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529 E-ditorials

01-4: 529 and Medicaid
Joe Hurley
Thursday, May 17th 2001

Consider this scenario: Grandma is by no means "rich", but decides to devote a significant portion of her accumulated assets to college savings accounts for her three young grandchildren. She believes strongly in the value of a college education, and knows that the parents of these children will face a financial hardship in paying for college by themselves.

A 529 plan is the way to go, she decides, taking comfort in the fact that it is run by the state, the assets are professionally-managed, and the tax treatment is favorable.

Fast forward ten years. The college savings accounts have performed well, and it looks like they will be the primary source of college funds for the one grandchild who is already in college and for the two that are fast approaching college age. Unfortunately, however, Grandma has suffered an unexpected illness, and has been admitted to a nursing home for long term care. The costs of this care will quickly deplete her financial resources, and her children are looking to Medicaid to pay the bills once her money is gone.

"Hold on," says the state Medicaid agency. "You need to tap those college savings accounts to pay the nursing home bills before Grandma can become eligible for Medicaid."

"How can that be?"
"Those accounts were for the grandchildren, not for Grandma."
"How will we pay for college now?"

As things stand, this script will become all too real for many families. One of the most remarkable features of a 529 plan, the owner's ability to revoke the account, can also be a significant drawback for the individual who requires expensive nursing home care and does not have enough other resources to pay for it. Although the answer is not entirely clear, it appears that a 529 college savings account will be viewed as a "countable resource" in determining an individual's financial eligibility for Medicaid. As long as the account owner can get her hands on the money by requesting a refund, it must be used before Medicaid kicks in.

And it can get even worse. The state can decide to delay Medicaid payments for withdrawals already taken to pay college bills, if those withdrawals were taken during the 36-month "look-back" period (60 months if deemed a trust arrangement). So in Grandma's case, Medicaid is withheld for funds that she can no longer access because they have already been spent on the grandchild's college education.

How could such a harsh penalty fall on the family of an impoverished nursing home patient who unselfishly established college savings accounts many years ago? It would be a tragedy, and something needs to be done about it.

The states should come up with solutions. After all, they are the ones who developed the 529 plan for public policy reasons. The states actively promote these programs, and many have gone even further by providing special incentives and protections including state tax benefits, favorable financial aid provisions, and creditor protection of the accounts.

And it is the states that administer Medicaid. Sure, the Feds provide guidelines under Title XIX of the Social Security Act of 1965, but the states develop the rules that apply to their own residents. A recent decision in the U.S. District Court reaffirms the right of the states to call the shots, and here is a place where they should exercise that right. Every single state will soon have a 529 plan in operation, and so every single state should create the exemption that protects well-intentioned college savings accounts.

What should you do in the meantime? If you are thinking about making substantial contributions to a 529 plan (or have already done so), and are concerned about long-term care, you should speak with your attorney (long-term care insurance should be considered) and other financial advisers (Medicaid rules will vary significantly from one state to the next).

You should also look at the specific provisions of the 529 plan that you are considering. Perhaps you will be more interested in a 529 plan that allows you to transfer account ownership to your child prior to any look-back date. Maybe you will decide to set up the account with your child as owner of your grandchild's account in the first place. Much will depend on your own particular situation. But your options should be explored.

And it wouldn't hurt to contact your state elected officials.

Big news coming, folks! Prospects for a new Federal law that would exempt all earnings in a 529 plan keep getting brighter. As you read this both the House and Senate are in the process of passing a large budget and tax bill that would contain this provision. It sure will be nice when we don't have to worry about taxes eating into our college savings accounts! And it will be a huge boost to the 529 industry. Stay tuned.

» 05-4: The 529 marshals have arrived - 08/30/05
» Our 5.29th-year anniversary - 06/29/05
» 05-2: 529s and the new Bankruptcy Act - 04/28/05
» 05-1: Reform or Deform? - 02/27/05
» 04-6: Perspectives on the 529 debate - 12/28/04
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