Many of us became attorneys because our reaction to math was “Ugh, not if I can avoid it!”

Not to say any of us are bad at math, but after years of watching lawyer dramas, we didn’t exactly envision our legal careers involving intricate spreadsheets of income and asset classes, monthly care costs, divestment divisors, and so forth.

However, providing the best guidance to our clients often requires exactly that: a deep dive into what puts the client and their family in the best position and the long-term repercussions of any financial decisions they might make in the face of often daunting care costs.

So here we are, right back where we were trying to avoid: Doing math.

Peter Harbach headshotPeter Harbach, Marquette 2008, is a partner with Hooper Law Office in Appleton, where he focuses on elder law.

An Example

Andy Taylor, 82, is going into a memory care unit at the cost of $6,000/month. His son, Opie, is concerned that Dad will outlive his funds, and seeks your advice.

Dad’s monthly income from Social Security and a pension is $1900/month, leaving a monthly shortfall of $4,100/month. His assets are an IRA of $150,000 and the family home of $200,000.

What should he do?

Two Categories

There’s going to be varying opinions between elder law attorneys regarding the best course of action but most advice breaks down into one of two categories:

  • immediate eligibility planning (pooled SNT, single premium immediate annuity, promissory note, intent to return home, buy a car or other exempt items, etc.); or
  • divestment planning (creating and paying through a penalty period).

We’re going to assume there are no applicable exempt transfers.

Normally, there’s also the added complication of client and family objectives, but we’re going to stick purely to the math. Generally, the great thing about the listed methods of creating immediate eligibility is … wait for it … the immediate eligibility (defined here as relief in their monthly care cost). Divestment planning delays relief to some future date.

However, immediate eligibility plans generally mean that the assets will be subject to estate recovery later, whereas divested assets will not.

Which to Choose?

If you choose to do immediate eligibility planning, say, claim the home as exempt and annuitize the IRA over seven years (about $1785/mo.), he’ll be on MA right away. If the MA rate is $4,400/month, then we have achieved an immediate $1,600 per month savings. YAY!!

At this point the estate has a depletion rate of roughly $2,500/month (MA cost of care – income). Assuming no change in the cost of care, the estate is impoverished in 140 months. BOO!!!

If you choose to do divestment planning, say, gift the home and about $44k and annuitize the remainder of the IRA, he’ll be on MA in about 26 months. $6k out of pocket each month for 60 months will eat into about $106k of assets. BOO!!!

But at this point the estate has no more depletion rate. A known preserved amount around $244k. YAY!!!

Consideration: The ‘Break-even’ Point

If the client dies during the penalty period, he or she was (mathematically) better off never meeting the elder law attorney, because no savings was yet achieved (and we can’t work for free).

If he or she lives long enough on an “immediate” eligibility plan, the estate is all going to the State (usually not a beloved beneficiary).

Similarly, living long enough to get onto MA in a divestment plan isn’t a homerun, because the client gave up the immediate savings options (26 months of savings in my example) to get to that point.

This is what I’ve described to my clients as a “break-even” analysis between planning types: How long does a client have to live for divestment planning to provide better value than immediate qualification planning?

It boils down to simple … math!

Immediate planning has a depletion rate (roughly) for the estate = MA rate – income. In this case, depletion rate is $2,500/month. 350K – (2,500 x number of months) = estate value each month.

Divestment planning has a depletion rate (roughly) for the estate = Private pay rate – income during the penalty period and $0 thereafter. The continued value of the estate at that point is the transferred amount, which in our case is $244k.

This tells us that at about 42 months, the savings provided by the divestment plan will overtake the savings from an immediate qualification plan: our “break-even” point.

Now I can tell Opie the exact ramifications of each planning option. We just need to hope his crystal ball is working to tell us when Dad might pass.

A Side Note

I kept the math here to the basics. To provide more accurate guidance you’d want to :

  • attribute a depletion rate to maintaining the real estate;
  • assume some rate of return on the preserved investment assets;
  • calculate the estimated taxes on IRA withdrawals;
  • and build-in about a 3-5% annual increase in care costs.

The a-little-more-complicated math discussion is for another day!

This article was originally published on the State Bar of Wisconsin’s Family Law Section Blog. Visit the State Bar sections or the Family Law Section web pages to learn more about the benefits of section membership.