This is the second of a three-part series on the recently released final regulations that impact the Veterans Aid & Attendance pension benefit. In the prior blog post, I discussed the new net worth regulations, including the new bright-line test for net worth currently set at $123,600, the exclusion of certain assets like the primary residence from net worth and the VA's view on how assets and income can decrease.
The big news coming out of the regulations is that the VA is imposing a 36-month look-back period on asset transfers. For planners, the news is a bit of a mixed bag. As will be discussed, while the imposition of a look-back period and transfer penalty at all is a tremendous change in how veterans plan for the pension benefit, as compared to Medicaid, there are some differences that benefit the veteran - with only certain transfers being subject to penalty, with the penalty period beginning as of the first of the month after the transfer instead of the date of application and a five-year penalty cap (although arguably a well-planned application for Aid & Attendance should never trigger a five-year penalty).
Look-Back Period and Transfer Penalty
Prior to these regulations, veterans were able to transfer assets by gift in any amount on Day 1 and apply for the Aid & Attendance pension benefit on Day 2. This process was unlike Medicaid which imposes a transfer penalty for uncompensated transfers within the look-back period (currently 60 months). The VA did not, however, wholly adopt Medicaid's transfer penalty system and just shorten the look-back period. Not all asset transfers will result in an imposition of a penalty. Only those transfers which, had they not occurred, would cause or partially cause the claimant's net worth to exceed the net worth limit will create a penalty. §§3.276(a)(2) and 3.276(8)(e).1 In other words, if the claimant, at the time of transfer, has a net worth below the net worth limit, no penalty will be applied. The VA's policy is enshrined in the regulations as follows: "VA pension is a needs-based benefit and is not intended to preserve the estates of individuals who have the means to support themselves. Accordingly, a claimant may not create pension entitlement by transferring covered assets." §3.276(8)(b).
In order to understand the transfer rules, there are new terms which need to be mastered: "covered asset," "covered asset amount," "uncompensated value," and "transfer for less than fair market value." A covered asset is defined in §3.276(a)(2) as an asset (i) that was part of the claimant's net worth, (ii) that was transferred for less than fair market value and (iii) if not transferred would have caused or partially caused the claimant's net worth to exceed the net worth limit. The covered asset amount is the amount by which a claimant's net worth would have exceeded the limit due to the covered asset alone if the uncompensated value of the covered asset had been included in net worth. §3.276(a)(3). Uncompensated value means the difference between the fair market value of an asset and the compensation which an individual receives for it. However, in the case of a trust or annuity, "uncompensated value" means the entire amount of money or monetary value of an asset transferred to the trust or in exchange for the annuity. §3.276(a)(6). Therefore, the value of retained income interests or life estate are ignored2. A transfer for less than fair market value means (i) sales, gifts or exchanges of an asset for an amount less than the fair market value of the asset or (ii) a voluntary asset transfer to, or the purchase of, any financial instrument or investment unless the claimant establishes that he or she has the ability to liquidate the entire balance of the asset for the claimant's own benefit. (If it can be so liquidated, the asset is part of net worth.) Examples of such instruments or investments specifically include annuities and trusts. §3.276(a)(5).
So how do these terms work together? Essentially, transfers of assets within the 36-month look-back period for less than fair market value are potentially subject to imposition of a transfer penalty. However, only if the transfer of the asset brought the claimant's net worth below the net worth limit (i.e., is a covered asset) is the transfer subject to penalty and then only the uncompensated amount which would have exceeded the net worth limit (i.e., the "covered asset amount") is penalized. Transfers to annuities and trusts are disfavored because the entire amount of the transfer is considered the uncompensated value, unless the claimant has the power to liquidate the transferred asset for his or her own benefit. Thus, for trusts the language of the regulation suggests that the claimant must also be the Trustee or have the power to direct the Trustee to act. It is important to note that in all cases, only the covered asset amount (amount by which the claimant's net worth exceeds the net worth limit if the uncompensated value were included in net worth) is subject to penalty. Therefore, there is seemingly no credit for the claimant for any retained interest the claimant holds in the trust or the annuity (unless the claimant has the ability to liquidate the entire balance of the trust or annuity for his or her own benefit, in which case the trust or annuity is includible in net worth). §3.276(a)(5).
Exceptions and Caveats
There are some exceptions to the general rules explained above. In response to comments from the public regarding retirement plans which mandate a transfer to an annuity upon retirement, the VA amended the rules such that a mandatory transfer of deferred accounts to an immediate annuity pursuant to a retirement plan is not a "voluntary" asset transfer. Therefore, the transfer will not be a "covered asset" and hence not subject to penalty. Instead, the annuity will be considered a part of net worth and annuity payments will be considered to be income. §3.276(a)(5)(ii) and Supplementary Information (p. 47253).
In addition, transfers to certain trusts for certain disabled children of the veteran will also not be considered covered assets. §3.276(c)-(d). However, the exception only applies to trusts for the benefit of children whom the VA rated as incapable of self-support under §3.356, relating to children who became permanently incapable of self-support before their 18th birthday. Thus, practitioners will need to be aware of the child's status before making use of this exception. Unlike Medicaid policy which also exempts transfers to a disabled child, no direct transfer of assets to a disabled child will be an exception to the VA's transfer rules. It is also important to note that there can be no circumstances under which the income or principal of the trust can be used for the veteran, the veteran's spouse or surviving spouse.
The third exemption is that assets transferred as a result of fraud, misrepresentation, or unfair business practice related to the sale or marketing of financial products or services for purposes of establishing entitlement to VA pension will not be considered a covered asset. The claimant will likely need to provide evidence supporting the exception, including but not limited to a complaint contemporaneously filed with state, local, or federal authorities reporting the incident. However, the requirement in the proposed regulations that the claimant must provide clear and convincing evidence for the exception was dropped in the final regulations.
Finally, the regulations are drafted such that a transfer penalty is only imposed on the transfer of covered assets, defined in part as being assets included in net worth. It seems that the veteran's primary residence and personal effects (as defined in the regulations) may be freely transferrable because they are excluded from the definition of "assets" and are not part of net worth. §3.275(b). Creative planners could consider whether it makes sense to create a trust to which the primary residence is transferred and then to use the power of substitution prior to applying for VA benefits to remove cash and marketable securities from the claimant's net worth in return for the primary residence (upon transfer the power of substitution could lapse to prevent grantor trust status). At the very least, the primary residence may be able to be transferred to a trust for creditor protection and probate avoidance even if there is no ability to effectively substitute assets because there are insufficient liquid assets.
Calculation of Penalty
The penalty period is also calculated differently from Medicaid. The VA calculates the length of the penalty period (in months) by dividing the total covered asset amount by the monthly penalty rate and rounding the quotient down to the nearest whole number. §3.276(e). The monthly penalty rate is the maximum annual pension rate (MAPR) for a veteran in need of Aid & Attendance with one dependent that is in effect on the date of the claim, divided by 12 and rounded down to the nearest whole dollar. The MAPR for 2018 is $26,036, so the monthly penalty rate is $2,169.
In another difference from Medicaid, there is a cap on the penalty period of five (5) years. Thus, a transfer of covered assets in the amount of $130,140 or more on or after October 18, 2018 through the end of 2018 will incur a five-year penalty period. However, the penalty period begins on the first day of the month that follows the date of the transfer, not after the date of application as in Medicaid. Importantly, if multiple transfers are made, the penalty period does not start until after the date of the last transfer. §3.276(e).
A few observations about the cap and the start date of the penalty period: For large transfers that would otherwise trigger a penalty period in excess of three years, careful planning will prevent the imposition of any penalty period by simply delaying application for Aid & Attendance until after the 36-month period has passed. (Traditional half-a-loaf planning will be of use here because it makes provision to preserve sufficient assets to ride out the penalty period.) Since the transfer at this point is beyond the 36-month look-back period, the transfer is ignored. However, such careful planning can be easily undone if the client makes further transfers of covered assets, pushing back the beginning date of the penalty period to the date of the last transfer. Practitioners should therefore engage in client education to make sure clients make no further asset transfers after the planned transfer. Additionally, best practices may indicate that the initial asset transfer reduce the client's assets below the net worth limit so further asset transfers are not transfers of covered assets.
Unlike Medicaid, the penalty period is only recalculated under certain circumstances: if the original calculation is erroneous or if the VA receives evidence that some or all of the covered assets were returned to the claimant before the date of claim or within 60 days after the VA's notice to the claimant of the VA's decision concerning the penalty period. However, in order for this exception to apply, the VA must receive the evidence of return not later than 90 days after the date of the notice to the claimant concerning the penalty period. §3.276(e)(5). As a result of the short time period for cure, practitioners and clients must be vigilant in reviewing notices from the VA and acting swiftly to make any cures if necessary.
The new transfer rules are a sea change for many practitioners. The effective date rules provide that transfers made prior to the effective date (October 18, 2018) will be ignored, even if application is made after the effective date. §3.276(b). Thus, for clients who engaged in long-term planning (or even crisis planning) prior to the effective date, the transfers will not be part of the equation. The date of application will control which set of rules apply (other than with respect to a transfer prior to October 18, 2018). For Aid & Attendance applications that are pending on the effective date, if the claimant's net worth is below the new net worth limit, such claims will not be denied. However, if the claimant's net worth is above the limit, an administrative determination will still be required under the old rules. Thus, since the old rules of thumb regarding net worth would have created an asset limit under the new net worth limit, only current claimants whose net worth is changed as a result of a changed characterization of an annuity or other financial instrument are likely to face a possible denial. Claimants who are receiving pension on the effective date will continue to receive pension, even if their net worth exceeds the net worth limit, unless the claimant loses pension for another reason.
In the next installment of this series, I am going to talk about the expanded medical deductions which may be used to reduce a claimant's income for net worth purposes.
1Unless otherwise noted, section references are to 38 C.F.R., Part 3).
2The Supplementary Information specifically reserves the treatment of life estates to future rulemaking. It is thus unclear how the VA would value a life estate in property other than a primary residence or how it would treat the sale of a primary residence in which the claimant had a life estate.
Elizabeth ("Beth") Boehmcke, Esq.
Attorney, Content Specialist, InterActive Legal
Elizabeth (“Beth”) Boehmcke graduated cum laude from the University of Michigan Law School in 1993. After graduation from law school through 2003, she specialized in high net worth estate planning, with an emphasis on cross-border and asset protection planning, and the representation of fiduciaries managing complex trusts and family businesses.
During her career in New York, she was an associate attorney at both Rogers & Wells (now Clifford Chance) and Hodgson Russ in New York City. After a hiatus in her legal career to care for her children, she resumed her legal career by passing the Virginia bar in 2014 and began working for the Hook Law Center, P.C., where she expanded her estate planning practice to include elder law, specifically focusing on asset protection planning for Medicaid and Veteran’s benefits.
She is a proud graduate of the University of Virginia where she received a B.A. with distinction in Psychology in 1988 and is also a graduate of SUNY-Buffalo where she received an M.A. in Clinical Psychology in 1990.