Special Needs Trusts: What You Need to Know

Young man with Down syndrome and his tutor with arms around looking at camera indoors at school

If you love someone with a disability, you might be concerned about providing for their future, especially if their disability makes them unable to provide for themselves or to manage their affairs. A special needs trust, also called a “supplemental needs” trust, may provide peace of mind for you both.

In this blog post, we’ll discuss what a special needs trust is, who might need one, and the difference between the types of special needs trusts.

What is a Special Needs Trust?

A special needs trust, like any trust, is a legal relationship created by a trust document. The person with special needs is the beneficiary of the trust—the person for whose benefit trust funds are used. The trustee is the manager of the trust, making distributions as needed. The funds in the trust are put there by the settlor, also called the grantor or trustmaker.

Different types of trusts have different purposes. The purpose of a special needs trust is to allow people with a disability to have funds that improve their quality of life without jeopardizing their eligibility for government benefits.

Many government benefits, such as Supplemental Security Income (SSI), Social Security Disability Insurance (SSDI), Medicaid, and others, are “means-tested” benefits. That means that if a recipient has too much income, they become ineligible for the benefit. A special needs trust is a way for assets to be held for the disabled person that does not count toward income for purposes of benefit eligibility.

Funds in the trust are intended to pay for things that improve the beneficiary’s quality of life above and beyond the basics covered by their government benefits. They might be used to allow the beneficiary to take a vacation, enjoy recreational activities, buy home furnishings or clothes, have internet service or a cell phone, or pay for education—things that are not essential, but which make life more comfortable and enjoyable.

Funds in special needs trusts may also be used for treatment expenses like dental care, physical rehabilitation, and personal care aides that are not covered by Medicaid. They may not be used to pay for goods and services that government benefits would pay for.

What are the Types of Special Needs Trusts?

There are two basic types of special needs trusts: first party, or “self-settled” trusts, and third party trusts. The type of trust depends on who provides the funds for the trust.

First Party Special Needs Trusts

First party (self-settled) trusts are created with funds that belong to the beneficiary. First party trusts fall into two categories.

One type of first party trust is a “payback” or “(d)(4)(A)” trust. This type of trust is established for a beneficiary under 65 years old by the beneficiary’s parent or grandparent, guardian, or court, and the trustee can be a family member or financial institution, or anyone the grantor chooses. The funds in the trust typically come from a settlement or judgment that the disabled person has received. This type of trust is called a payback trust because if there are funds remaining in the trust when the beneficiary dies, the State of Mexico is entitled to reimbursement from those funds for benefits paid to the beneficiary during their life.

The other type of first party trust is a “pooled” or “(d)(4)(C)” trust. These trusts are established and managed by non-profit organizations, who serve as trustees of the funds in the trust. Each beneficiary whose funds are in the trust has a separate account. A pooled trust is appropriate if the beneficiary is 65 or older, but younger beneficiaries can also have an account with a pooled trust.

Pooled trusts are often less costly than having an individual (d)(4)(A) trust, and because the non-profit serves as trustee, family members don’t need to worry about finding a competent, reliable trustee. Trustees of pooled trusts understand the rules of special needs trusts and are less likely to accidentally jeopardize the beneficiary’s government benefits than an inexperienced family member. But investment decisions are not customized to any individual beneficiary’s needs with a pooled trust.

Third Party Special Needs Trusts

Third party special needs trusts are called that because they are established using the funds of a third party, like the beneficiary’s parent, grandparent, or other family member, rather than those of the beneficiary.

A common scenario involving a third party trust is a parent with a special needs child who will need government benefits as an adult. As long as the parent is alive, they can use their own money to provide for the child’s needs. But upon the parent’s death, the child would inherit their share of the parent’s assets outright UNLESS there is a third-party special needs trust.

An outright inheritance creates multiple problems. First, an adult child with special needs might not have the mental capacity to manage, or even understand, their inheritance. But regardless of the child’s cognitive abilities, an outright inheritance could cause the child to be ineligible for whatever government benefits they were receiving. The child would be required to “spend down” their inheritance before again qualifying for needed benefits. In the meantime, they could lose housing, healthcare, and needed treatment.

If you are a parent or a grandparent of a child with special needs, you don’t want to put your family member in such a dangerous position after you are no longer here to help them. You need to create a special needs trust to protect your loved one’s assets and benefits.

Remember, the fact of an inheritance means that your child or grandchild has already had their life disrupted by losing someone they love. They should not be plunged into financial instability as well. Estate planning is important for everyone, but if you love someone with special needs, it’s absolutely critical.

If you have questions about special needs trusts, please contact The Law Offices of Dana M. Kyle, P.A., to schedule a consultation.

Categories: Estate Planning