A promissory note Medicaid plan is a strategy in which someone applying for long-term care Medicaid lends part of their savings to a family member under a written note, and the family member repays it in equal monthly installments that help pay the nursing home bill during the penalty period created by an accompanying gift. It converts a countable lump of savings into a stream of payments.
Used correctly, with a lawyer, it can preserve a portion of a family’s assets while still getting the applicant onto Medicaid. Used incorrectly, it produces a penalty period with no money left to pay for care during it, which is the worst outcome in this entire area of planning.
The rules governing it are strict, specific and federal, and they exist because of documented abuse. Understanding why each requirement is there makes the requirements much harder to forget, which is the point of this page.
In This Article
Why the Rules Exist: What Families Did Before 2006
Before the Deficit Reduction Act of 2005, which took effect for transfers on or after February 8, 2006, two features of the law made asset transfers far easier to plan around.
First, the penalty period for a gift began in the month of the transfer. So a family could make a gift, wait out the resulting penalty while the applicant was still living at home and paying nothing, and apply for Medicaid later with the penalty already expired. The penalty ran during a period when nobody needed Medicaid.
Second, notes, loans and private annuities were only loosely regulated. A family could hand assets to a child in exchange for a note with a balloon payment thirty years out, or a note that was forgiven at death, and treat the transaction as a sale for value rather than a gift. In practice, the money left and never came back.
Congress closed both. The Deficit Reduction Act moved the penalty start date to the later of the month of transfer or the date the applicant is otherwise eligible for Medicaid and receiving institutional level care, and it extended the look-back for transfers to 60 months. Read how the look-back period works.
That second change is the one that makes note planning necessary at all. Because the penalty now starts only when the applicant is broke and in a facility, there has to be money coming in from somewhere to pay the bill while the clock runs. That is the note’s job.
The Three Conditions Congress Wrote Into the Statute
The same 2005 law added a specific test for loans, promissory notes and mortgages. A note that fails any part of it is treated as an uncompensated transfer, meaning the entire principal is counted as a gift and generates its own penalty. The three conditions are:
One, the repayment term must be actuarially sound. The note’s term cannot exceed the lender’s life expectancy, measured against the Social Security Administration’s actuarial tables in effect at the time. A five-year note to an 88-year-old lender fails. This condition exists to stop notes that were never intended to be repaid during the lender’s life.
Two, payments must be in equal amounts, with no deferral and no balloon payment. Level payments starting immediately. This condition exists because deferred and balloon structures moved the money out today and promised repayment on a schedule nobody expected to reach.
Three, the note must prohibit cancellation of the balance on the death of the lender. Whatever remains owed becomes an asset of the lender’s estate. This condition exists because self-cancelling notes were, in substance, gifts.
Every one of the three is a direct response to a real pattern. That is why they are worded so narrowly, and why a generic promissory note downloaded from a template site is very likely to fail.
| Requirement | What it means | The abuse it answers |
|---|---|---|
| Actuarially sound term | Term cannot exceed the lender’s life expectancy per SSA tables | Notes never expected to be repaid in the lender’s lifetime |
| Equal payments | Level installments, no deferral, no balloon | Back-loaded schedules that moved money out immediately |
| No cancellation at death | The unpaid balance becomes an estate asset | Self-cancelling notes that were gifts in substance |
| Penalty start date | Later of transfer or otherwise-eligible and in care | Running out the penalty while still living at home |
| 60-month look-back | Transfers within five years are reviewed | Short windows that made gifting easy to time |
How the Half-a-Loaf Structure Actually Works
The note is almost never used alone. The common structure pairs a gift with a note, and practitioners call it a half-a-loaf or gift-and-note plan.
Say an applicant has $200,000. The plan gifts a portion to family and lends the rest under a compliant note. The gift creates a penalty period. The note payments, plus the applicant’s Social Security and any pension, are what pay the facility during that penalty period. When the penalty expires, Medicaid begins paying, and the gifted portion has been preserved.
The arithmetic depends entirely on the state’s penalty divisor, which is the state’s figure for the average monthly or daily private-pay cost of nursing facility care. Divide the gift by the divisor and you get the number of penalty months. Divisors vary widely by state and are updated periodically; as of 2026 monthly divisors commonly fall somewhere in the range of roughly $7,000 to $15,000, but that range is illustrative only. Get your state’s current divisor from the state Medicaid agency or your attorney before anyone does arithmetic. Read how the penalty divisor works and what a half-a-loaf strategy is.
The failure mode is a mismatch: a gift that creates a longer penalty than the note payments can cover. When that happens, the family faces months of nursing home bills with no Medicaid and no note money, and the facility can pursue collection. The margin for error is small and the numbers must be run by someone who does this work regularly.
Where This Gets Complicated, and Who Decides
State variation is significant. Some states scrutinize note plans aggressively, some accept them routinely, and some have taken positions that differ from other states in the same federal circuit. Whether a note is treated as an available resource, because it could be sold at a discount, is itself a contested question in several states.
Other complications: the note payments are income to the applicant, which raises the patient liability owed to the facility. Interest on the note is taxable income to the lender and the IRS applicable federal rate matters for imputed interest, which is a CPA question. The borrower must actually be able to make the payments, and a family member who cannot is a plan that collapses. And the note is an asset of the estate, which means it can be exposed to Medicaid estate recovery after death.
Compare the alternative tool. A Medicaid compliant annuity accomplishes something similar with an insurance product rather than a family loan, has its own statutory requirements including naming the state as remainder beneficiary, and does not depend on a relative’s ability to pay. Which is better depends on the state, the amount, the family, and the marital situation.
None of this is a do-it-yourself project, and this page does not give Medicaid eligibility advice. Find a certified elder law attorney licensed in the state where the application will be filed. Free, unbiased general help is available through the State Health Insurance Assistance Program, and the state Medicaid agency will confirm its own current figures.
Where a Life Insurance Policy Fits Into This
A promissory note plan deals with cash and other countable resources. A permanent life insurance policy is often one of those resources, and it has to be dealt with before or alongside the note, not afterward.
Most state Medicaid programs count the cash surrender value of permanent life insurance as an available resource once the total face value of all policies on one person exceeds a small threshold, commonly $1,500 of face value. Term insurance with no cash value generally does not count. Read how life insurance is counted and confirm your state’s threshold with the state agency.
The options for a countable policy are the familiar ones, and each has a different interaction with the look-back. Surrendering the policy produces cash, which is a resource but not a transfer. Reducing it to paid-up coverage eliminates the premium. Assigning a small policy to an irrevocable funeral trust, where the state permits it, converts it to an excluded asset. Selling the policy in the secondary market is a sale for fair market value, not a gift, so it generally does not create a transfer penalty on its own, but the proceeds are then countable cash that has to be planned for like any other cash. Read how selling a policy interacts with the look-back.
Be clear about when to leave a policy alone. Small burial policies inside the exclusion, and policies a community spouse will need, generally should not be touched. Timing also matters: doing anything with a policy in the middle of a note plan, without counsel, can wreck the arithmetic the plan depends on.
Where a valuation is genuinely useful is at the start, so the attorney knows what every asset is actually worth. A free policy review supplies the market number alongside the surrender number at no cost and with no obligation. Pine Lake Legacy does not purchase policies and does not give legal, tax or Medicaid advice; we provide education and a valuation. Send the policy cover page or call (732) 978-9575.
Frequently Asked Questions
What makes a promissory note Medicaid compliant?
Under the rules added by the Deficit Reduction Act of 2005, the note must have a repayment term that does not exceed the lender’s life expectancy under Social Security Administration actuarial tables, must provide equal payments with no deferral and no balloon, and must prohibit cancellation of the balance on the lender’s death. Failing any one makes the whole principal a gift.
Why can’t we just make a gift and wait out the penalty?
Because the Deficit Reduction Act moved the penalty start date to the later of the transfer or the date the applicant is otherwise eligible and receiving institutional care. The penalty now runs when the person is already broke and in a facility, so there has to be income from somewhere to pay the bill during it. That is what the note supplies.
How is the penalty period calculated?
The transferred amount is divided by the state’s penalty divisor, which represents the average private-pay cost of nursing facility care in that state. Divisors vary widely and are updated periodically. Get your state’s current figure from the state Medicaid agency or your elder law attorney before anyone runs the numbers, because a stale divisor produces a wrong plan.
Can I use a template promissory note?
No. The statutory conditions are narrow and specific, and a generic note is very likely to fail at least one of them, which converts the entire principal into a gift with its own penalty. State treatment also varies significantly. This is work for a certified elder law attorney licensed where the application will be filed.
How does a life insurance policy affect the plan?
Most states count the cash surrender value of permanent policies as an available resource once total face value on one person exceeds a small threshold, commonly $1,500. That has to be addressed before or alongside the note. Term insurance with no cash value generally does not count. Confirm your state’s threshold with the state Medicaid agency.
Is selling a policy a gift for look-back purposes?
A sale for fair market value is a sale, not a gift, so it generally does not create a transfer penalty by itself. But the proceeds become countable cash that must be planned for like any other cash, and timing a sale in the middle of a note plan without counsel can wreck the arithmetic. Coordinate it with the attorney.
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Related Reading
- What Is The Medicaid Look Back Period
- What Is The Medicaid Penalty Divisor
- What Is A Half A Loaf Strategy
- What Is A Medicaid Compliant Annuity
- Medicaid Lookback Selling Policy
- Life Insurance Counts Medicaid Asset
- What Is Medicaid Estate Recovery
- How Much Is My Policy Worth
Pine Lake Legacy does not purchase life insurance policies and does not provide legal, tax, or investment advice. Information provided is for educational purposes only. Eligibility for any option, including life settlements, is not guaranteed and depends on individual circumstances, policy terms, underwriting, and market conditions. Consult independent legal, tax, or financial professionals before making decisions regarding a life insurance policy.