Monday, November 17, 2008

James Ruling Impacts Annuities in Medicaid Planning

On November 12, 2008, the United States Third Circuit Court of Appeals issued its decision in James v. Richman (PDF, 15 pages), No. 06-5092, 547 F.3d 214 (3rd Cir., Nov 12, 2008), 2008 U.S. App. LEXIS 23530, aff'd, James v. Richman, 465 F.Supp.2d 395 (M.D. Pa., Nov 21, 2006), which upheld the purchase of a long-term annuity by a "community spouse" that converted excess assets of a couple into a stream of protected income in a pre-DRA setting.

Such federal appellate court decisions on a Medicaid issue are rare. This decision relates to a device previously often used to protect remaining assets of a couple when one spouse faced long-term institutionalized care.

In considering the effect of this case, it should be noted that the Deficit Reduction Act of 2005 (DRA) changed the federal Medicaid law rules regarding annuities. For a case that remains pending regarding a post-DRA situation, see: Weatherbee v. Richman, 1:2007-cv-00134 (US DC PA, 05/30/07). [See also: Comments by Jeff Marshall, Esq. below in an Update.]

For background regarding the changes wrought by the DRA, see:
PA EE&F Law Blog postings: "PA DPW's New Policies under DRA" (04/04/07); "DRA to be Effective in PA on Feb 1st ... no ... Mar 1st, 2007" (01/03/07); and "Pre-DRA Annuities in PA" (11/27/06).

Based upon holdings in the James case, the use of annuities in Medicaid planning may find increased flexibility until the annuity matures.

With permission granted by Attorney Jeff Marshall, I repost his article about the ruling and opinion in the James case, edited somewhat by me (including links).

Federal Third Circuit Upholds Use of Annuity
to Protect Community Spouse

Copyright © by Jeffrey A. Marshall, CELA [1]

In a notable decision, the Federal Third Circuit Court of Appeals, in the case of James v. Richman, issued November 12, 2008, upheld the purchase of an annuity by a community spouse that converts excess resources into protected income.

When her husband entered a nursing home in August 2005, Josephine James purchased a $250,000 single premium immediate irrevocable annuity. The actuarially sound annuity included an endorsement that “[t]his Contract may not be surrendered, transferred, collaterally assigned, or returned for a return of the premium paid. This Contract is irrevocable and has no cash surrender value. An Owner may not amend this Contract or change any designation under this Contract.”

The purchase of the annuity, combined with the purchase of an automobile, reduced the couples’ resources to within Medicaid resource eligibility limits. But, when Mr. James subsequently applied for Medicaid his application was denied.

The Pennsylvania Department of Public Welfare (DPW) took the position that Mrs. James $250,000 annuity was an available resource which put the couple over the resource limits. In the Department’s view, the annuity had a value of $185,000. In support of its position, DPW eventually produced a declaration from a finance company which expressed interest in purchasing the payments from Mrs. James’ annuity for $185,000.

The Third Circuit’s opinion was written by Senior Judge Jane Roth and joined by Chief Judge Anthony Scirica.[2] The central issue of the case is whether a state Medicaid agency can treat a non-revocable, non-transferable annuity as an available resource for purposes of calculating Medicaid eligibility. Or, in the alternative, can the state agency treat the steam of payments which the community spouse will ultimately receive from the annuity as an available resource.

Could DPW treat the annuity as a resource?

The Court relied on Medicaid law and SSI (Supplemental Security Income) Program regulations to find that DPW could not treat Mrs. James annuity as an available resource. It held that in determining whether an annuity may be treated as a resource a state cannot use a methodology that is more restrictive than that used by SSI. Under 42 U.S.C. § 1396a(a)(10)(C)(i)(III) “the Department can not treat as available resources any assets that the SSI regulations would not treat as available resources.” [Opinion, page 10].

Judge Roth noted that the SSI regulations provide that “if an individual has the right, authority or power to liquidate the property, or his or her share of the property, it is considered a[n] (available) resource.” 20 C.F.R. § 416.1201(a)(1). The SSI Program Operations Manual System (POMS) makes it clear that the “power to liquidate” referred to by the regulation is not simply the de facto ability to accomplish a change in ownership of an asset, but must also include the power to do so without incurring legal liability. See, POMS SI 01110.115. Since, Mrs. James lacks the legal power to change ownership in her annuity without breaching the annuity contract the annuity cannot be treated as an available resource.

Could DPW treat the payments to be received from the annuity as a resource of the community spouse?

DPW’s somewhat novel argument in James was that Mrs. James right to receive income from the annuity could be sold by her and thus could be treated as an available resource. In rejecting this theory Judge Roth noted that “[t]here is no statutory basis for such a theory and, indeed, adopting it would tend to undermine the MCCA rule that ‘no income of the community spouse shall be deemed available to the institutionalized spouse.’ 42 U.S.C. §1396r-5(b)(1). Under such a theory, there is no clear limit on the hypothetical transaction proceeds that could be treated as assets, whether based on the sale of a future stream of payments tied to a fixed income retirement account, social security, or even a regular paycheck.” [Opinion, pages 11-12].

It should be noted that the James annuity was purchased prior to the Deficit Reduction Act (DRA).[3] In a post-DRA case, Weatherbee v. Richman, US DC Western District of Pennsylvania, No1:07-cv-00134, DPW has taken the position that a provision in the DRA has given states the authority to effectively void the spousal income protections of 42 U.S.C. §1396r-5(b)(1) as applied to annuities.[4]

This reading of the section seems strained and appears to be at odds with CMS’s interpretation of this section.[5] Given the Court’s opinion in James, it seems increasingly unlikely that DPW will prevail in Weatherbee. In any event, post DRA spousal annuities do have to comply with the DRA transfer and remainder beneficiary rules set out in 42 U.S.C. § 1396p(c)(1)(G) and 42 U.S.C. § 1396p(c)(1)(F).

Judge Roth also rejected DPW’s argument that the court should look to the underlying purpose of Medicaid rather than relying merely on the words of the federal statute. The courts “do not create rules based on our own sense of the ultimate purpose of the law being interpreted, but rather seek to implement the purpose of Congress as expressed in the text of the statutes it passed. [A]n irrevocable, non-alienable annuity does not fit the statutory definition of an available resource.” [Opinion, page 12]


  1. Certified as an Elder Law Attorney by the National Elder Law Foundation. Attorney of the Marshall, Parker & Associates. Jeff practices law in the same firm as Matthew J. Parker, Esq., who represented the community spouse in the case under discussion. Both are principals of Marshall, Parker & Associates, LLC, a Pennsylvania elder law firm with offices in Williamsport, Wilkes-Barre, Scranton, and Jersey Shore.
  2. The third member of the panel, Judge Michael Fisher, would have Court for further fact-finding relevant to the annuity’s marketability.
  3. Deficit Reduction Act of 2005 (DRA) (Pub.L.109-171).
  4. Section 6012(a) of the DRA added a new section 1917(e) to the Social Security Act. Section 1917(e)(1), codified at 42 U.S.C. § 1396p(e)(4), states that ‘[n]othing in this subsection shall be construed as preventing a State from denying eligibility for medical assistance for an individual based on the income or resources derived from an annuity described in paragraph (1).” Paragraph 1 is the DRA section that requires disclosure on an application for Medical Assistance of a description of any interest the individual or community spouse has in an annuity.
  5. Contrary to DPW’s interpretation, CMS appears to interpret § 1396p(e)(4) to mean that the transfer of asset provisions of the DRA do not change the resource and income aspects of an annuity. “The State may take into consideration the income or resources derived from an annuity when determining eligibility for medical assistance or the extent of the State’s obligations for such assistance. This means that even though an annuity is not penalized as a transfer for less than fair market value (see II. Evaluation and Treatment of Purchases of Annuities and Certain Transactions On or After February 8, 2006 below for further information about treating the purchase of an annuity as a transfer of assets), it must still be considered in determining eligibility, including spousal income and resources, and in the post-eligibility calculation, as appropriate. In other words, even if an annuity is not subject to penalty under the provisions of the DRA, this does not mean that it is excluded as income or resource.” CMS State Medicaid Director Letter, SMDL # 06-018, July 27, 2006.

For other information about the decision in the case, see: "James v. Richman -- Decision of Federal Third Circuit Court of Appeals" (11/12/08), posted on the website of Marshall, Parker & Associates, LLC.

Update: 11/17/08 @ 5:30 pm:

After my posting, Jeff Marshall sent me an email message with clarification and further thoughts regarding the effect of the James decision upon the pending Weatherbee case, as follows:
Weatherbee did not find to the contrary. In fact, Weatherbee has not been decided. It is under submission. We think that the Judge for the Weatherbee case has been waiting for the ruling in James to issue his decision.

In my opinion, it is more likely than not that the Court in Weatherbee will rely on James and also find against DPW. DPW basically made the James case arguments in Weatherbee and added a very weak additional argument that a provision in the DRA saying it doesn’t change the income and resource rules therefore gives it the ability to ignore the income and resource rules when an annuity is involved.

It’s hard to imagine that the Weatherbee court will rule in favor of DPW given the very clear ruling in James.
Update: 12/08/08:

The Times-Leader (Scranton, PA) published an article on December 8, 2008, regarding the James decision, entitled "Annuity ruling sets standard" by
Terrie Morgan-Besecker, who noted that the "recent decision reaffirms other rulings that [an] annuity can’t be seen as asset in determining nursing home assistance."

The article notes that the effects of the ruling are viewed differently by those seeking to protect Medicaid benefits, versus those funding such benefits in the state budget.
The ruling by the Third Circuit Court of Appeals is the latest in a series of court cases brought by welfare officials in Pennsylvania and other states. The cases challenge a loophole in the Medicaid law that officials say has allowed affluent couples to use annuities to shelter assets that otherwise would be available to pay for an institutionalized spouse’s care.

The decision, issued last month in the case of Josephine James, is significant because it reaffirms prior court rulings, said James’s attorney, Matthew Parker of Williamsport. It will affect all residents in the states covered by the Third Circuit – New Jersey, Pennsylvania and Delaware.

But Jason Manne, chief deputy counsel for DPW, said the court’s ruling is fact-specific to the James case. Even though the department lost, Manne contends the legal reasoning the court employed will help DPW challenge the use of annuities in calculating Medicaid benefits.

The ruling is being closely monitored by attorneys on both sides of the issue as the stakes are huge. The average annual cost of nursing home care for one person is $60,000, according to DPW. Last year, Pennsylvania’s Medicaid fund paid out more than $3 billion to nursing homes.

While providing health care coverage to all persons is a laudable goal, DPW says, it has an obligation to ensure that Medicaid is utilized for those who truly need it. * * *
The article also notes that applicable rules may be changed by federal legislation. I think that this is likely, just as the rules were changed in 2006 (as noted in my prior postings).

For a different view as to the key holding of the James case, see "3d Cir.: A favorable Medicaid annuity decision under § 1983" posted by the National Senior Citizens Law Center, which focused more on litigant standing and review rights, rather than upon the substantive issues regarding the effect of an annuity purchase upon eligibility for Medicaid.