When a father approaches Medicaid nursing home coverage, families often move money out of his name. A common approach: he lends his daughter $240,000, she signs a promissory note, and repays him $4,000 a month. A compliant promissory note avoids the gift penalty, but on its own, though, it preserves almost nothing for the family.

The rule sits in 42 U.S.C. section 1396p(c)(1)(I). Money used to make a loan is treated as a transfer for less than fair market value unless the note meets all three conditions set out in the statute:

• The repayment term is actuarially sound and cannot run past the lender’s projected life expectancy per the Social Security Administration’s Office of the Chief Actuary.
• Payments are equal over the full term, with no deferral and no balloon payment.
• The note prohibits canceling the remaining balance when the lender dies.

A note that meets all three escapes the transfer penalty. If it misses even one, the state treats the money as a gift.

Escaping the penalty is a much smaller win than most families think. The note converts a countable asset into income. Each month, the daughter’s payment lands in his account. Once he’s in a Medicaid facility, his income goes toward his care, and Medicaid pays the remainder. The money flows from daughter to him to the nursing home. On its own, the note changes the form of the money and leaves the family with essentially nothing extra.

Notes work as part of a larger structure, usually called a half-a-loaf strategy. He gives part of his funds to his children and lends them the rest under a compliant note. The gift triggers a penalty period during which Medicaid won’t pay for his care. The note payments, along with his other income, cover the facility during exactly that stretch.

The penalty length comes from a formula: total amount transferred divided by the average monthly cost of nursing facility services to a private patient in the state. The clock starts after he has moved into a nursing home, spent down to the asset limit, applied, and been approved except for the transfer. The family keeps the gifted portion. The note bridges the gap, so the math must line up precisely.

• Timing. If the penalty lasts longer than the note payments, he’s ineligible for Medicaid and has no income to pay the facility.
• Missed payments. If his daughter stops paying, the money for his care stops. In one Oklahoma federal case, the court found that a non-negotiable promissory note was not a countable resource, which allowed the applicant to qualify for Medicaid.
• State scrutiny. Not every state allows promissory notes. MassHealth regularly rejects notes between family members even though its regulations permit them.
• Estate recovery and taxes. The note can’t be canceled at death, so any unpaid balance stays in his estate. Federal law requires states to seek repayment of nursing facility costs from estates of recipients who were 55 years of age or older. Interest he receives is taxable income. A family loan charging less than the applicable federal rate can trigger imputed interest under IRC § 7872.

Some transfers carry no penalty. The same federal subsection lists exceptions for spouses, disabled children, and certain sibling transfers. Assets can go to a spouse or a blind or disabled child without penalty. The caregiver child exemption covers only the home and requires two years of residence while providing care that kept the parent out of a facility. The sibling exemption requires home ownership and one year of residence before admission. If a family fits one of these, it doesn’t need a note.

An elder law attorney licensed in the state where he will apply must build this structure. Timing, penalty calculations, and the promissory note all depend on state-specific rules. Without using the state’s penalty divisor when drafting the note, there’s no way to know whether the payments will cover the penalty period they are meant to bridge.

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