Medicaid Divorce: An Overview

December, 2010

Before Medicaid rules changed in 1987, divorce had been used as a planning tool to allow one spouse to qualify for Medicaid assistance and to avoid impoverishing the well spouse. Since recent changes to Medicaid rules in May 2006, the “Medicaid divorce” has been resurrected as a planning tool.

The term “Medicaid divorce” may be familiar to some, but unheard-of to others. This article does not attempt to provide a guide as to how a Medicaid divorce should be handled. State law varies greatly in each state’s treatment of Medicaid divorces. State law also varies with regard to its handling of Medicaid assistance. A Medicaid divorce should only be handled by those familiar with the applicable state and federal laws.

This article covers some of the issues that should be considered if clients wish to examine the possibility of a Medicaid divorce. A couple will consider a Medicaid divorce because the medical costs of one spouse can force the couple to deplete their assets, leaving the well spouse impoverished. For purposes of this article, the spouse requiring long-term care is referred to as the “Medicaid spouse,” and the other spouse is referred to as the “well spouse.”

The largest section of this article addresses ethical considerations for practitioners because they have the broadest application and present the most common concerns. The other sections only briefly touch on practical aspects that should be considered. This is not meant to be an exhaustive list of concerns, merely an introduction. Medicaid divorces should be referred to and handled by practitioners who are experienced in this particular area.

Medicaid Basics

Medicaid is a federal needs-based assistance program created by Title XIX of the Social Security Act. Medicaid eligibility is determined by the total income and assets of a couple, which are pooled and totaled. A spousal resource allowance is determined by calculating one half of the assets to a certain limit, which is subject to regional adjustment techniques. The remaining assets are then spent down for the Medicaid spouse. There are also certain limitations governing the amount of monthly income allocated to both spouses.

Although certain assets may be held by the couple or transferred to the well spouse, the value of the assets that can be held or transferred is limited. Thus, the couple must “spend down” their assets for the Medicaid spouse to qualify for Medicaid. It is not as easy as gifting their assets to other family members, because such transfers create a period of ineligibility before the spouse can qualify for Medicaid. State agencies will look at the couple’s total assets during a “look-back period” to determine whether any disqualifying transfers were made. The segregation of assets pursuant to a Decree of Dissolution or a Decree of Separation is not considered a disqualifying transfer. In a Medicaid divorce, the goal is to transfer a disproportionate amount of assets to the well spouse to minimize the spend-down and preserve the quality of life of the well spouse to the greatest extent possible, while qualifying the Medicaid spouse for assistance as soon as possible.

Incapacitated Spouses and Conflicts of Interest

The reader may have noticed that instead of referring to “client,” reference was made to “clients.” Because a Medicaid divorce is not the result of an irretrievably broken marriage, both spouses typically approach one attorney to consult about a Medicaid divorce. The typical situation is that after years of paying for long-term care, the couple or the well spouse, if the Medicaid spouse is incapacitated, realizes that the couple’s assets will be depleted, leaving the well spouse with very few assets because of the Medicaid spouse’s cost of care.

If the situation involves an incapacitated spouse, it is necessary to retain separate counsel for each spouse. However, even when both spouses have capacity, each should retain separate counsel. The reason for doing so can be illustrated through an example: Husband and Wife have been married for 40 years; Husband has early onset Alzheimer’s, but currently has capacity. Husband wants to protect the couple’s assets for Wife’s benefit. The Husband’s counsel acts as a “gate-keeper.” Husband’s counsel makes sure Husband understands that the divorce is economically unfair to him and that Husband could get a better financial result in an adversary proceeding. Later, if testimony is required that Husband understood the proceedings, his counsel can testify. This will help avoid a guardian ad litem or judge second-guessing an 80/20 split in favor of Wife.

In addition to the need for separate attorneys, where one spouse is incapacitated, there frequently will be a third party involved, such as a guardian ad litem or judge, to determine the legality, fairness or “best interests” for the incapacitated spouse. The selection and appointment of a guardian prior to the commencement of a Medicaid divorce can assist matters significantly. Also, from a strategic standpoint, it is very important that the immediate family be informed and, hopefully, be on-board with the idea of a Medicaid divorce. Because the purpose of a Medicaid divorce is to place as much of the marital assets with the well spouse, this can cause significant conflict in blended families.

On one occasion, the well spouse of a blended family, as part of a negotiated dissolution settlement agreement, agreed to place the received assets in an irrevocable trust with an independent co-trustee, while reserving the right to receive income. The attorney negotiated powers to invade principal, placed restrictions on lifetime gifting, and left the residue to the children and stepchildren equally. This win-win-win solution saved significant legal expenses.

Ethical Considerations

There is an argument to be made that pursuing a Medicaid divorce when one spouse is incapacitated is an appropriate and ethical thing to do. If there is evidence that, in his right mind, Husband would want to preserve assets for Wife, and he is legally entitled to do so, someone exercising substitute judgment should be able to agree to what he would want. People do preplanning in a multitude of situations such as bankruptcy and business planning. It would be unfair discrimination to deny categorically the right or opportunity to an incapacitated person to undertake the same preplanning because of a disability.

This position is arguably supported by Rule 1.14 of the ABA Rules of Professional Conduct, which admonishes attorneys to maintain as normal attorney-client relationship with clients with diminished capacity. Rule 1.14 also directs a lawyer to take reasonably necessary protective action, including consulting with individuals or entities that have the ability to take action to protect the client, if a lawyer believes that a client is at risk of substantial physical, financial or other harm.

As a sidebar, it should be noted that prenuptial agreements are disregarded for purposes of Medicaid eligibility; all assets of the couple are pooled, regardless of prior agreements. This means that a prenuptial agreement cannot be used as a basis to qualify a Medicaid spouse. If a divorce is sought to qualify a spouse for Medicaid, the couple may choose to nullify the prenuptial agreement in order to make a distribution that would better serve their desire to qualify for Medicaid. However, the prenuptial agreement cannot be nullified if the Medicaid spouse is incapacitated. In those circumstances, a Medicaid divorce is not possible because distribution upon divorce would be governed by the prenuptial agreement.

It should be obvious, that as with most things, the earlier that one begins planning for a Medicaid divorce, the easier the planning. It may be a difficult decision to counsel clients on divorce as a planning tool. It may be appropriate merely to introduce the concept of the Medicaid divorce when the couple has come for legal counseling because one spouse has been diagnosed with a progressive disease that will result in long-term care.

Impact of a Medicaid Divorce on Other Public Benefits

The divorce itself will have an impact on other benefits that the couple or individual spouse may already be receiving or expect to receive in the future. Divorce will usually impact the amount of supplemental security income (SSI) that is received under Title XVI of the Social Security Act. A divorce will change the amount of SSI benefits received by ending the eligible couple status. Certain income benefits may also be restored due to the divorce. It may also be important to consider the effect of divorce on SSI eligibility for children under the age of 18.

The impact of divorce on SSI payments requires careful consideration and can affect eligibility requirements for Medicaid. For example, medical care and services paid directly to a provider are not considered income of the SSI recipient. This should be considered in situations where Medicaid is not expected to cover certain services.

There may also be an impact on Social Security retirement benefits and survivor’s benefits. For Social Security retirement benefits, a couple must have been married for at least 10 years for a spouse to take advantage of the working spouse’s earnings history. This is extremely important if the Medicaid spouse is the one with the working history. Often, the need to qualify for Medicaid will be the decisive factor, but it is necessary to determine what assets will be available for the well spouse following the divorce.

One should also consider whether it is necessary to correct the earnings record. Often, when couples are engaged in a mutual venture, all of the income will be reported only as one spouse’s income. The divorce may be a good time to make the correction, since all the necessary tax information and other records will likely be examined in determining the availability of funds. There are negative consequences, though, and correcting the earnings records may not be what is desired.

There should also be an examination of whether the divorce will implicate veteran’s benefits under Title 38 of the United States Code. A significant number of retirees are veterans and with recent events, there will be another large group of veterans moving through the system. Divorce affects the veteran’s entitlement to extra dependent allowances. There are different pension programs for veterans, and it will be important to understand which one applies. Also divorce may restore certain death benefits that had expired because of a remarriage.

Know Your State Laws

While the importance of state law has already been mentioned, it cannot be emphasized enough. Although Medicaid is a federal program, it is administered by state agencies. Each state sets its own rules regarding Medicaid within the parameters set by the Federal government. For purposes of this article, one of the primary considerations is how state agencies treat court orders regarding spousal maintenance, because a divorce court order can supersede the normal spousal resource allowance rules prescribed under state Medicaid regulations.

Knowing your state laws will also be necessary to determine whether a Medicaid divorce is necessary. Some states allow for unlimited transfer of the residence from the Medicaid spouse to the well spouse. Depending on the total exemption amount permitted, the amount of the couple’s assets may not require a Medicaid divorce.

Simply put, despite all the planning, the court may not order a property division in accordance with what is planned. In 2005, the Superior Court of New Jersey had the following to say about a support payment plan formulated in a “bed and board” divorce: ” The property settlement agreement in this case was an undisguised attempt to circumvent the Medicaid regulations concerning the appropriate level of the spousal allowance.” H.K. v. Division of Medical Assistance and Health Services, 379 N. J. Super, 321, 329, 878 A.2d 16 (2005).

The obvious response to this observation would be “of course it was.” Yet the H.K. court quoted with approval prior case law that discouraged the practice of divorce for the protection of the well spouse’s assets as placing an unfair financial burden on the state.

Conclusion

Regardless of personal views about Medicaid divorces, it is a powerful tool in estate planning. It is also a very complex tool and is not intended for dabblers. Medicaid divorce practice requires a deep understanding of family law, estate planning and state Medicaid laws.

Michael L. Olver and Christopher C. Lee are Of Counsel with Helsell Fetterman LLP, Seattle, WA. Both focus their practices on trust and estate litigation, estate planning, guardianships, and estate and trust administration. Mr. Olver is on the board of the Washington State chapter of the National Academy of Elder Law Attorneys, Inc.; the chairperson for the ABA Elder Law – Litigation Committee, and has presented broadly on issues related to estate and trust planning and related litigation. Mr. Lee has been consecutively recognized by Washington Law & Politics as a “Rising Star.”