What is a Trust?
A trust is a legal agreement that allows a third party, the trustee, to hold assets on behalf of a beneficiary. The creator of the trust designs rules that specify how and when the assets pass to the beneficiaries. Additionally, trusts are extremely versatile because they can be funded with almost all types of property, including cash, retirement accounts, stocks, bonds, real property (houses, cares, land), and insurance policies.
Special Needs Trust
A special needs trust (“SNT”) is uniquely designed to protect the assets or future assets of a beneficiary that is disabled and/or mentally ill. When a beneficiary lacks the capacity to handle their own financial affairs, the SNT allows for their family or a designated representative to proactively engage in their financial planning for them. In that case, the SNT can be created with guidelines that specify how and when the beneficiary’s assets are distributed to pay his or her bills, medical costs, and other living expenses.
Furthermore, a SNT can be used to shield the beneficiary’s assets from government auditors so that they can still qualify for needed medical assistance. Current rules state that if a beneficiary’s combined assets total more than $2,000, certain government agencies, such as Medicaid or the Social Security Administration, may disqualify the beneficiary from receiving benefits. However, any assets contained in a SNT cannot be counted against an individual when the government is determining their eligibility for SSI (Supplemental Security Income), Medicaid and other government benefits.
For example, an individual with special needs has inherited $100,000 in cash. Currently, the individual holds too many assets and does not qualify for any government benefits. Instead of using the inheritance to pay for the individual’s medical bills, the individual’s family can place the $100,000 in a SNT. The individual still has access to the trust for certain care needs beyond those provided by public assistance, but they also qualify for government aid for their on-going needs.
What are the different types of Special Needs Trusts?
There are two primary types of SNTs: self-settled trusts and third party trusts.
A self-settled trust is created using the beneficiary’s own assets. Essentially, the person creating the trust is also the beneficiary of the trust. The courts heavily scrutinize self-settled trusts because they can be employed as a way for individuals to protect their assets from the government or creditors. For this reason, self-settled trusts must meet a strict list of requirements, especially if they are established to help individuals qualify for benefits.
First, the trust must be irrevocable, meaning that the trust cannot be modified once it is created. However, many trusts will include a clause that explicitly permits the trustee to amend the trust due to a change in circumstances. For example, if one of the original trustee’s were incapacitated, the grantor might be able to name a new trustee in her place. Second, a legal quirk requires the trust to be established by a parent, grandparent, legal guardian or a court. Finally, the self-settled trust must contain a Medicaid payback provision. The payback provision requires that all remaining assets in a trust be given to the state when the beneficiary of the trust dies (up to the amount of Medicaid benefits provided to the individual). This provision ensures that the beneficiary’s Medicaid expenses are at least partially repaid if assets remain. The self-settled trust is exceptional in this regard - not all SNTs require this provision.
Typical scenarios where you might use a first-party SNT include when an individual receives a direct inheritance from a family member or when they receive a lawsuit settlement such as from a medical malpractice lawsuit.
A third party trust is funded with assets that belong to someone other than the beneficiary. The primary example of this is a trust established by a parent for the benefit of a child with disabilities. Parents can establish a third party trust in three ways: they can create one while they are still alive; they can request that their will create it upon their death; or, they can use their own living trust to create a third party trust when they pass away.
The main benefit of using a third party trust over a self-settled trust is that a third party trust does not require the Medicaid payback provision. This means that upon the beneficiary’s death, the estate is not required to give remaining assets, if any, to the state, but instead can leave them to other family members.
Distributions from a Special Needs Trust
In order to preserve government benefits, it is important to direct the trustee not to pay for services that are provided by a government agency. If done correctly, the assets in the special needs trust will not be counted as a resource, thereby preserving eligibility. The trust must authorize distributions only for special or supplemental needs. Some examples of this might include dental care, specialized therapy, and services of a caregiver. Improper distributions of a special needs trust can cause a loss in government services, so it is critical that the trust be set up and then managed properly.
To learn more about planning for a loved one with special needs, check out our free guide, Legal Planning For Children And Young Adults With Special Needs, or to discuss your estate planning concerns, please call our office at 919-443-3035 or use our contact form.