By Beth A. McDaniel

 

A special needs trust allows a disabled person to retain assets – or enables a third person to provide assets for the sole benefit of a disabled person — without the disabled person’s losing tax exemption will increase from $17,000 to $18,000. • The federal estate tax exemption will increase from $12.92 million to More Info on page 2-3 2024 – What you will see and not see When the Death of a Spouse Occurs By Beth A. McDaniel One of the most stressful, if not the most stressful, life altering events an individual can experience is the death of a spouse. Aside from obvious impacts, there can be some not so obvious impacts: Continued on pages 7-9 What is the difference between a FirstParty Special Needs Trust versus ThirdParty Special Needs Trust? By Beth A. McDaniel losing their eligibility for important needs-based benefits. A special needs trust is a discretionary trust – the disabled person cannot direct distributions or serve as Trustee of such a trust. Typically, the only limited ‘power’ the disabled person may have regarding their trust (per the trust’s terms) is a ‘testamentary power of appointment.’ This power allows the beneficiary to stipulate, through a provision in their Will, the final disposition of any remaining trust assets upon their passing.

 

First Party Special Needs Trust.

• A first-party special needs trust is funded with the assets of the disabled person. 
• Other names for a first party trust include ‘d(4)(A) special needs trust,’ which cites to the Social Security code provision authorizing such a trust or a ‘self-settled special needs trust.
• Common reasons for establishing such a trust include the disabled person’s receipt of inheritance, the disabled person’s being directly named as a beneficiary of a non-probate asset like life insurance or an IRA, or the disabled person’s receiving funds from a settlement or lawsuit.
• A first-party special needs trust can be established by the individual (or their agent), a guardian, parent, grandparent, or the court.
• The beneficiary must be younger than age 65 when the trust is established, and the trust must be funded before the beneficiary turns age 65.
• The beneficiary’s social security number can serve as the first-party special needs trust’s tax identification number.
• Upon the trust’s termination, which occurs at the earlier of the beneficiary’s recovery from disability or their passing, the state(s) must be reimbursed.
• The only expenses which can be paid ahead of the state(s) upon the trust’s termination are taxes, liabilities incurred prior to the beneficiary’s passing, and administrative expenses.
• It is worth noting that the beneficiary’s funeral expenses cannot be paid prior to the state(s) being reimbursed following the beneficiary’s death. This has led some of my colleagues to give such trusts the morbid, tongue-in-cheek nickname of ‘stinky body trusts’ (not pleasant, but a memorable). Consequently, it is important to prepay for funeral services expenses from the trust while the beneficiary is still alive.

A useful resource for Trustees of first-party special needs trusts is the Special Needs Trust Alliance’s Trustee handbook which can be found for free on their website (specialneedsalliance.org).

 

Third-Party Special Needs Trust.

• A third-party special needs trust is created by a third-party for the benefit of a disabled person (“beneficiary”) and funded by a thirdparty’s assets.
• A Third-Party Special Needs Trust can be a stand-alone trust for gifting purposes, enabling contributions for the benefit of the disabled person; more commonly, however, third-party special needs trusts are ‘testamentary,’ funded with inheritance through trust language in a Will or a revocable living trust.
• Upon the establishment of a trust for a disabled family member, it is helpful to provide family members with a letter which states the name of the trust so they may leave assets intended for the disabled family member to the disabled family members’ third-party special needs trust. Please let us know if you would like a sample letter to send to family members.
• Unlike a first-party special needs trust, the beneficiary’s age at the time of the trust’s creation does not have to be under the age sixty-five.
• Additionally, the Trust does not need ‘payback provisions’ to the state(s). The creator of the thirdparty special needs trust determines the eventual final distribution of the trust’s assets, upon the earlier of the end of the beneficiary’s disability or death.

 

Things to Make Note of For Both First-Party and Third-Party Special Needs Trusts: 

• Special Needs Trusts, whether first-party or third-party, cannot be used for food or shelter for SSI recipients without affecting their monthly benefits.
• Shelter includes utility expenses.
• Using funds from a special needs trust for shelter expenses will cause a one-third reduction to SSI payments. That said, it is important for the trust to give the Trustee flexibility to use trust funds for shelter as it may be in the best interest of the beneficiary.
• If a special needs trust’s assets are used for food, the SSI payment deduction is dollar-for- dollar.
• If the beneficiary receives Section 8 housing, any distribution from either type of special needs trust that is not a medical expense will be considered income to the beneficiary, leading to an increase in the beneficiary’s rent. To avoid this, if the beneficiary was disabled before the age of twenty-six, the Trustee can utilize trust funds to establish an ‘ABLE account.’ There would be no rental increase if qualified. non-medical expenses are paid from an ABLE account.
• To learn more about ABLE accounts, a helpful resource is the Able National Resource Center (ablernc.com). Note: many states have ABLE accounts, including Washington (washingtonable.com), but you do not have to use Washington’s able account if you prefer the offerings of another state.
• Both first-party special needs trust and third-party special needs trust can be designated as a beneficiary of an IRA account.
  • It is important that the trust contains provisions that the required minimum distributions (“RMDs”) can ‘accumulate’ in the trust. Otherwise, the RMDs will be treated as income.
  • Unlike ‘designated beneficiaries’ who must take the RMDs within ten years of the IRA owner’s death, disabled individuals are considered ‘eligible designated beneficiaries’ who can take the RMDs over their actuarial life. The RMDs would be treated the same way if the beneficiary is a special needs trust. Having a third- party special needs trust be the beneficiary of an IRA is preferrable.
  • If a disabled person is named as the beneficiary (rather than the trust), the hope is that they are under the age of sixty-five, as per IRS private letter ruling, it is possible for the disabled beneficiary’s inherited IRA to be rolled over to an inherited IRA owned by a first-party special needs trust. This process requires a knowledgeable advisor and proactive IRA administratoras the rollovers from the decedent’s account to the disabled beneficiary’s inherited IRA and then to the inherited IRA owned by the first-party special needs trust must occur within the same month and be completed by the first of the following month. Otherwise, the IRA account will be considered an asset of the disabled individual, jeopardizing their Medicaid and/or SSI eligibility.

 

 

For more information, or to schedule an appointment, please call 425-251-8880 or email info@bethmcdaniel.com

 

First Published: November 2023