How To Protect A Roth IRA from the Medicaid Spenddown Process
Individuals often use Irrevocable Trusts or Medicaid Trusts to protect assets from future long-term care events. However, it’s historically been challenging to protect Roth IRAs from the Medicaid spenddown process due to the fact that:
Roth IRAs cannot be owned by a trust
Roth IRAs do not have an RMD requirement
It’s especially problematic with the rise in popularity of processing Roth Conversions in retirement to take advantage of lower tax rates, reduce future RMDs, and pass more Roth dollars onto the next generation, which is arguably the most valuable type of asset to inherit. Not only are Roth IRAs inherited tax free, but the beneficiary can earn investment returns within that Inherited Roth IRA for another 10 years before receiving the full account balance tax free.
Things have also gotten better for residents of New York with Roth IRAs because the full balance of a Roth IRA may no longer be subject to the Medicaid spenddown process, thanks to a new strategy from our friends in the trust and estate arena.
A Trust Cannot Own Roth IRAs
While trusts can be set up to own brokerage accounts, real estate, and checking accounts, one of the long-standing challenges associated with protecting a Roth IRA is that an individual cannot transfer ownership of an IRA to a trust. This obstacle has not changed, but another workaround to this limitation has surfaced.
No RMD Requirement for Roth IRAs
One of the advantages of a Roth IRA over a Traditional IRA is that a Roth IRA does not have a Required Minimum Distribution (RMD) requirement. For traditional IRAs and other pre-tax retirement accounts, individuals born after 1960 are required by the IRS to begin RMDs at age 75 and continue them annually thereafter. This is a way for the IRS to collect some income tax on all the tax-deferred balances in these pre-tax retirement accounts.
Roth IRAs do not have an RMD requirement, which is viewed as an advantage, except when it comes to a long-term care event and the Medicaid spenddown process.
When an individual experiences a long-term care event, Medicaid tallies up all of that individual’s “countable assets” to determine how much needs to be spent on their care before Medicaid will start picking up the tab. Traditional IRAs are not considered a “countable asset,” but the annual required minimum distributions (RMDs) from traditional IRAs are considered income that must be applied to that individual's cost of care.
For example, Jim has a $300,000 brokerage account and a $800,000 traditional IRA. He sets up an Irrevocable Trust to own his brokerage account, makes it past the 5-year look-back period, and then has a long-term care event at age 83 that requires him to enter a nursing home. The brokerage account is completely protected, not subject to spending down. However, the Traditional IRA has a $800,000 balance, still owned by Jim, and he is receiving a $45,000 per year RMD. Instead of Jim having to spend down the entire IRA account, he just needs to commit the $45,000 RMD towards his care, and Medicaid will cover the remaining expenses. Using this strategy, Jim has been able to preserve both his $300,000 brokerage account and his $800,000 Traditional IRA, less the annual required minimum distributions (RMDs), for his children.
Roth IRA Voluntary RMD
Historically, Roth IRAs have been considered a “countable asset” for purposes of the Medicaid spenddown process in New York because there is no RMD requirement to covert that countable asset into an income stream. Recently, however, professionals in the trust and estate arena have successfully protected Roth IRAs from the Medicaid spenddown process by voluntarily turning on RMD distributions from the Roth IRA account, even though RMDs are not required from Roth IRAs, and Medicaid has accepted this approach.
For example, Sarah has a $300,000 Roth IRA that would normally be subject to the Medicaid spenddown process. Sarah has a long-term care event, and her power of attorney contacts the custodian of the Roth IRA and instructs them to begin annual distributions from the Roth IRA based on the IRS RMD table. The voluntary Roth RMD amount will be counted toward Sarah’s income threshold for purposes of Medicaid and eventually applied towards the cost of her care. Now that Sarah has converted the Roth IRA to a retirement income stream, Medicaid no longer requires Sarah to fully spend down the balance in the Roth IRA before submitting her Medicaid application.
Disclosure: I am a Certified Financial Planner, not a trust and estate attorney. The information in this article was obtained through firsthand experience consulting with trust and estate attorneys in New York, as well as with clients who have undergone the Medicaid application process. For legal advice, please consult an attorney. Additionally, note that Medicaid rules vary from state to state. If you live outside of New York, the Medicaid rules in your state may vary from the rules covered in this article, which are specific to New York.
About Michael……...
Hi, I’m Michael Ruger. I’m the managing partner of Greenbush Financial Group and the creator of the nationally recognized Money Smart Board blog . I created the blog because there are a lot of events in life that require important financial decisions. The goal is to help our readers avoid big financial missteps, discover financial solutions that they were not aware of, and to optimize their financial future.
