Special Needs Trusts: What, Why, When and What Else?

Author: Jeffrey D. Scibetta

Originally published in October 2018

Copyright © 2018 Knox McLaughlin Gornall & Sennett, P.C.

This article has not been updated for current law since the date of its posting on the website. This article is not intended to provide any legal advice. Please seek advice of your professional council.

Any U.S. federal and state tax advice contained in this communication is not intended or written by the Knox Law Firm to be used, and cannot be used by you, for the purpose of: (i) avoiding penalties under the Internal Revenue Code that may be imposed upon you, or (ii) promoting, marketing, or recommending to another party any transaction or matter addressed herein.

What Is a "Special Needs Trust?"

In the most general sense, a special needs trust (also sometimes called a “supplemental needs trust”) is a type of trust arrangement that is designed to provide for the needs of an individual with special needs, i.e., needs above and beyond what people typically have, whether they be of a physical, mental or emotional nature.

A special needs trust (SNT) will most often be utilized when a beneficiary with special needs is receiving one or more forms of public assistance benefits that are resource limited, i.e., awarded only to persons with limited financial resources. Among the most common examples of such benefits are Medicaid (which in Pennsylvania is called Medical Assistance) and Supplemental Security Income (SSI).

See also: Special Needs Trusts

Objectives in Using a Special Needs Trust

Typically, persons creating an SNT want to provide for the needs of the special needs beneficiary, but to also do so in a way that does not disrupt the beneficiary’s present or future entitlement to one or more forms of resource-limited public assistance benefits, such as Medicaid or SSI. The SNT is a particular tool or technique used to accomplish these conflicting objectives.

What Can Happen If a Client Does NOT Use a Special Needs Trust (or other appropriate planning strategy)?

If a donor were to give resources directly to a special needs beneficiary or to a trust that does not have the proper language, then the gifted assets would be considered “available” to the beneficiary. The available trust assets could cause the beneficiary to be considered as having excess resources, i.e., more resources than the beneficiary is allowed to have to qualify for that particular type of benefit (e.g., Medicaid or SSI). The excess resources would in turn disqualify the beneficiary from receiving Medicaid and/or SSI. The beneficiary would then have to spend down resources before they could re-qualify for that particular type of benefit. The net effect of all of the above is that the gifted assets would be wasted – i.e., they in effect simply replace public benefits to which the beneficiary was already entitled.

Other Approaches

The creation of an SNT will often be the preferred technique to address the needs of a special needs individual. However, not all circumstances involving special needs beneficiaries call for the creation of an SNT, and indeed clients often see fit – sometimes wisely and sometimes unwisely – to address the needs of special needs individuals in different ways. Below is a list of other approaches in dealing with special needs individuals:

1. Not Planning at All. In many cases, clients and/or their advisors may not be aware of the public benefit restrictions discussed above, and so they may therefore not engage in any real planning at all. A client might therefore give funds directly to a special needs beneficiary with the results discussed earlier. This would ordinarily be the least desirable approach.
2. Intentionally Disinheriting the Special Needs Beneficiary. Sometimes clients resolve the issue by simply not giving any assets to the special needs beneficiary. That tends to make more sense in a smaller estate where the amount under consideration is not large. Under such circumstances, sometimes clients may decline to use an SNT because they feel it’s not economically justified.
3. Augmenting the Shares of Other (Caretaker) Beneficiaries. Sometimes when a client decides not to give funds to a special needs beneficiary, they may instead give additional funds to another beneficiary with the intent that the other beneficiary will use the funds for the special needs beneficiary. If the gift is made under a Will, the testator (person making out the Will) may include precatory (non-binding) language describing their intent that the recipient will apply the funds for the special needs beneficiary’s care – in other words, a kind of “de facto” trust arrangement. In certain situations, that might work out reasonably well. However, such an arrangement is not without risks, including the risk that the recipient refuses to follow the donor’s wishes (that the funds be used for the special needs beneficiary), or the risk that something might happen to the recipient that prevents the recipient from using the funds for the beneficiary. For example, the recipient of the funds dies – then what happens to those funds? Or, the recipient gets divorced, sued or experiences financial trouble.

Sources of Public Funding

Certain types of government benefits are awarded to a person based on their financial condition – i.e., they must have very limited resources in order to qualify. Other types of government benefits are awarded for reasons having nothing to do with a person’s financial circumstances and are therefore not conditioned on having limited resources. Planning for individuals with special needs involves strategizing to maximize those public benefits that are tied to the person’s resources.

The idea is to make sure that any gifting (during lifetime or at death) on behalf of a special needs beneficiary is conducted in a manner that does not disrupt or terminate their (current or future) resource-limited public benefits. It is therefore crucial to distinguish those sources of public benefits that are resource-limited from those that are not.

Public Benefits That Are NOT Resource-Limited

Social Security Disability Insurance (“SSDI”). SSDI is basically government insurance against premature disability. It is funded through social security payroll taxes and is based on your work history not on your financial condition.

Work Credits. To qualify, a person must have a certain number of “work credits” – i.e., quarterly periods worked. The exact number of required work credits varies, depending on the age at which the person became disabled. For example, a person who becomes disabled before turning 24 years of age must have 6 work credits (1.5 years worked), whereas a person who is disabled on or after age 62 must have 40 work credits (10 years worked). A person who is disabled after age 65 does not qualify for SSDI.

Qualifying Disability. The person also must have a qualifying disability – basically an impairment that prevents them from engaging in substantial gainful employment that is expected to last at least a year or result in death.

Qualification for Medicare. After receiving SSDI benefits for at least two years, a disabled person will become eligible for Medicare. (This is an exception to the normal rule that a person must attain 65 years of age before becoming eligible for Medicare – See below.)

Medicare. Like SSDI, Medicare is a government insurance program that is earned based on your work history and financed through employment taxes. It is essentially a government health insurance program for the aged. Normally, in order to qualify for Medicare, a person (a) must be at least 65 years of age and (b) must have at least 40 work credits (10 years of employment). There are exceptions where those requirements are relaxed – for example, in the case of a person who is disabled.

Public Benefits That ARE Resource-Limited

Supplemental Security Income (“SSI”). SSI is a federal income supplement program funded by general tax revenues (not Social Security taxes). It is designed to help aged, blind and disabled persons who have little or no income by providing cash to meet their basic needs for food, clothing and shelter. Accordingly, in order for an individual to be eligible for SSI, they must meet certain requirements relating to his or her financial condition. Under those requirements, an individual must have limited resources (assets) and limited income in order to qualify for SSI.

Medicaid (a/k/a “Medical Assistance). Medicaid is a federal health insurance program for low-income individuals that is operated by each of the states according to guidelines established by the federal government. The federal government requires the states to offer Medicaid coverage to certain classes of persons, including disabled individuals with low incomes. However, the states are allowed to have different eligibility requirements than the SSI disability program. Most states (32 states in all), including Pennsylvania, automatically grant Medicaid to any person that is approved for SSI based on disability. In these states, the SSI application is also effectively the Medicaid application.

Certain other states (7 states in all) use the same rules as the Social Security Administration uses for SSI to determine eligibility for Medicaid but require the filing of a separate application for Medicaid. Still other states (11 states in all) use their own eligibility rules for Medicaid, which are different from the SSA’s SSI rules. In most of these states, the eligibility requirements are more restrictive than those for SSI. However, even in those cases, the federal government has set limits on the states’ ability to adopt more restrictive eligibility rules.

Relationship of Medicaid to SSI. In most states (including Pennsylvania), a disabled individual’s qualification for SSI benefits therefore also directly affects their ability to qualify for Medicaid. For that reason, planning for an individual with special needs requires knowledge of the rules pertaining to SSI benefits.

SSI / Medicaid Eligibility Requirements

Summary of Eligibility Requirements for SSI

1. Categorical Eligibility – Aged (over 65 years of Age), Blind or Disabled
2. Income Eligibility – Income less than the FBR.
3. Resource Eligibility – Countable resources less than the threshold amount.
4. United States Citizenship
5. Residence in One of the 50 States

Definition of “Disability” for SSI. For SSI purposes, the term “disability” is defined differently, depending upon whether or not the person is an adult (over 18 years of age).

1. Persons Under 18 Years of Age. Persons under age 18 are considered “disabled” if they have a medically determinable physical or mental impairment (including an emotional or learning problem) that (a) Results in marked and severe functional limitations; and (b) Can be expected to result in death or to last for a continuous period of at least twelve (12) months.
2. Persons 18 Years of Age or Older. Persons aged 18 years or older are considered “disabled” if they have a medically determinable physical or mental impairment (including an emotional or learning problem) that (a) Results in the inability to engage in any substantial gainful activity; and (b) Can be expected to result in death or to last for a continuous period of at least twelve (12) months.

Income Eligibility. In order to receive SSI benefits, you cannot have monthly countable income in excess of the current Federal Benefit Rate (FBR). The FBR is a monthly amount that is set by law and revised annually to reflect cost-of-living adjustments. For 2018, the FBR was $750 per month for an eligible individual. The amount of a person’s income determines their eligibility for SSI and the amount of their SSI benefit. Generally, the more income a person earns, the lower their SSI benefit. If their income exceeds the applicable FBR, then they are ineligible for SSI.

Resource Eligibility. In order to receive SSI benefits, a person cannot own countable assets in excess of a specified amount at the beginning of each month.

Applicable Resource Limits:

• An individual who is unmarried cannot own countable assets of more than $2,000.
• An individual who is married cannot own countable assets of more than $3,000.

What is a resource? For SSI purposes, a resource is any cash or liquid asset or any real or personal property that can be converted to cash to obtain food and shelter. Basically, they are most assets that a person might own.

Excluded Resources (Not Counted toward SSI eligibility). Even though “resources” are broadly defined, certain assets are excludable, i.e., not counted toward a person’s eligibility for SSI benefits. The following are examples of resources that are excluded for SSI:

• Primary Residence
• Household Goods and Personal Effects
• One Automobile
• (Business or Non-Business) Property Essential to Self-Support
• Life insurance policies with a combined face value of less than $1,500
• Prepaid funeral/burial arrangements
• Up to $100,000 in an Achieving Better Life Experience (ABLE) account

How often are a person’s Countable Resources Determined? A person’s countable resources are determined on a monthly basis. They are then compared to the statutory resource limits to determine the individual’s eligibility for SSI for that month.

Special Needs Trusts vs. Other Types of Trusts

Availability of Trust Assets

A key concept in understanding special needs trusts is the notion of “availability.” Assets that are available to a beneficiary will ordinarily be counted toward the beneficiary’s eligibility for SSI and Medicaid; and as already noted, even a very small amount of countable assets can cause a beneficiary to become ineligible. For that reason, properly constructed SNTs are drafted in a manner that causes the trust assets to be considered “unavailable” to the beneficiary. That in turn raises the question: What causes trust assets to be considered “available” or “unavailable”?

When Are Trust Assets Considered Available?

The key determinant of whether assets will be considered “available” is the amount of discretion given to the trustee in making distributions to beneficiaries. If a trustee is given very broad discretion to decide whether to distribute (or not distribute) funds to a trust beneficiary and, if so, how much, to distribute to the beneficiary, then the trust beneficiary has, almost by definition, little, if any, say over how much (or how little) the beneficiary will receive. Under such circumstances, the trust assets are more likely to be considered “unavailable” to the trust beneficiary, insofar as the beneficiary has no real control over what happens to the trust assets.

Conversely, if the standard for making distributions is more specific, such that a trust beneficiary can legally enforce their right to receive trust distributions, then the entrusted assets are much more likely to be considered “available” to the beneficiary.

Power to Compel Distributions. If the trust agreement (either explicitly or implicitly) gives a trust beneficiary the power to compel payments from the trust (e.g., for “support and maintenance”), then such payments will be considered available resources.

Power to Terminate Trust. If the trust agreement gives a beneficiary the power to terminate the trust and take the trust assets (upon terminating the trust), then the trust assets will be considered available resources as to that beneficiary.

Power to Assign Trust Assets. If a trust agreement allows a trust beneficiary to assign his interest in the trust to creditors or others, then the trust assets will be considered available, insofar as the beneficiary has (indirect) access to the trust assets.

Support Trusts

When a parent creates a trust for one or more of their children, the trust agreement will often have language directing the trustee to apply the entrusted funds for the beneficiary’s “health, education, maintenance and support” (or for similar purposes). Under such an arrangement (often referred to as a “support trust”), the parent’s clear intention is for the entrusted money to be used to support the child; and the child is generally considered as having a legally enforceable right to such support from the trust. For that reason, assets in a “support trust” are ordinarily considered “available” to the beneficiary for SSI and Medicaid purposes.

Purely Discretionary Trusts. A purely discretionary trust is a trust that is drafted to give the trustee absolute discretion in determining whether (and how much) income and/or principal to pay from the trust to the trust beneficiary.

The flip side of the trustee’s broad discretion is that the beneficiary has no legally enforceable rights to any distributions from the trust. The beneficiary’s lack of rights over the entrusted assets makes the trust assets more likely to be considered “unavailable” to the beneficiary. Typically, a special needs trust will (and should) be structured as a purely discretionary trust.

In addition, the trust agreement for an SNT will typically also include language stating the settlor’s intent that the trust assets be used for purposes other than the beneficiary’s food or shelter needs, and that trust assets are not intended to supplant or replace any public assistance the beneficiary may be entitled to.

Types of Special Needs Trusts

Broadly speaking, special needs trusts are often classified based on who is furnishing the monies or other assets that are being used to fund the trust. Is the trust going to be funded with assets of the disabled beneficiary or instead with assets from persons other than the disabled beneficiary? The source of funding for the trust in turn affects the rules governing the creation and administration of the trust.

Third Party Special Needs Trusts

A third party SNT is a special needs trust that is established with assets from a person (or persons) other than the disabled beneficiary. Thus, the name: “third party special needs trust.” A third party (i.e., a person other than the trust beneficiary) provides funds to create a trust in which a designated person (the trustee) will administer the entrusted funds for the benefit of a disabled beneficiary. There is no specific statutory basis for third party SNTs – they have evolved through usage and practice and have been approved over time through court cases. For that reason, third party SNTs are often called “Common Law” Trusts.

First Party Self-Settled Special Needs Trust

First Party (“Self-Settled”) Self-Settled Special Needs Trust. A “first party” or “self-settled” SNT is a special needs trust that is established with assets of the disabled beneficiary. A disabled beneficiary (the “first party”) provides funds or other assets to a trustee to administer for the benefit of the “settlor” (i.e., the disabled beneficiary). Because the disabled beneficiary also acts as “settlor” (creator) of the trust, the trust is said to be “self-settled.”

Self-Settled SNTs are specifically provided for in the federal statutory law, and are therefore sometimes called “Statutory” Trusts. There are basically two different types of Self-Settled SNTs, and they are each named for the specific statutory subsection under which they are authorized:

1. “(d)(4)(A) Trusts” – The (d)(4)(A) trust is the type of trust that most practitioners refer to as a self-settled special needs trust. It is created under a trust agreement prepared by a lawyer that delineates the specific manner in which the trust assets are to be administered. The trust agreement is specific to the trust created thereunder. The trustee can be anyone whom the settlor designates in the trust agreement.
2. “(d)(4)(C) Trusts” – The (d)(4)(C) trust is more commonly referred to as a “pooled” trust. In a pooled trust, a disabled party contributes assets to an already existing trust that designates a non-profit corporation the trustee. Multiple beneficiaries “pool” their assets in a trust administered by the non-profit company. Each beneficiary has a separate account, but each such account is administered in accordance with a single trust agreement drafted on behalf of the non-profit trustee. The beneficiaries sign “joinder agreements” – in effect, agreements to abide by the terms of the trust agreement governing each of the beneficiaries’ accounts.

Third Party Special Needs Trusts

Who Can Act As Settlor?

As already noted, a third party SNT is one in which one or more persons other than the disabled beneficiary contribute their own funds to the trust. So technically, the Settlor (creator) of the trust could be any person(s) other than the beneficiary. So, for example, the Settlor(s) of the trust could be either (or both) of the beneficiary’s parents or grandparents, a sibling of the beneficiary, or even someone completely unrelated to the beneficiary.

Special Needs Beneficiaries

However, as a practical matter, third party SNTs are most often created by the parents of a child with special needs. In some cases, the children are minors but just as often they are adult children whose condition makes it likely (or at least possible) that they will not be able to fully provide for all of their own needs if they were ever to become fully emancipated from their parents.

Settlor's Primary Goal

The primary goal of most parents and other who choose to fund a third party SNT is typically to use the entrusted assets to enhance and enrich the life of the disabled beneficiary while still preserving one or more resource-limited forms of public assistance benefits to which the beneficiary is (or may in the future) be entitled.

When the Concern Arises. During the time that the beneficiary’s parents are still living, the parents will often do whatever is necessary to make sure that the needs of their disabled child are met. That can often be handled informally if, for example, the beneficiary lives with their parents. However, the parents will often be concerned about what will happen when they are no longer living and are therefore unable to care for their disabled child. At that time, a number of issues may arise, including:

• Where will the disabled child live?
• Will the child ever be able to become employed and provide for himself?
• What are the anticipated future needs of the child?
• How much money will be needed to provide for the child’s future needs?
• Who will take care of the child’s day-to-day needs?

The Role of the Third Party SNT. In many cases, a third party special needs trust (TPSNT) can be a helpful tool to address some of the issues just listed. A TPSNT is a vehicle that can be used to provide for a special needs individual’s anticipated future needs.

Drafting Considerations

There are a number of points that should be addressed in the trust agreement for a TPSNT.

1. Identification of the Pertinent Parties to the trust agreement. The trust agreement should identify all of the relevant parties to the agreement, including the Settlor(s), the Trustee, and the Beneficiary (or Beneficiaries).
2. Statement that the beneficiary meets the requirements for disability. It is also generally good practice to state that the beneficiary meets the requirements for disability and possibly also list the specific disability from which the beneficiary suffers.
3. Statement of the Settlor’s Intention that the trust qualifies as an SNT. The trust agreement should explicitly state the Settlor’s intention that the trust be treated as an SNT and the disabled beneficiary’s ability to qualify for means-tested public benefits protected.
4. Spendthrift Provision. Like most irrevocable trusts, a TPSNT should contain a “spendthrift” provision, i.e., language stating that the beneficiary has no right to demand access to or borrow against the trust. The spendthrift provision generally protects the beneficiary from the claims of creditors.
5. Trust Distribution Provisions - Distributions during the Beneficiary’s Lifetime. The trust agreement should include provisions specifically addressing the issue of trust distributions during the beneficiary’s lifetime. The trust agreement should clearly state that all trust distributions are subject to the trustee’s sole, absolute and unfettered discretion. This is one of the very most important – possibly the single most important – provisions in the trust agreement, because the purely discretionary distribution standard is what causes the trust assets to be considered “unavailable” to the trust beneficiary for Medicaid and SSI purposes. Stated differently, it’s basically what “qualifies” (or makes) the trust a SNT.

Food or Shelter Restrictions. The trust agreement should also state that the beneficiary has no right to direct the trustee to make distribution from the trust for the beneficiary’s food or shelter, because this is a requirement under the social security regulations.

Restrictions on Termination/Revocation. The trust agreement should also clearly state that the beneficiary has no right to revoke or terminate the trust, because such a right would cause the trust to be considered an available asset for SSI.

Distribution for Special Needs. It is also good practice to state that distributions from the trust are to be made for the beneficiary’s “special needs” and then to define such needs through examples.

Priority of Special Needs Beneficiary (over Others). It is also advisable to clearly state that the special needs individual is the primary beneficiary and that their interests take priority over the interests of any other beneficiaries, such as remainder beneficiaries. Note that, unlike a self-settled SNT, in some states (including Pennsylvania), the disabled beneficiary need not be the sole beneficiary of a third party SNT. However, most TPSNT agreements still typically clarify that, while the disabled beneficiary is still living, their needs are the primary concern.

Distributions at the Beneficiary’s Death. The trust agreement should always specify what happens to any remaining entrusted assets when the disabled beneficiary dies. So there should typically be provisions in the trust agreement for remainder beneficiaries following the disabled beneficiary’s death. (That is true for any type of SNT, but it’s especially important in a TPSNT because there is no required Medicaid payback and therefore a greater likelihood that there will actually be residual assets to distribute when the disabled beneficiary dies.)

Drafting Considerations - Fiduciary Provisions

There are a number of issues related to fiduciaries that should be included in the trust agreement, including:

• Successor Trustees. Who will succeed the Trustee if the initial trustee is unable to continue?
• Trustee Resignation. Under what circumstance can a trustee resign? Are there any formal requirements to resign?
• Removal/Replacement of Trustees: Who should hold the removal/replacement power? Should the power to replace be limited in some manner? (e.g., can the person with the removal power only replace a trustee with another trustee who is unrelated to the Settlor and/or the beneficiary).
• Trustee Compensation. Particularly if a corporate trustee is contemplated, it may make sense to specifically address the issue of trustee compensation.
• Trustee’s Fiduciary Powers. As in any trust agreement, the trustee’s fiduciary powers should be specifically set forth or at least addressed in some fashion.
• Ownership of a Residence. Although most trusts do not ordinarily own houses, it sometimes makes sense for a TPSNT to own a home for a disabled beneficiary. It may therefore make sense to include language in the trust agreement explicitly authorizing the trustee to own or purchase a home for the beneficiary. It may also make sense to include language authorizing the trustee to charge rent to the beneficiary (to limit ISM which reduces SSI benefits) or to forego rent entirely (if the beneficiary cannot afford to pay rent).

Benefits of Using a Third Party Special Needs Trust

1. Protecting the Beneficiary’s means-tested public assistance benefits.
2. Providing Additional Fund for the Disabled Beneficiary to cover needs not covered by public assistance benefits (such as Medicaid and SSI) or if public assistance benefits are eliminated or reduced in the future.
3. Control over distributions of the entrusted assets/funds
4. Investment/Money Management
5. No Medicaid Payback. When the disabled beneficiary dies, the assets in a TPSNT are ordinarily not subject to “estate recovery” claims by government agencies. There is no requirement that the assets/funds in a TPSNT be applied to reimburse the government for public benefits (such as Medicaid) paid to or on behalf of the beneficiary during his/her lifetime. That is a very important way in which a TPSNT differs from a Self-Settled SNT (discussed below).

Note: Government Reporting Requirements. A TPSNT does NOT have to be reported to the Social Security Administration (“SSA”) or to the state Medicaid Agency (in Pennsylvania, the Department of Human Services or “DHS”) prior to the time it is funded. Once the trust is funded, the trust agreement must be filed with the SSA. It is also generally considered good practice to file a copy of the trust agreement with the DHS once the trust is funded.

WHEN Can a Third Party SNT Be Created?

A TPSNT can be created during the Settlor’s lifetime (through an inter vivos trust agreement) or at the Settlor’s death (by Will or revocable trust agreement).

WHO Can Contribute to a Third Party SNT?

As noted, a TPSNT is funded with assets from persons other than the special needs beneficiary. Typically, the persons contributing funds to the trust will be the persons who created the trust (the Settlors). However, that does not necessarily have to be the case. Other members of the family or even unrelated persons could, for example, contribute funds to a TPSNT that was initially created and funded by the beneficiary’s parents. However, it would be important to make sure that none of the money going into the trust comes from the beneficiary because the beneficiary’s assets are treated much differently than those coming from persons other than the beneficiary.

Ways to Contribute to a Third Party SNT

A TPSNT can be created during lifetime or at death in a number of different ways, including:

• Through lifetime gifting
• Through provisions in one's Will (specific gift, pecuniary gift, or residuary gift)
• Through beneficiary designations (life insurance policies or retirement accounts, though it can get complicated)

WHEN to Fund the Trust

Clients will often request advice as to when they should fund the trust. For a TPSNT, it will ordinarily make most sense not to fund the trust during the Settlor’s lifetime because of the administrative and reporting obligations that will be triggered. Once the trust is funded, it will need to be administered, including preparation and filing of tax returns, filing the trust with the SSA, etc.

HOW MUCH to Fund

Another important question is how much a client should allocate to funding the trust. That requires gathering information and making assumptions about the disabled beneficiary’s anticipated needs, based on a number of different factors, including the nature of the beneficiary’s specific disability, potential sources of public benefits, other resources that may be available to the beneficiary, and the beneficiary’s anticipated life expectancy.

NOTE: This is where financial advisors can be very helpful in projecting realistic investment returns, determining a reasonable funding amount, and suggesting an appropriate investment mix.

Self-Settled Special Needs Trusts

As already noted, a self-settled special needs trust (SSSNT), a/k/a "(d)(4)(A)" trust, is an SNT that is funded with the disabled beneficiary’s own assets. Because an SSSNT involves the beneficiary’s own assets and because there are restrictions on how much a disabled beneficiary can own and still qualify for government benefits, the government treats an SSSNT differently than a TPSNT. The government takes a more active role in overseeing the administration of an SSSNT. In addition, the government expects to be paid back when the special needs beneficiary dies.

When To Use a Self-Settled Special Needs Trust

An SSSNT would typically be used in one of the following circumstances:

1. A personal injury lawsuit (involving a disabled beneficiary)
2. An inheritance (received by a disabled beneficiary)
3. A divorce (involving a disabled beneficiary)

Under such circumstances, the receipt of the lawsuit proceeds or inheritance or divorce settlement by a person on Medicaid/SSI could jeopardize the recipient’s eligibility for such benefits. It will therefore often make sense for such a person to divest themselves of such assets/funds in order to maintain their qualification for means-tested public benefits. One way that they can do that and still qualify for SSI/Medicaid is to transfer the assets/funds received to a SSSNT.

Statutory Basis

Unlike TPSNTs, SSSNTs are a creature of federal statutory law. In 1993 Congress created a statutory safe harbor authorizing the use of SNTs in circumstances such as those described above. SSSNTs are therefore sometimes referred to as “(d)(4)(A) trusts” (based on the federal statute under which they are authorized). They are also sometimes called “First Party Special Needs Trusts” because the person creating the trust (the Settlor) and the person benefitting from the trust (the beneficiary) are one and the same.

Statutory Requirements

Insofar as SSSNTs are authorized by federal statute, certain statutory requirements must be met to qualify as an SSSNT.

Disabled Person. The trust beneficiary must be “disabled” as that term is defined in the Social Security Act (see information above).

Funded with Assets of the Disabled Person. The trust must be funded with assets of the disabled beneficiary. Although there is some question as to whether assets from other sources can also be contributed, it is ordinarily not a good idea. Assets from other sources could potentially call into question the trust’s qualification as an SSSNT. In addition, the contributed assets would be subject to the trust payback provisions (discussed below) when the disabled beneficiary dies.

Under Age 65. An SSSNT can only be established by a person who is under 65 years of age. In practice, this means that the trust agreement must be executed and the trust funded prior to the beneficiary’s 65th birthday. Also, no additional amounts can be contributed to the trust after the beneficiary attains age 65.

For the Benefit of the Disabled Individual. The trust must be established for the benefit of the disabled individual.

The “Sole Benefit” Requirement. The SSA, through its administrative pronouncements (known as “POMS”), takes the position that this requirement means that distributions from the trust must be made solely for the disabled person’s benefit.

Pro Rata Share. The “sole benefit” rule has led to the concept of a “pro rata share.” Since the assets of an SSSNT must be used for the sole benefit of the disabled beneficiary, any other persons receiving incidental benefits must contribute their pro rata share back to the trust. For example, if an SSSNT purchases a home in which a family of four persons (consisting of two parents, one healthy child, and one child with a disability) live, then the parents and the healthy child must contribute their pro rata share of all expenses relating to the home. Otherwise, the trust funds are not considered to have been used for the “sole benefit” of the disabled person.

Third Party Travel. Under the POMS, a trust is prohibited from paying for travel for family members to visit a beneficiary of an SSSNT, unless the travel is necessary for the trust beneficiary to obtain medical treatment or to visit a beneficiary who resides in an institutional setting (e.g., a group home, assisted living facility, or long-term care facility) where a non-family member is being paid to provide or oversee the beneficiary’s living arrangement.

Family Caregivers. The SSA has also taken the position that a trust cannot pay a family caregiver to provide extraordinary care for a beneficiary of SSSNT, unless the family caregiver is “medically trained.”

Vacations. Historically, SSSNTs have paid for a family member to accompany a disabled beneficiary on a vacation, if the beneficiary is unable to go on the vacation by himself or herself. The SSA now takes the position that the trust can only pay for skilled health care trained individuals if a travel companion for the beneficiary is necessary.

WHO can establish the Trust? An SSSNT can only be established by the disabled beneficiary or by a parent, grandparent, legal guardian, or a court on behalf of the disabled beneficiary. In other words, the listed Settlor in the trust agreement must be one of the above.

Payback Requirement. An SSSNT must contain a payback provision stating that the state Medicaid Agency (the DHS in PA) shall receive all amounts remaining in the Trust upon the death of the beneficiary up to an amount equal to the total medical assistance paid on the beneficiary’s behalf.

Extent of Payback Obligation. The Medicaid payback obligation extends to any amounts paid by Medicaid on the disabled person’s behalf since birth. The payback obligation is not limited to Medicaid expenditures made after the trust was established.

Permitted Deductions. Despite the payback obligation, the trust agreement can nevertheless authorize the following expenses to be deducted prior to paying back the state Medicaid Agency: (1) Taxes owed by the trust to the federal or state government for death taxes resulting from the inclusion of the trust assets in the beneficiary’s estate for death tax purposes, and (2) Reasonable administrative expenses incurred in terminating and wrapping up the trust, such as accounting for trust activity, filing documents with the court and the like.

Prohibited Deductions. The following expenses are not permitted to be paid prior to reimbursing the State Medicaid Agency:

• Debts owed to third parties
• Funeral expenses
• Payment to residual beneficiaries

Early Termination. Some trust agreements will allow for “early termination” (i.e., termination of the trust prior to the death of the disabled trust beneficiary). Early termination provisions are often included to provide for termination if, for example, the beneficiary is no longer disabled or otherwise fails to qualify for SSI/Medicaid, or when the trust fund no longer contains enough assets to justify its continued existence.

Under the POMS, if a trust agreement contains an early termination provision, then each of the following requirements must be met in order for the trust assets to be considered “unavailable” to the beneficiary (or others):

• Upon early termination, there must be a payback to the State Medicaid Agency of the total amount of medical assistance paid on behalf of the beneficiary.
• No persons other than the disabled trust beneficiary may benefit from the early termination.
• The trust beneficiary cannot have the power to terminate the trust. The power must be vested in someone other than the beneficiary.

Drafting Considerations

As in the case of TPSNT, there are certain drafting points that should be considered. The drafting considerations for a SSSNT overlap to some extent with those for a TPSNT, but in some respects they also differ. In particular, SSSNTs have some additional requirements and are generally more closely scrutinized by the government, and so the drafting for a SSSNT should reflect that.

Statement that the beneficiary meets the requirements for disability. Since the beneficiary’s disability is one of the statutory requirements for an SSSNT, the trust agreement should note that the beneficiary meets the requirements for disability. It may also be advisable to list the specific disability from which the beneficiary suffers.

Statement of the Settlor’s Intention that the trust qualifies as an SNT. As in the case of a TPSNT, the trust agreement should explicitly state the Settlor’s intention that the trust be treated as an SNT and that it not disrupt the disabled beneficiary’s ability to qualify for means-tested public benefits.

Statement of Beneficiary’s Date of Birth. As previously noted, one of the statutory requirements is that the beneficiary must be under 65 years of age at the time of the trust’s inception. Accordingly, the trust agreements should explicitly state the beneficiary’s date of birth or age or at least state that the beneficiary is under 65 year of age. In addition, the trust agreement should prohibit any additional contributions to the trust after the beneficiary’s 65th birthday.

Broad Discretionary Distribution Language. As in the case of a TPSNT, the trust should provide the trustee with very broad discretion in deciding whether to distribute trust assets on behalf of the disabled beneficiary. “Support” language (e.g., providing for the beneficiary’s “support”, “maintenance”, “general welfare”, or “best interest”) should be avoided. In general, a specific, clearly defined distribution standard should not be used.

“Sole Benefit” Language. Because one of the legal requirements for a SSSNT is that it be solely for the benefit of a disabled beneficiary, the trust language should make clear that the trust is intended to be administered solely for the disabled person’s benefit during that person’s lifetime.

Distributions to Persons Other than the Beneficiary. The trust agreement should also clarify that any trust distributions on behalf of the disabled beneficiary are not to be made directly to the beneficiary but are instead to be made to third parties who will then provide the appropriate goods or services to the beneficiary.

Spendthrift Provision. As in the case of any SNT, the trust agreement should contain spendthrift language to further clarify that the trust assets are not controlled by or otherwise “available” to the disabled beneficiary or to creditors.

Payback Provision. As noted earlier, one of the legal requirements for an SSSNT is that the trust contain a provision for repayment of any Medicaid benefits paid on the beneficiary’s behalf to the applicable state government agency when the beneficiary dies. It therefore follows that any trust agreement for an SSSNT should contain a payback provision explicitly stating the repayment obligation to the applicable state agency.

Remainder Beneficiaries. The trust agreement should also provide that when the disabled beneficiary dies, if there are any remaining trust assets (after the state government agency has been reimbursed for any Medicaid provided to the beneficiary), then the remaining trust assets pass to designated remainder beneficiaries.

In many cases, the amount of Medicaid benefits provided on behalf of the disabled beneficiary will more than equal any remaining trust assets, and so there will be nothing left for the remainder beneficiaries. However, the trust agreement must nevertheless designate remainder beneficiaries. That is important not only because the trust agreement should exhaustively provide for disposition of the trust assets, but also because it goes to the trust’s qualification as an SNT. In some states, if the trust agreement does not clearly designate remainder beneficiaries, authorities have ruled that it does not qualify as a valid SSSNT. (The essence of the theory is that if there is only one trust beneficiary, then the trust is in effect revocable and therefore available to the beneficiary.)

Trust Protector Language. It will often be advisable to include language in the trust agreement designating a “trust protector” – a person with authority to remove trustees and designate new trustees and possibly also to modify certain provisions of the trust agreement for the purpose of protecting the beneficiary’s entitlement to public benefits. The trust protector language can also be helpful in advising clients regarding trustee selection. It will often be advisable for clients to utilize the services of a corporate trustee to administer an SSSNT. Designating a family member trustee protector (with the power to remove the trustee) may be helpful in addressing concerns clients may have about allowing a non-family member to administer the trust.

Exemption for Transfer Penalty

Certain transfers to an SSSNT are not subject to transfer penalties for SSI and Medicaid. That can sometimes be useful in circumstances where there is more than one family member who needs to qualify for SSI/Medicaid.

For example, an aging parent may need to qualify for Medicaid in order to pay for their long-term care (if they need skilled nursing care in the future). That aging parent may, however, have a disabled child who also needs to qualify for Medicaid to pay for their own future medical care. The parent may want to provide during their own lifetime for the disabled child but without compromising the parent’s own ability to qualify for Medicaid. Normally, a transfer by a Medicaid applicant would cause the applicant to be ineligible for Medicaid for a period of time if the applicant applies for Medicaid within 5 years of the date on which the transfer was made (the 5 year “look-back” period). However, if the parent transfers assets to a SSSNT, the transfer of assets to the SSSNT is “exempt” from any transfer penalty. The transfer therefore does not affect the parent’s ability to qualify for Medicaid, even if they needs it sooner than 5 years after the transfer.

Pooled Trusts

A “pooled” trust (a/k/a "(d)(4)(C)" trust) is a second type of SSSNT. It is therefore funded with assets from the disabled beneficiary. Like the SSSNT just discussed (the “(d)(4)(A)” trust), pooled trusts are statutorily authorized as part of federal legislation that was enacted in 1993.

As noted earlier, pooled trusts operate under a “master” trust document, i.e., a document that serves as the trust agreement for all of the various sub-accounts that are established by a non-profit corporate trustee for the various disabled beneficiaries served. So, in a pooled arrangement, the trust has already been created, and beneficiaries “pool” their funds by contributing them to the trust. The beneficiaries sign joinder agreements – i.e., an agreement by which they agree to abide by and accept the terms of the master trust agreement.

Statutory Basis (for a Pooled Trust). A pooled trust is sometimes also called a “(d)(4)(C)” trust, because they are authorized under a specific federal statutory provision, 42 U.S.C. §1396p(d)(4)(C).

Pooled Trust Statutory Requirements

In order to qualify as a pooled trust, the trust must meet several statutory requirements.

1. Disabled Person. The trust must hold assets of a person who is “disabled” within the meaning of the applicable Section[1] of the Social Security Act. (A person who is already receiving SSI or SSDI has already been determined to be “disabled” by the Social Security Administration and therefore no further determination is required for such a person.)
2. Non-Profit Trustee. The trust must be established and managed by a non-profit association. Under applicable SSA rules, a “non-profit association” is defined for this purpose as an organization that is exempt from federal income tax, pursuant to IRC §501(c)(3).
3. Separate Accounts. Separate accounts must be maintained for each beneficiary of the pooled trust.
4. Pooling. For purposes of investing and managing the funds, the trust pools the funds in the individual accounts. However, the trust must also be able to provide an individualized accounting for activity related to the accounts of each beneficiary.
5. “Established” by. The accounts in the trust must be established by the disabled beneficiary or by their parent, grandparent, legal guardian or by the court.
6. Sole Benefit. The accounts must be established solely for the benefit of the individuals who are disabled.
7. Retention/Payback. To the extent that any amounts remaining in the beneficiary’s account upon the beneficiary’s death are not retained by the trust, the trust must pay to the State from such remaining amounts in the account an amount equal to the total amount of Medicaid benefits paid on behalf of the beneficiary under the state Medicaid plan. In other words, when the beneficiary dies, any monies remaining in the account must either be retained by the trust to benefit similarly situated persons or be applied to pay back the State for any Medicaid provided to the beneficiary during their lifetime. As with any SSSNT, the State’s Medicaid claim will be for all Medicaid benefits provided at any point during the disabled beneficiary’s lifetime – in other words, it includes Medicaid paid prior to establishing the trust.

No 65 Years of Age Requirement

Unlike the SSSNT discussed earlier, in the case of a pooled trust, the statute does not specifically require that the beneficiary be under 65 years of age. So a person over 65 years of age can still be the beneficiary of a pooled trust. For SSI purposes, if a person over 65 transfers assets to a pooled trust for their own benefit, a transfer penalty will be imposed. For Medicaid, however, some states do not impose a transfer penalty to pooled trust transfers by persons who are over 65 years old.

When To Use a Pooled Trust

Generally, clients will want to consider using pooled trusts in the same type of circumstances as they would for the SSSNT trust, including:

• A personal injury lawsuit (involving a disabled beneficiary)
• An inheritance (received by a disabled beneficiary)
• A divorce (involving a disabled beneficiary)

When a Pooled Trust may be preferable to an SSSNT. In certain circumstances, a pooled trust may be preferred over a (d)(4)(A) trust. That would, for example, likely be the case where (a) the trust amount is very small; (b) the disabled beneficiary is very young and will therefore probably live a long time; and (c) there are no obvious/logical remainder beneficiaries.

When a Pooled Trust may not be preferable to an SSNT. On the flip side, a pooled trust may in certain circumstances not be preferred. For example, a client would be less likely to want to use a pooled trust where: (a) The funds are very large (e.g., a large inheritance or recovery); or (b) Family members desire to have more direct control over the administration of the trust.

Advantages of a Pooled Trust

The advantages of a pooled trust include the following:

1. The Trustee’s Expertise. Because the trustee is typically a professional organization devoted to servicing special needs individuals, the trustee will be more familiar with a number of rules and requirements relating to SNTs, including (a) Rules restricting trust distributions; (b) The impact of distributions on the beneficiary’s SSI/MA benefits; and (c) Reporting Obligations (e.g., to beneficiaries, to agencies, etc.).
2. Less Administrative Burden on Family. Use of a pooled trust typically reduces the administrative burden placed upon the family.
3. More Economical (particularly for smaller trust amounts). These trusts are less expensive to establish and administer.

Disadvantages of a Pooled Trust

The disadvantages of a pooled trust include the following:

1. Less Control. The family, by design, does not control the investment and distribution of the entrusted funds.
2. Dependence on Institutional Trustee. The family is of course relying on the expertise of the corporate trustee and so they may therefore want to do some of their own due diligence to check up on the organization’s track record.
3. Large Trust Funds. If the amount involved is especially large, such that, even after paying back Medicaid, there might still be a significant balance in the trust when the disabled beneficiary dies, a pooled trust may not be the best choice. The reason is because the remaining trust balance in a pooled trust would have to be retained in the trust and used for other disabled beneficiaries. Under such circumstances, and particularly, if there are other family members with significant needs, the trust may be the better option.

Administering a Special Needs Trust

Importance of Trust Administration

As many practitioners can attest, the manner in which an SNT is administered can be every bit as important to maintaining a client’s eligibility for public benefits as the way in which the trust document is drafted and funded. That is the case whether the SNT is a self-settled trust or a third party trust.

In the case of a self-settled trust, improper administration could disqualify the trust altogether and cause it to be viewed as an asset that’s impermissibly benefited persons other than the disabled person for whom it was established. However, apart from the “sole benefit” restriction, even when the disabled beneficiary is the only person benefiting from the trust, the manner in which the trust is administered can still affect the beneficiary’s eligibility for public benefits and/or the amount of benefits payable to the beneficiary.

Treatment of Trust Distributions (Impact on SSI/MA)

Distributions by a trust to or for the benefit of a beneficiary that are treated as “income” for SSI purposes will ordinarily reduce the monthly SSI benefit to which the beneficiary is entitled and can in certain circumstances negatively affect the beneficiary’s eligibility for SSI. Insofar as Medicaid benefits are in certain states directly tied to a beneficiary’s eligibility for SSI, such distributions can also potentially affect the beneficiary’s eligibility for Medicaid benefits.

Definition of “Income” It is important to understand that it is the SSA’s definition of income for SSI purposes that is relevant. For SSI purposes, income is broadly defined to include anything that an individual receives that can be used to meet his or her food or shelter needs. Accordingly, the manner in which the trust distributions are made affects whether or not they are considered income for SSI.

“In Kind Support and Maintenance” Another important concept to understand is that of “In Kind Support and Maintenance” (or ISM). ISM is food or shelter that someone else provides to a beneficiary. For example, if someone pays for all or part of a beneficiary’s rent or mortgage or food or utilities, the payment of such “food or shelter” expenses is ISM. ISM is considered income to the beneficiary, but it is valued under a special valuation rule (known as the Presumed Maximum Value rule or “PMV”) discussed below.

Distributions that ARE treated as “Income”

• Cash Distributions. Cash paid directly from the trust to the trust beneficiary is considered “income” to the beneficiary for SSI. The cash can be used for any purpose, including for food or shelter. Accordingly, the cash that the beneficiary receives from the trust will reduce the beneficiary’s SSI benefits dollar-for-dollar. If the cash distributions equal or exceed the beneficiary’s monthly SSI benefit, the beneficiary may also be disqualified for Medicaid that is tied to SSI. For that reason, trustees ordinarily avoid paying cash directly to a special needs beneficiary.
• Distributions Resulting in Beneficiary’s Receipt of Countable (Non-Excluded) Resources. Disbursements from the trust to third parties that result in the beneficiary receiving non-cash items (other than food or shelter) are “in-kind” income to the beneficiary if the items received by the beneficiary would be fully countable resources if retained into the month following the month of receipt. Example: If a trust purchases a car for the trust beneficiary and if the beneficiary’s spouse already owns a car that is excluded for SSI, then the second car is “income” to the beneficiary in the month received, since it would not be an excluded resource in the following month.
• Distributions Resulting in Beneficiary’s Receipt of “In-Kind Support and Maintenance” (Food or Shelter). If the beneficiary receives food or shelter as a result of distributions made from the trust to a third party, then the food or shelter is counted as income to the beneficiary in the form of in-kind support and maintenance (ISM), which is valued under the presumed maximum value (PMV) rule. Under the PMV rule, the reduction in the recipient’s SSI benefit is capped at an amount that works out to one-third of the monthly SSI benefit plus $20. Example: If the trustee pays for $1,000 worth of food that is delivered to the trust beneficiary, the receipt of the food by the beneficiary would be considered ISM. Under the PMV rule, the reduction in the beneficiary’s SSI benefit for that month would be capped at $270 (one-third of the maximum monthly SSI benefit ($750) plus $20).

Distributions that are NOT treated as “Income”

Distributions from the trust that are not cash distributions made directly to the beneficiary and that do not result in the beneficiary receiving “food or shelter” (or other countable resources) are not income. So, for example, if the trustee disburses trust funds to a person other than the beneficiary to pay for the beneficiary’s education, recreation, travel, entertainment, or medical services not covered by Medicaid, the distributions are not income. Additionally, disbursements for non-cash items (other than food or shelter) are also not income if those items would be excludable resources if held in the month following the month of receipt.

Example. The trustee could purchase a computer for the trust beneficiary and it would not be considered income to the beneficiary, because the computer (an excluded household resource) would not be a countable resource if the beneficiary holds it into the next month.

Home Ownership (By the Trust)

Should the Trust Own the Home?

A threshold question is whether it is desirable for a trust to own the home in which the special needs beneficiary resides. The answer depends on the type of trust involved.

Third Party Special Needs Trust. If the trust is funded with assets of someone other than the disabled beneficiary (i.e., the trust is a TPSNT), then it will often make sense to have the trust own the home. One important reason is because in the case of a TPSNT, there is no required Medicaid payback at the beneficiary’s death. Also, the trust’s ownership of the home will enable the trustee to control the maintenance of the home, including payment of the costs related to home ownership, such as mortgage payments, real estate taxes, insurance, etc.

Self-Settled Special Needs Trust. If the trust is funded with the beneficiary’s assets, (i.e., the trust is an SSSNT), then it will ordinarily be preferable not to have the trust own the home. One reason is because, in the case of an SSSNT, the trust will be subject to Medicaid payback when the disabled beneficiary dies. Another reason is because of the risk of running afoul of the “sole benefit” rule that applies to an SSSNT. If, for example, the home is also occupied by family members or other persons besides the trust beneficiary, then those family members or other persons must pay their pro rata share of any expenses in order for the trust not to violate the sole benefit rule.

Does the Trust’s Ownership of the Home Result in Income to the Beneficiary?

In general, a beneficiary does not receive ISM in the form of rent-free shelter if they are living in a home in which they have an ownership interest. If, however, a special needs trust holds title to a residence and the trust beneficiary lives in that home, then an issue arises as to whether the beneficiary has received rent-free shelter that should be treated as ISM.

Rent-Free Shelter (from Trust-Owned Property). If the property in which the trust beneficiary is living is owned by a trust (such as an SNT) that is not considered a resource of the beneficiary, the trust beneficiary is nevertheless not considered as receiving ISM in the form of rent-free shelter. The rationale is that the beneficiary has an “equitable ownership” interest in the trust assets (including the home). Thus, where a home is owned free and clear by a trust, the beneficiary’s rent-free use of the home in which they are equitable owner is not considered ISM to the beneficiary.

Outright Purchase of Home (by the Trust). If an SNT purchases the home outright (entirely for cash) and if the trust beneficiary lives in the home during the month in which the home was purchased by the trust, then the beneficiary will be treated as having received ISM equal to the home value in the month of the purchase. The ISM will reduce the beneficiary’s SSI benefit by not more than the PMV in the month of purchase only, regardless of the value of the home.

Financed Purchase of the Home (by the Trust). If an SNT purchases a home with a mortgage and the trust beneficiary lives in the home during the month of the purchase, the home would be ISM to the beneficiary in the month of the purchase. In addition, each of the subsequent monthly mortgage payments by the trust would also cause the beneficiary to be treated as having received ISM during each of the months in which the mortgage payments are made, with each payment valued at not more than the PMV.

Additional Household Expenses (Paid by the Trust). If the trust pays for other shelter or household operating expenses, the trust’s payment of such expenses would be considered income in the form of ISM to the trust beneficiary living in the home during the month in which the payments are made. Countable shelter expenses for this purpose include: mortgage payments, property taxes, rent, property insurance (if required by the mortgage lender), heating costs, gas, electricity, water, sewer, and refuse removal.

Trustee Selection

Importance of Selecting the Proper Trustee. Designating an appropriate person (or company) to serve as trustee is often a critical issue in any SNT. The problem can be especially difficult because family members often view the trust assets as family money and therefore want to be able to control distributions from the trust – whether out of a sincere concern for the disabled beneficiary’s needs or for other, more self-interested reasons. Trustee selection is especially important in an SNT because there are several important, complicated issues related to an SNT, and family members are often not fully equipped to handle such responsibilities (or indeed even aware of them).

Considerations in Selecting a Trustee. There are any number of factors to consider in selecting a trustee to administer an SNT.

Trustee’s potential legal liability. It’s important for anyone undertaking the responsibilities of trusteeship to understand the fact that, if something goes wrong, the trustee can be held personally responsible. It is also important for the trustee to understand the various ways in which legal liability can potentially be triggered, including:

• Making improper distributions
• Causing the beneficiary to lose public benefits
• Paying unnecessary taxes (or failing to pay necessary taxes)
• Poor investment performance

Knowledge of the applicable legal requirements. The trustee should have a working knowledge of any number of different laws, including those applicable to public benefits (such as Medicaid and SSI), taxes, trust accounting, etc.

Investment Expertise. The trustee should understand that it is their responsibility to plan for and properly balance the beneficiary’s current and future needs, and to invest the trust funds accordingly. That will often entail budgeting, projecting the beneficiary’s anticipated future needs, projecting the future income and growth of the trust funds, and establishing an appropriate asset allocation strategy.

Avoidance of Potential for Family Friction. If a family member serves as trustee, that can often place the family member in a position that will generate friction with the beneficiary. Frequently, parents will create a trust for a child in order to protect that child from themselves and/or from others who might take advantage of them. If a sibling serves as trustee, the sibling will often be in the difficult position of having to say no if the distribution request is inappropriate or inadvisable. That will often create or exacerbate tensions between the siblings, which may be the very thing a deceased parent wanted most to avoid.

Avoidance of Potential Conflicts of Interest. In many cases, the remainder beneficiaries of an SNT are other members of the beneficiary’s immediate family (such as siblings). If a family member is also serving as trustee, that can potentially put the family member in a situation where there is a conflict between the interests of the disabled beneficiary (the lifetime beneficiary) and the interests of the trustee (as a remainder beneficiary of the trust).

Administrative Costs. Another important consideration is the cost to administer the trust. Particularly if the trust balance is relatively small, cost will often be a heavily-weighted concern on the part of the beneficiary’s family. Because of the expertise required of a corporate trustee (particularly for an SNT), the trust administration costs, in percentage terms, may be seen (by family members) as high. However, family members typically do not fully appreciate all of the tasks and risks that are entailed in administering an SNT. For that reason, they often do not fully understand that in this particular context, one “gets what they pay for.” Consequently, it’s important for advisors to properly educate clients and family members, so that they can make the best possible selection.

Reasons to consider a Corporate Trustee. In many (though not all) cases, clients will be well advised to designate a corporate trustee that has a deep reservoir of knowledge in the various responsibilities of a trusteeship.

Trust Protector

It is often possible to address concerns clients may have about using a corporate trustee by designating one or more family members “Trust Protector” and by giving the Trust Protector broad authority to remove and replace the trustee if they (the Trust Protector) deems it in the beneficiary’s best interest to do so.

ABLE Accounts: An Alternative/Supplement to the SNT

“ABLE” accounts are tax-favored accounts for disabled persons that are authorized under a specific statutory provision in the Internal Revenue Code (Code or IRC), §529A. Congress added §529A to the Code in December 2014 pursuant to the “Achieving a Better Life Experience” (ABLE) Act. §529A authorizes states to adopt ABLE Savings Programs. Most states, including Pennsylvania, have adopted such programs.

What is the Pennsylvania ABLE Savings Program?

The Pennsylvania ABLE Savings Program (PA ABLE) is a state program that gives individuals with qualifying disabilities a tax-advantaged way to accumulate money without losing means-tested government benefits to which the disabled individual may be entitled, such as Medicaid and SSI.

What is an ABLE Account?

An ABLE account is a financial account opened by or for an eligible individual with a Qualifying Disability. Money contributed to an ABLE account can be invested in the manner provided by the state ABLE program. The Pennsylvania ABLE program allows for any combination of seven different investment options, six of which include varying blends of stocks, bonds and cash, and the seventh being an FDIC-insured interest bearing checking account.

Who Can Contribute to an ABLE Account?

Any person(s) can contribute to an ABLE account. So the funds can come from the account owner or from family, relatives or friends of the account owner.

Who Controls the ABLE Account?

If the ABLE account owner (disabled beneficiary) has the ability to enter into contracts (i.e., not a minor or incapacitated adult), then the account owner will have complete control over their accounts. No trustee or representative is needed.

Account Owners Lacking Capacity. If the account owner (disabled beneficiary) lacks the capacity to enter into contracts (e.g., a minor or incapacitated adult), then a parent, guardian or power of attorney will need to open the ABLE account, and will retain control over the account unless/until they relinquish control over the account.

Beneficiary's Entitlement to Government Benefits

Probably the most important aspect of an ABLE account is that the existence of the account generally will not affect the disabled beneficiary’s entitlement to various means-tested forms of government benefits, such as Medicaid and SSI.

Medicaid. The money in an ABLE account does not affect a disabled beneficiary’s eligibility for Medical Assistance (Medicaid), because ABLE account balances are disregarded in determining Medical Assistance (Medicaid) eligibility.

Supplemental Security Income (SSI). In general, funds in an ABLE account will not affect a disabled beneficiary’s SSI benefits. However, there are two exceptions: the first exception is if the value of the ABLE account exceeds $100,000, and the second exception is if funds are withdrawn for housing or Non-Qualified Expenses and the money is not spent in the same month that the money was withdrawn.

Exception #1 – More than $100,000 in the ABLE account. If the funds in an ABLE account exceed $100,000, then any amount over the $100,000 limit is counted as a resource. So if the excess over $100,000 in the ABLE account puts the beneficiary above the SSI resource limit (currently $2,000 for single persons), then the beneficiary’s monthly SSI benefits will be suspended until the beneficiary’s total counted resources fall below the limit.

Example #1: If the amount in a disabled beneficiary’s ABLE account is $101,000, and the beneficiary has an additional $900 outside the ABLE account, then the beneficiary’s SSI benefit is not suspended, because the excess ($1,000) plus the beneficiary’s other countable resources ($900) are still below the applicable resource limit ($2,000).

Example #2: If the amount in the disabled beneficiary’s ABLE is $101,000, and the beneficiary has an additional $2,000 outside the ABLE account, then the beneficiary’s SSI benefit is suspended, because the excess ($1,000) plus the beneficiary’s other countable resources ($2,000) exceed the resource limit.

Exception #2 – Money withdrawn for Housing or Non-Qualified Expenses. Money withdrawn from an ABLE account that is used for housing expenses or Non-Qualified Expenses will affect the beneficiary’s SSI benefit if the money is not spent in the same month the withdrawal is made from the account.

Example: If a beneficiary withdraws $1,000 from an ABLE account on October 10 for rent, then they should pay that money to their landlord on or before October 31.

Income Tax Treatment of ABLE Accounts

Tax Treatment of Contributions. Contributions to an ABLE account are not deductible for federal income tax purposes. However, if the contributions are made to a PA ABLE account, the contributions are deductible for PA state income tax.

Tax Treatment of Account Earnings. During the time that the contributed funds are in the ABLE account, the earnings and growth on the money in the ABLE account are tax-deferred both for federal and for state tax purposes.

Tax Treatment of Distributions. An ABLE account owner may withdraw the funds in their ABLE account at any time for any purpose. However, the tax treatment of money withdrawn from an ABLE account depends upon the purpose for which it was withdrawn.

Qualified Disability Expenses. If the withdrawn funds are used to pay for Qualified Disability Expenses (QDEs), then the withdrawal from the ABLE account will be completely exempt from income tax (both federal and state).

Non-Qualified Withdrawal. If the withdrawn funds are used to pay for anything other than Qualified Disability Expenses (QDEs), then the “growth” portion (i.e., the tax-deferred earnings build-up) of the distribution will be subject to federal and state income. It would also be subject to an additional 10% federal tax.

Estate/Inheritance Tax Treatment of ABLE Accounts

If the ABLE account owner dies, the entire value of the ABLE account is exempt from Pennsylvania Inheritance Tax.

Eligibility

In order to establish an ABLE account, the account owner must have a severe disability, based on Social Security criteria, that began prior to age 26.

Establishing Eligibility. Eligibility can be established in either of two ways:

1. By showing that the beneficiary is currently eligible for Social Security Disability Insurance (SSDI) or Supplemental Security Income (SSI) benefits, based on a disability that began before age 26; or
2. By certifying that the beneficiary has a “medically determinable impairment” “which results in marked and severe function limitations” that are expected to last for at least 12 consecutive months or is likely to result in death, based on a disability that began before age 26.

Must the Account Owner be a resident of Pennsylvania? No. A resident of any state can open a PA ABLE savings account.

Can an Eligible Individual have more than one account? No. An individual can only have one ABLE account.

Can an ABLE Account have more than one Beneficiary? No. An ABLE account can have only one beneficiary

Annual Contribution Limit

The maximum amount that can be contributed to an ABLE account during any year is currently $15,000. (The annual contribution limit is tied to the annual exclusion from federal gift tax, which is indexed for inflation. So the limit is periodically increased to account for inflation.). It is a per account limit. So no matter how may persons contribute to the account, the maximum amount that can be contributed from all sources cannot exceed the $15,000 threshold.

Limit on Account Value

The dollar limits on how much can be retained in an ABLE account vary from state-to-state. (The state’s ABLE account limits cannot exceed the limits established for the state’s §529 college savings account.) In Pennsylvania, the maximum value that an ABLE account can have is currently $511,758. Once the limit is reached, no additional contributions can be made to the account.

Contributing additional value to the account in excess of the limit (listed above) on account value would cause the account to be a countable resource for Medicaid.

Also, remember that an account value in excess of $100,000 is considered a resource for SSI.

Qualified Disability Expenses

Under the statute, “qualified disability expenses” are somewhat vaguely defined as “any expenses related to the eligible individual’s blindness or disability, which are made for the benefit of the eligible individual.” The statute goes on to list the following examples of what might qualify as QDEs:

• Health
• Education (including tuition, books, supplies)
• Housing (including mortgage, rent, taxes, utilities)
• Transportation
• Employment Training and Support
• Assistive Technology and Personal Support
• Prevention and Wellness
• Financial Management and Administrative Services
• Legal Fees
• Expenses for Oversight and Monitoring
• Funeral and Burial Expenses

Can An ABLE Account Be Transferred to a Different Beneficiary?

Yes. An existing ABLE account beneficiary (the “old beneficiary”) can transfer the account, without tax consequences, to a different beneficiary (the “new beneficiary”) if the new beneficiary is a sibling (of the old beneficiary) and has a disability that qualifies them to be an eligible individual.

What Happens to the ABLE Account When the Beneficiary Dies?

When the account owner dies, the ABLE account can be used to pay for any outstanding QDEs or any funeral and burial expenses. Under the proposed Treasury Regulations, if the ABLE account owner dies, the ABLE account becomes part of their estate. When the assets are transferred to the estate, any growth on the contributions will be subject to income tax but not the additional 10% tax applicable to Non-QDE withdrawals.

Medicaid Payback

Under Pennsylvania law, the Department of Human Services (DHS) [i.e., the state agency responsible for administering Medicaid in PA] may not file a claim against a PA ABLE account. However, once the assets in the ABLE account have been transferred to the decedent’s estate, the DHS could seek repayment from the estate as part of its Medicaid Estate Recovery Program. Nevertheless, under the Pennsylvania program, Estate Recovery will only be sought if the decedent was 55 years or older and received Medical Assistance for Nursing Facility Care, Home and Community Based Services, or similarly related services.

See also: Special Needs Trusts

Author: Jeffrey D. Scibetta

Originally published in October 2018

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