A growing problem in estate planning is how to provide for special needs individuals (those who may be eligible for government benefits and programs due to a disability or otherwise) without disqualifying them from government benefits and programs they may need now or in the future. As most government benefits have a limit on the amount of assets an individual may have to qualify for such benefits, leaving assets to special needs individuals outright or in a standard trust may disqualify them from receiving those benefits.
One way around this issue is to leave assets for a special needs individual in a special needs trust. Assets in these trusts are only used to supplement, but not supplant (or replace), government benefits. As a result, the individual will not be disqualified from government benefits because the assets in the trust are not considered a “countable asset” for purposes of determining qualification.
For a trust to qualify as a special needs trust, there are certain restrictions on the distribution of assets. First, the assets should never be distributed directly to the special needs beneficiary, but instead should be distributed directly to the providers of goods or services. Secondly, the assets should not be used on anything that a government program would pay for, such as food or housing. For example, the trustee of the special needs trust could pay for clothing, cable/phone bills, non-food groceries, furniture, or movie tickets, but not rent, food groceries, or popcorn at the movie; however, the trust could purchase a home that the special needs beneficiary lives in.
There are essentially two types of special needs trusts: the third-party special needs trust and the first-party special needs trust.
The third-party special needs trust is created by anyone other than the special needs individual for the special needs individual’s benefit. It is funded with the assets of anyone other than the special needs individual. At the death of the special needs individual, no assets remaining in the third-party special needs trust need to be repaid to any state for funds spent on the individual’s behalf.
The first-party special needs trust is one that is treated as created by the special needs individual, because it is funded with the special needs individual’s assets. At the special needs individual’s death, any state that provided means-tested government benefits to them is entitled to be paid back from any remaining assets held in a first-party special needs trust, up to the amount of government funds spent on the individual. For this reason, first-party special needs trusts are not as ideal as third-party special needs trusts. First-party special needs trusts are often created when a special needs individual’s relatives have not planned properly by either gifting assets outright to the individual or leaving assets in a trust that does not qualify as a special needs trust. Frequently, a first-party special needs trust is used when a special needs individual receives a settlement in a lawsuit but still needs to qualify for means-tested government benefits.
With proper planning, relatives can provide for a special needs individual without disqualifying them from receiving much-needed government benefits, while at the same time protecting any such assets left in trust for the individual from claims by the state at the individual’s death.