The Health Insurance Portability and Accountability Act

By Jill S. Gilbert

The Health Insurance Portability and Accountability Act of 1996 (the Act) ¹ contains a combination of incentives and penalties to encourage seniors to self-insure rather than rely upon eligibility for Medicaid by using divestment alternatives. The Act discourages divestment with a combination of unprecedented criminal sanctions and income tax incentives to encourage the purchase of long-term care insurance. This article outlines the Act's provisions that affect the senior long-term care industry.

The Act contains three main provisions aimed specifically at the long-term care issue: 1) criminal sanctions for specific types of asset transfers to accelerate Medicaid (Title XIX) eligibility; 2) deductions for premiums and tax exempt status for long-term care insurance benefits; and 3) an expanded definition and liberalized standard for categorizing long-term care services as deductible medical expenses pursuant to section 213 of the Internal Revenue Code (IRC). The Act also provides that payments received from viatical settlements ² and accelerated life insurance benefits ³ paid to someone who is terminally or chronically ill may be excluded from income.

Criminal sanctions for divestment

Section 217 of the Act enhances previously existing Medicaid fraud provisions by including any person who:

"[k]nowingly and willfully disposes of assets (including any transfer in trusts) in order for an individual to become eligible for medical assistance under a State plan under Title XIX, if disposing of assets results in the imposition of a period of ineligibility for such assistance." (Emphasis added.)

The legislation, despite technical problems in the drafting, purports to impose a penalty of up to five years in prison, a $25,000 fine or both. Attorneys may be found liable for aiding and abetting their clients in carrying out the proscribed asset transfers.

This legislation was effective Jan. 1, 1997. The provision passed without hearings, debate or press coverage. President Clinton has specifically asked Congress to repeal it.⁴ It is vehemently opposed by the American Association of Retired Persons and the National Academy of Elderlaw Attorneys, a subsidiary of which the American Bar Association has approved as the certifying entity for elderlaw attorneys. ⁵ Supporters of the legislation include the long-term care insurance and nursing home industries.

It is unclear as to which types of transactions actually are prohibited by section 217, and various theories have been advanced. ⁶ The statute identifies any transfer that "results in a period of ineligibility" for Title XIX benefits. A period of ineligibility, or penalty period, is defined specifically by section 14.5.0 of the Wisconsin Medical Assistance Handbook. ⁷ This period is the number of months for which an individual will be ineligible to receive Medicaid benefits subsequent to making a transfer of assets. The period of ineligibility (penalty period) is determined by "dividing the divested amount ... by the average nursing home cost to a private pay patient ($3,334)" to arrive at the number of months for which an individual in a nursing home will be ineligible for Medicaid benefits. ⁸ For example, a divestment of $33,340 by an institutionalized person would result in a 10-month period of ineligibility. ⁹

Controversy centers on Act section 217's use of the term "imposition" with respect to a period of ineligibility. Using the example above, if an institutionalized individual were to apply for benefits 11 months after making the $33,340 transfer, the individual would be eligible for benefits pursuant to the criteria in the Wisconsin Medical Assistance Handbook. Hypothetically, there would be no "imposition" of ineligibility. However, if the same individual applied for benefits only nine months after making an identical $33,340 transfer, the individual would be administratively deemed ineligible.

The relevant question then becomes whether use of the word "imposition" contemplates that administrative denial of benefits is necessary to bring a transfer within the scope of section 217. If this is the case, the position of the National Academy of Elderlaw Attorneys is that the Act penalizes only those who apply too soon after making a transfer of assets, and does not proscribe transactions by those who simply wait out the specified penalty period. ¹⁰

Even assuming that the "imposition" language of section 217 is to be given a sweeping interpretation, there are alternatives available to individuals who wish to accelerate eligibility for Medicaid without falling prey to criminal sanctions. For example, asset transfers, other than those made to a trust, that occurred more than 36 months before an individual applies for Medicaid are deemed to be outside of the "lookback" period. ¹¹ Such transactions are not considered in assessing an institutionalized applicant's eligibility for Medicaid. Consequently, there should be no resulting period of ineligibility that would bring these transactions within the scope of section 217. However, this is of little comfort to individuals who cannot afford to pay for nursing home care privately for 36 months following a transfer of assets.

Another strategy pursuant to which assets possibly may be transferred without exposure to criminal liability is based upon section 15.5.2 of the Medical Assistance Handbook. This section specifies that in calculating a period of ineligibility (penalty period), any number resulting in a fraction will be rounded "downward." For example, a transfer of $2,184 would result in a 0.7-month period of ineligibility ($2,184 divided by $3,334). The 0.7 would be rounded downward, resulting in a penalty period of zero months. Accordingly, transfers of less than $3,334 per month, in theory, result in no penalty period and fall outside the scope of section 217.

Other strategies involve the transfer of resources in excess of the Medicaid resource limitations in exchange for products or services. The excess resources must be transferred for "fair market value." Such transfers are not considered divestments since the definition of a divestment is "a transfer for less than fair market value."¹² For example, an annuity may be purchased, so long as the annuity's duration does not exceed the Medicaid applicant's actuarial life expectancy. An annuity having a duration longer than the applicant's life expectancy will be deemed a transfer for less than fair market value since the applicant cannot reasonably be expected to recoup the investment value.¹³

Purchases of assets that are "exempt" or are not counted against the Medicaid resource limit also may accelerate eligibility.¹⁴ Examples of exempt assets include a home in which a Title XIX recipient or the recipient's spouse resides, vehicles, life insurance policies having a cash surrender value of less than $1,500, household effects and personal property, and burial plans and spaces.¹⁵

Contracts for services to be compensated at fair market value (including those provided by family members) also would appear to fall outside the scope of section 217. ¹⁶ These purchases are not divestments so long as the service provider is not compensated at a level greater than the fair market value for those services.

Favorable income tax treatment for long-term care insurance premiums and benefits

The Act adds a new section to the Internal Revenue Code ¹⁷ that provides favorable tax treatment for premiums paid for "qualified" long-term care insurance policies. Generally, long-term care insurance benefits paid by an employer will be treated as a nontaxable fringe benefit.¹⁸ Policy premiums paid by individuals will be deductible within specified limits based upon the individual's age at the close of the taxable year. For 1997 these limits ¹⁹ are:

The further requirement that a policy be "qualified" so that premiums may be deductible will be met if the policy:

1) provides that Medicare-covered expenses are not reimbursed, other than deductible and co-pay costs;

2) has no cash surrender value;

3) is guaranteed renewable;

4) complies with certain minimum disclosure requirements; and

5) provides benefits when a policyholder cannot perform at least two of the six "activities of daily living."²⁰

This provision is unlikely to be meaningful to most elderly taxpayers since they already must have sufficient other deductible expenses to exceed the standard deduction amount. Taxpayers age 65 or older are entitled to an additional standard deduction. 21 Additionally, this type of deduction is categorized as a medical expense, and such expenses are deductible only to the extent that they exceed 7.5 percent of adjusted gross income. 22

Deductibility of long-term care expenses

The Act's most significant and innovative aspects are the provisions permitting deductibility of long-term care expenses. Prior law required tax practitioners to determine whether a service or facility was "medical" in nature thereby qualifying as a deductible medical expense under section 213 of the IRC. Under the Act, determinations as to whether expenses qualify as deductions now focus on the extent to which a taxpayer is disabled.

Newly added IRC section 7702B(c) defines long-term care services as those that are "necessary diagnostic, preventive, therapeutic, curing, treating, mitigating and rehabilitative services, and maintenance or personal care services." The services must be provided pursuant to a plan of care provided by a physician or other licensed health practitioner. Generally, this will involve a determination that an individual is chronically ill and requires assistance with two or more of the six activities of daily living. 23

Jill S. Gilbert, DePaul 1984, is a CPA with an LL.M.-Taxation. She concentrates her practice in estate planning. She has been certified as an elder law attorney by the National Academy of Elderlaw Attorneys, the certifying entity approved by the ABA.

This provision promises to have the most pervasive impact on seniors. For those who require long-term care, the expenses are substantial and ongoing and exceed the required 7.5 percent of adjusted gross income as well as the standard deduction amount. ²⁴ The Act eliminates the need for tax professionals to categorize supportive services as "medical" and garner support for such a position. Thus, an anomaly under prior law, where the identical expense might be deductible when paid to a nursing home but not deductible when paid in a home health setting, is removed.

Conclusion

The Health Insurance Portability and Accountability Act of 1996 contains a combination of incentives and penalties to encourage seniors to self-insure rather than rely upon Medicaid. However, the controversial criminal provisions, even if not repealed, do not effectively foreclose asset transfers by well-informed individuals who seek to accelerate their eligibility for Medical Assistance benefits. Similarly, the provisions for deducting long-term care insurance premiums are likely to have little financial impact. Perhaps the most significant (and least publicized) provisions will prove to be those that expand the scope of services traditionally deductible as medical expenses under section 213 of the Internal Revenue Code.

Endnotes

¹ P.L. 104-191, 8/21/96.

² Viatical settlements essentially are transactions pursuant to which terminally ill persons sell the right to receive benefits under a life insurance policy to a third party. The requirements for excluding the proceeds from such transactions are found in IRC section 101(g).

³ IRC §101(g).

⁴ "Congress Urged to Repeal New Law on Medicaid Assets Disposal," New York Times, page 1, col. 4. Feb. 14, 1997.

⁵ Id.

⁶ Criticism of section 217 has included ambiguities in the drafting and First Amendment issues, both of which are beyond the scope of this article.

⁷ The Wisconsin Medical Assistance Handbook is the resource relied upon by state agencies in processing applications for benefits. It is published by the State of Wisconsin Department of Health and Social Services Division of Economic Support.

⁸ Medical Assistance Handbook, Appendix, §14.5.2.

⁹ The average nursing home cost, currently set at $3,334, is redetermined annually by the Department of Health and Social Services. Wis. Stat. §49.43(3)(b)(2).

¹⁰ NAELA Legislative Alert and Update, August 1996.

¹¹ Medical Assistance Handbook section 14.3.0 provides:

"The lookback period is a period of time prior to application or entry into an institution. A divestment that has occurred in the lookback period can cause the applicant or recipient to be ineligible.
"The lookback period for divestments not involving trusts is 36 months."

¹² Medical Assistance Handbook, Appendix, §14.2.1.

¹³ Medical Assistance Handbook, Appendix, §14.11.0. However, an annuity with a payment period that exceeds the life expectancy of a Medical Assistance applicant will be deemed a divestment.

¹⁴ Medical Assistance Handbook, Appendix, §14.8.0.

¹⁵ Medical Assistance Handbook, Appendix, §§11.7.3, 11.6.8, 11.6.5, 11.6.1, 11.8.2, 11.4.4, 11.4.5, 11.4.2.2.

¹⁶ Medical Assistance Handbook, Appendix, 14.8.0.

¹⁷ IRC §7702B.

¹⁸ IRC §7702B(a)(1). Long-term care benefits provided under "cafeteria" and "flexible spending" arrangements will continue to be taxable. IRC §§1259(f), 106(c).

¹⁹ IRC §§7702, 213(d).

²⁰ The six activities of daily living are eating, toileting, bathing, dressing, continence and transferring (for example, from the bed to a chair or toilet).

²¹ IRC §63(c)(3).

²² IRC §213(a).

²³ Supra.

²⁴ IRC §213(a).

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