While we have many high net worth clients, some of our clients are middle-class individuals looking to stretch out their retirement savings. The biggest disaster that group often faces is a catastrophic medical problem.

Insurance will only cover so much — especially if you have a lot of appreciating assets. The problem is that some clients get stuck in a place where they’re too wealthy for Medicaid assistance, but if they pay out-of-pocket, it’s going to deplete their savings.

For these clients, using a trust is a good way to reduce their net worth to qualify for Medicaid payments. In other instances, we might recommend purchasing supplemental annuity or life policies to cover those expenses.

Reducing Your Net Worth for Medicaid

Most states have “Medicaid needy” programs that allow certain benefits for higher income individuals diagnosed with serious and expensive illnesses. Generally, these are the programs our clients are looking into for medical treatment. But the problem with this is that it’s very hard to qualify. As far as Medicaid is concerned, someone has to exhaust essentially all of their other assets before they can use these high-expense assistance programs.

This is why some choose to set up Medicaid planning trusts in advance. What happens is someone sets up a trust and then pays money into the trust, often through insurance policies. If the trust is not owned by you, and the trustee is not required to make any distributions to you, it can be considered outside of your net worth. That means Medicaid won’t calculate the assets in it in determining if you qualify for funding under certain high-need programs.

There are two key criteria to this. The trust must be irrevocable, and it must not require the trustee make any distributions. Mainly, it has to follow the standard in which it’s a trust outside of your control. You can’t direct the funds or demand the trustee pay out any funds to keep that trust and its contents outside of your net worth.

If a client can reduce their estate using a Medicaid planning trust, then we’ll often recommend it. However, Medicaid criteria change from state to state, meaning that some will qualify and some won’t. There also might be disease-specific funds and programs available at a state level, so this is something to be reviewed on a case-by-case basis.

But there will always be clients who won’t qualify no matter what they do. For this, we recommend creating a healthcare fund using certain specialty insurance policies.

Alternatives to a Medicaid Planning Trust

Both life insurance and some annuities can be used to supplement medical costs in the event you suffer an illness. The most obvious option people look to first are annuities with disability riders. Long Term Care and Chronic Illness Riders. In this case, you purchase a deferred fixed annuity with riders that boost your payout if you can’t perform two of the six functions of daily living. Longevity annuities can also be a good option as these are set to pay out later, usually to those over 85, which is also a time in which healthcare costs skyrocket.

Of course, the problem with annuities, at least ones purchased with pre-tax dollars, is that they ultimately are taxable at ordinary income. For our clients who are trying to create a pool of wealth for medical treatment that they can cash in if they need, we recommend using life insurance instead.

Universal life insurance allows you to pay a premium and use a part of that premium to build a cash value. There are certain policies that allow you to grow that cash value based on the earnings on an index. That can be a good option for a medical fund, as the cost of medical treatment tends to grow faster than inflation. Alternatively, you might consider a life policy with a long-term care/chronic illness rider that advances a portion of the death benefit tax free if you meet certain medical conditions.

Also, if you’re trying to reduce your estate for Medicaid programs, or if you want to avoid estate tax, then you’re going to want to hold these life insurance policies in a trust. If you want to put annuities into a trust, remember that you can only do that with non-qualified annuities.

How these policies will impact your taxes will depend on your use of a trust. If you choose to hold life insurance policies in your name, you won’t have to pay taxes on the earnings. If you take out a loan against the cash value, again that’s tax free.

A policy held in a trust won’t count as part of your estate at estate tax time. For this, you should weigh the benefits with the drawbacks. With a trust, you reduce your estate tax burden but make it a bit more difficult to get to your cash. Without a trust, you have more access to funds but also stand the risk of additional estate taxes.

One of the biggest segments of late-life planning we help our clients with is dealing with medical costs. While some might be able to qualify for Medicaid by using a shelter trust, others might have to look to alternatives. If you’re interested in seeing how insurance can protect your estate from high medical costs, contact us today at 800-DIE-RICH.

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