Although important for all families, estate planning is critical for those with a special needs child or spouse. Eligibility for means-tested government benefits could be jeopardized by leaving an improperly structured inheritance to a special needs person. Consequently, finding a way to provide for special needs family members without interference with eligibility for government assistance is important to such families. Families also must take extra care to appoint a fiduciary capable of properly supervising the management of any funds left for a special needs person to ensure their funds are used to support the special needs beneficiary and not supplant their benefits from programs like SSI or Medicaid. The most common tool to achieve these objectives is a “special needs trust.” Last year, Congress enacted the Achieving a Better Life Experience Act (the ABLE ACT) to provide options that are less complex than the traditional special needs trust.
There are two kinds of special needs trusts: a first-party trust and a third-party trust. A first-party special needs trust is a trust that has been entirely funded with the assets of a special needs person. In contrast, a third-party special needs trust is funded by assets of someone other than the special needs person.
First-party special needs trusts are established by a parent, grandparent or guardian (or a court) but are funded with the assets of the special needs person who must be under the age of 65. The special needs individual is technically both the grantor and the beneficiary of the trust and as a result, will report any income earned by the trust on his or her tax return and will file a Form 1041 for the trust. Unlike a third-party special needs trust described below, upon the beneficiary’s death, the state Medicaid agency must be reimbursed up to the amount of the total medical assistance paid to or on behalf of the special needs person during his or her lifetime.
A third-party special needs trust can be created for a special needs person of any age, unlike a first-party special needs trust or ABLE Account, and is not subject to any Medicaid repayment requirements either when the trust terminates or the special needs person passes away. Once the assets become trust property, they are not considered “available” to the special needs person and are consequently not factored into any means-tested government benefits decisions, such as Social Security Disability Benefits. The trustee of a third-party special needs trust has complete discretion in making distributions to the beneficiary, which allows ultimate flexibility in providing for the special needs person’s needs while simultaneously maintaining his or her access to government benefits. It is advisable for the grantor of the trust to also ensure that other payable-on-death assets that may pass directly to the special needs beneficiary instead pass to the trust to ensure those assets are also not considered when determining government benefits.
Both first-party and third-party special needs trusts provide multiple benefits:
- Protect trust property from creditors;
- Protect trust property from potential misuse by the beneficiary; and
- Provide management and security after the death of the parent, grandparent or guardian.
Whether a first or third-party special needs trust, the trust agreement should include language permitting the unlimited, discretionary payment of trust income and principal for the “special needs” of the beneficiary and will require that a trustee place primary consideration on the beneficiary’s eligibility for government benefits when making such distributions. The definition of what constitutes “special needs” is a critical component of the trust agreement and must be artfully drafted to avoid triggering inclusion of trust assets for the purpose of determining eligibility for government benefits.
The ABLE Act provides an alternative to these types of special needs trusts. Special needs persons now have the ability to hold assets outside of trust without jeopardizing government benefits eligibility. Prior to the ABLE Act, a person receiving Medicaid benefits could usually only have $2,000 or less in savings in his or her own name. Now, if a special needs person holds his or her assets in an ABLE savings account, the first $100,000 is disregarded when determining government benefit eligibility and any income earned by the account is not subject to tax. ABLE accounts have unique eligibility and administration rules, as follows:
- Special needs person must be entitled to Social Security benefits due to a disability that occurred before the age of 26;
- Total annual contributions to the account by family and friends are tied to the annual gift tax exclusion, currently $14,000, each year;
- The account may be used for “qualified disability expenses” only, such as education, medical and dental care, job training, housing, and transportation; and
- Upon the death of the special needs person, any amount remaining in the account is subject to a repayment claim by the state.
After the passing of the ABLE Act, each state was required to pass its own law to implement the accounts, and most states, including the District of Columbia, Maryland, Virginia, California, and Texas have now fully incorporated it into state law.
Special needs trusts and ABLE accounts are two tools among many that are available to those caring for a special needs person. If you are looking to provide for a special needs person, you should discuss your options with an attorney in order to find the plan that will best provide for the unique special needs of your beneficiary.