An individual with disabilities may have assets from a lawsuit award or settlement, or from a gift or inheritance. Unfortunately, these assets can disqualify the person from receiving essential needs-based government benefits such as Medicaid and Supplemental Security Income (SSI). This is because qualifying for some of these public benefits programs require that you meet strict asset limits.
A special needs trust (SNT) can allow the person to preserve these assets while helping to enhance their quality of life. At the same time, with an SNT, they don't have to worry about losing the needs-based public benefits on which they may rely.
Why Should I Establish a Special Needs Trust?
An SNT is a specific kind of estate planning tool popular in the realm of special needs planning. (Another name for it is a supplemental needs trust.) This kind of trust is established to supplement, rather than replace, the kind of basic support that programs like Medicaid and SSI provide.
They can benefit people with disabilities or chronic health conditions who need this type of assistance. SNTs can pay for anything the trust document outlines. This can include comforts and luxuries that meager public assistance funds do not cover.
Some people have come to think of a special needs trust as similar to a “parent's pocket.” That is, it can pay for the kinds of things that a parent would just reach into their pocket to cover. These trusts typically pay for amenities beyond the simple necessities of life. An SNT may cover the costs of things like education, recreation, hobbies, transportation, and certain therapy and rehabilitation services.
Special Needs Trusts Spending Rules Are Specific
Funds held in a properly drafted special needs trust should not affect a Medicaid or SSI recipient’s benefits. The spending rules for a special needs trust can prove quite complicated, however. For example, SNT funds must be for the sole benefit of the person with the disability.
Sitting down with a qualified special needs planner to talk through the ins and outs is vital. Work with them to discuss what you intend to do with your trust before making any payments to anyone. Failing to follow the rules can mean jeopardizing one's access to public benefits.
Main Types of Special Needs Trusts
Two main types of special needs trusts exist: first-party and third-party special needs trusts.
First-Party SNTs
In a first-party special needs trust, the assets in the trust belong to the person living with the disability. The trust funds may have come from an award or settlement from a medical malpractice case, for example. Generally, the beneficiary of a first-party SNT must be younger than age 65 when setting up the trust.
Some special needs planning attorneys will refer to these trusts as "self-settled" or "self-funded" trusts.
Third-Party SNTs
When someone establishes and funds an SNT for an individual with a disability, it is a "third-party" trust. A parent, grandparent, or other donor may create a third-party SNT to benefit a disabled loved one.
For example, the beneficiary may be a minor child who is living with disabilities. Later in life, they will be able to benefit from the funds in the SNT. (There is typically no age limit for the beneficiary of a third-party SNT.)
In a third-party special needs trust, the donor can place funds that include life insurance policies and investments, as well as real estate. If the trust beneficiary receives Medicaid, the state cannot recoup funds it spent on these benefits after their death.
Pooled Trusts
A third type of SNTs, pooled special needs trusts, contain the funds of many people with disabilities and may be appropriate for some families. (Note that some attorneys refer to these as (d)(4)(C) trusts.) These types of trusts also can serve to supplement the lifestyle and needs of the person with the disability.
Be certain to work with a qualified special needs attorney when deciding on a pooled trust. Sadly, fraud can occur in this area just like any other. In 2024, a group of more than 2,000 people filed a lawsuit against a nonprofit tasked with managing their special needs trusts.
The trust fund company has reportedly lost $100 million worth of their trust funds. The victims comprise people with disabilities and parents of disabled children.
Some Other Advantages of SNTs
As mentioned above, an SNT can provide financial support for a person with disabilities without risking their public benefits. In addition, they offer several other advantages.
For one, when income from special needs trust funds benefit the trust beneficiary, it is tax-deductible. (Note that tax rules vary across states and types of SNTs.)
A federal law passed in 2019 targeting SNTs that hold inherited retirement accounts (IRAs). This law permits a person with a disability to receive these kinds of funds from an SNT over the course of their lifetime. (Previously, the trust beneficiary had to use up these assets within a certain number of years.)
In 2022, updated provisions started allowing SNTs that have retirement accounts to name charities as remainder beneficiaries. This meant that funds left in the trust after the death of the beneficiary could transfer to a nonprofit to help support their mission.
Caveats Regarding Special Needs Trusts
As you may have gathered, the various rules governing special needs trust and their spending can be rather overwhelming. The trustee of the SNT needs to be aware of their legal responsibilities on this front. You need to trust them to carry out their duties with integrity.
Managing a special needs trust can be a time-consuming job that requires great attention to detail. You may need to consider hiring a professional trustee, who will most likely charge a fee. For many, it is worth the peace of mind to have someone else with expertise in this area handle the necessary tasks.
Work With a Professional
A special needs planner can walk you through how special needs trusts work and the pros and cons of each type. Be sure to partner with a professional in your area who is familiar with your state's regulations. To establish this type of trust properly, find a qualified special needs planning attorney near you today.
To learn more about special needs trusts, take time to check out the following articles:
- Choosing Trustees for Special Needs Trusts: 5 Considerations
- ABLE Accounts vs. Special Needs Trusts: Why Not Have It All?
- Can a Special Needs Trust Pay for Housing Without Reducing SSI Benefits?
- Special Needs Trusts and Financial Aid: What Should Applicants Do?