Funding a Medicaid Compliant Annuity (MCA) with a tax-qualified or IRA account can help your clients minimize tax consequences by spreading out the taxable income over several tax years as opposed to simply liquidating the account and paying all of the taxes in one year. Instead of instructing your client to simply liquidate the account and purchase a non-qualified/post-tax dollar annuity, we can fund the MCA with an IRA or other qualified account – i.e. 401(K), 403(b), defined contribution plans, etc. By funding the MCA with a qualified account and structuring the annuity period certain/term over a timeframe that spans over more than one tax year, tax consequences will be minimized. For example, if a MCA is established in January 2019 and the annuity payout period is structured for 2 years with the first payment starting in February 2019, we’re able to spread out the tax consequences over 3 tax years – client will receive payments from the annuity in 2019, 2020, and 2021.
By following a couple guidelines, outlined below, you can help your clients establish Medicaid eligibility while also minimizing income tax consequences.
Transfers vs. Rollovers.
A transfer occurs whenever you move funds between two retirement accounts of exactly the same type:
a traditional IRA into another traditional IRA,
a Roth IRA to a Roth IRA, or
an old 401(k) to a new 401(k).
If you want to move funds between two different types of accounts, for example, a 401(k) to an IRA, that's called a rollover, not a transfer. There are two types of rollovers. With a "direct rollover," the plan administrator will transfer funds directly from the old retirement account to the new one. With an "indirect rollover," the plan administrator will release the money in your plan to you.
Per the Internal Revenue Services’ website, beginning January 1, 2015, you can make only one rollover from an IRA to another (or the same) IRA in any 12-month period, regardless of the number of IRAs you own (Announcement 2014-15 and Announcement 2014-32). The limit will apply by aggregating all of an individual’s IRAs, including SEP and SIMPLE IRAs as well as traditional and Roth IRAs, effectively treating them as one IRA for purposes of the limit.
Trustee-to-trustee transfers between IRAs are not limited
Rollovers from traditional to Roth IRAs ("conversions") are not limited
Ownership of the IRA/Qualified Account
Ownership of an IRA/qualified account cannot be changed without the owner realizing immediate tax consequences. For example, we cannot change ownership of an IRA owned by one spouse to the other spouse without incurring immediate tax consequences. As such, in order to avoid tax consequences, the ownership of the IRA/qualified annuity must match the ownership of the original IRA.
In light of the above, when the community spouse is the owner of the qualified/IRA account and the goal is to spend-down the CS’ qualified account to secure Medicaid eligibility, the transaction is pretty seamless. If, on the other hand, the institutionalized spouse owns the IRA, we may consider using Name on the Check Rule or InMarriage QDRO.