do carry hefty “up front” fees built into the loan even before you take out any money. Further, if it is likely that you may need to move to an assisted living facility or a nursing home in the near future, a reverse mortgage is generally not advisable, as the loan will be “called due” when you are residing outside for 12 months. They can also make Medi-Cal planning more difficult, as home transfers (even between spouses) to protect the home from a later Medi-Cal recovery claim may then be impossible.
Homeowners can get the money in one of three ways (or in any combination of the three): in a lump sum, as a line of credit that can be drawn on at the borrower’s option, or in a series of regular payments, called a “reverse annuity mortgage”. The most popular choice is the line of credit because it allows a borrower to decide when he or she needs the money and how much. Moreover, no interest is charged on the untapped balance of the loan.
Although it is often assumed that an elderly person would want to use the funds from a reverse mortgage loan for health care, there are no restrictions–the funds can be used in any way. For instance, the loan could be used to pay back taxes, for house repairs, or to retrofit a home to make it handicapped-accessible.
Borrowers who take out a reverse mortgage still own their home. What is owed to the lender — and usually paid by the borrower’s estate — is the money ultimately received over the course of the loan, plus interest. In addition, the repayment amount cannot exceed the value of the borrower’s home at the time the loan is repaid. All borrowers must be at least 62 years of age to qualify for most reverse mortgages. In addition, a reverse mortgage cannot be taken out if there is prior debt against the home. Thus, either the old mortgage must be paid off before taking out a reverse mortgage or some of the proceeds from the reverse mortgage used to retire the old debt.
Reverse mortgages are somewhat underutilized now — only an estimated 60,000 to 75,000 of the loans have been made. But financial institutions, sensing an opportunity as the population ages and people live longer lives, are expanding their reverse mortgage programs.
The most widely available reverse mortgage product — and the source of the largest cash advances — is the Home Equity Conversion Mortgage (HECM), the only reverse mortgage program insured by the Federal Housing Administration (FHA). However, the FHA sets a ceiling on the amount that can be borrowed against a single-family house, which is determined on a county-by-county basis. In Westchester County, New York, for example, that ceiling is $260,018 (in 2005). High-end borrowers must look to the proprietary reverse mortgage market, which imposes no loan limits.
Is a Reverse Mortgage Right for You?
While reverse mortgages look like no-lose propositions on the surface, they also have some significant downsides. First, the closing costs for these loans are about double those for conventional mortgages. Closing costs on a reverse mortgage for the $200,000 home described above would be more than $10,000. These costs can be financed by the loan itself, but that reduces the money available to you.
Reverse mortgage payments also may affect your eligibility for government benefits, including Medi-Cal. Generally, these payments will not be counted as income as long as they are spent within the same month that they are received. If the funds are not spent, however, they could accumulate and push your resources over the allowable limits for Medi-Cal or SSI eligibility. In addition, payments from reverse annuity mortgages may be counted as income for purposes of Medi-Cal and SSI whether or not they are spent within the month they are received. This shouldn’t be treated as income, since it simply involves withdrawing equity from one’s home, but the state may view it differently since the funds come in a regular monthly check. In any case, you should consult with an elder lawyer in your state if you have any concern about how a reverse mortgage will affect your eligibility for federal benefits.
Also, bear in mind that if your major objective is to safeguard an inheritance for your children, a reverse mortgage may not be a good idea. As soon as the elderly person (or the survivor of an elderly couple) dies, it will be necessary to sell the home and much — if not all — of the sales proceeds will have to be paid to the lender. But if you have a pressing need for additional income and have no close heirs, or if you do not intend to benefit your children or your children don’t particularly want to inherit the house, a reverse mortgage can be a way to supplement income, perhaps without jeopardizing Medi-Cal eligibility.
Reverse mortgages are complex products and borrowers are advised to acquaint themselves with the different options available and then carefully compare competing loan offerings. Following is a good Web site to get you started in that process:
- You can learn the basics about reverse mortgages from the AARP’s excellent reverse mortgage Web site. The site includes a calculator for estimating the loan for which a borrower would be eligible. Go to: www.aarp.org/revmort
In addition, the names of FHA-insured lenders are available from the Federal National Mortgage Association (Fannie Mae), (800) 7-FANNIE.