The Ins and Outs of a Special Needs Trust

Audio Description

Estate planning can be particularly complex for families with a disabled family member. Without proper planning, funds set aside could inadvertently jeopardize eligibility for government benefits. Today’s episode features expert guidance on preserving both assets and access with a Special Needs Trust.


00:03 - 00:15

Welcome to Women & Wealth, I'm Beata Kirr, Co-head of Investment Strategies for Bernstein, and our podcast aims to educate, inspire and empower women to make the right choices for their wealth. Let's dive in.

00:19 - 00:52

Today's bonus episode is the second in our two-part series about financial decision making in families with a disabled child. Our first episode covered ways to help ensure your child lives the fullest, most financially secure life possible. Now we're following up with my colleagues Ashley Velategui and Andi Kushner on the technical aspects of setting up a special needs trust. Just a quick note before we get started. Today's conversation was pre-recorded so you'll hear Ashley reference some outdated figures for the federal Supplemental Security Income, or SSI benefit.

00:53 - 01:19

Not to worry, though, those numbers are at the margin and don't materially change our advice. I am joined by my colleague from Los Angeles Andi Kushner and Ashley Velategui from our Wealth Strategies team in Seattle. Both have backgrounds in assisting clients with complex planning needs and have worked with many family members who have special needs. So thank you so much for joining me. Thanks for having us, Beata. Thanks for having us.

01:20 - 01:47

Well, look, we're focusing in on families with special needs and the various complex planning that's associated with that. We started with a conversation with Karen Park, and Karen talked about the emotional and practical aspects of planning for a child with special needs based on her own experience. And we started to talk about the various vehicles that are available that can help really address this purpose and this complexity.

01:48 - 02:03

So that's what we are going to try to tackle today. It takes more than one episode, right, to get this right. That's why we are focusing on this over a number of conversations. But today's goal is to talk about these vehicles. So I want to start with the basics. Right.

02:03 - 02:23

My understanding is that there is a special needs trust. So I'm coming from this as a beginner. So I've got the experts here. Ashley, help me understand, what is it? How is that different from a traditional taxable trust and how does it work? Absolutely.

02:23 - 02:51

So, Beata, just as you mentioned, parents or other primary caregivers tend to be particularly concerned with providing for their child after they've passed away, especially from a financial perspective. They want to ensure that that special needs individual has the adequate resources to maintain their care. But many of the federal and state programs that offer financial assistance to individuals with disabilities have strict asset or income tests.

02:51 - 03:23

And so leaving wealth outright to that special needs individual could disrupt those really important government benefits. By using a structure such as a special needs trust, which differs from a traditional taxable trust in the way that it has provisions as to how distributions can be made from that trust. And it does so in a way that helps to ensure that government benefits remain preserved while providing an important pool of assets to provide for the ongoing financial care of that special needs individual.

03:23 - 03:51

So you've helped me understand what it is, right, what the basics are, how it varies from a traditional taxable trust. I know there's a lot more details, so let's start to really dive in. What if the family has substantial wealth and is not really worried about the notion of funding? What if they can self fund the child's needs and the government benefits are not important to them? Does a special needs trust still make sense? It's a very common misconception that we hear, Beata.

03:51 - 04:07

And you're right, some families do have the means necessary to provide for that special needs individual, even without the relatively nominal seven hundred and seventy one dollar Federal Supplemental Security Income, or SSI benefit, as it's known.

04:07 - 04:41

But in most cases, you know, qualifying for those programs such as SSI really isn't about the supplemental monthly income, it's about access, you know, in many, many states, you know, my state in Washington and down in California where you guys are, there are certain programs and housing opportunities that are really only available to folks that qualify for government benefits, regardless of a family's ability to private pay. So preserving these government benefits can help ensure access to these programs, whether it's now or in the future.

04:42 - 05:07

So it's really about preserving flexibility. And the landscape is always changing. You know, we've seen some of the changes that have taken place just in the last couple of years as it pertains to, you know, government benefit programs and new legislation designed to help support individuals with disabilities. So the landscape could look incredibly different, you know, two to three decades from now. So why not create a structure that leaves the door open to benefits?

05:08 - 05:43

Ashley, I think you make a great point with respect to flexibility. With many families with whom we work, where they have a family member with special needs, they want a trust first and foremost, to protect that disabled family member from creditors, from unsavory individuals, to make sure that those funds are managed for them. And a special needs trust gives them a lot of flexibility to do that. And I think that's another common misconception about special needs trusts that they're really restrictive when actually they provide quite a bit of flexibility when it comes to distributions to benefit that special needs family member.

05:43 - 06:16

So you raise a lot of good points. And I hadn't thought about the protection point, and that makes sense in a trust concept. So help me understand why is there this misconception that these trusts are inflexible? I think it's and I've heard this from background, I'm a trust and estate attorney, and I've heard this from other practitioners as well, we don't want to set up a special needs trust because we can't use it to really provide care for that beneficiary, when that's not the case. Special needs trusts are designed to provide for things that government benefits don't cover.

06:17 - 06:40

And there's a wide swath of things that fall into that umbrella and a lot of things also to make that beneficiary's life just more enjoyable and better. So things like therapies that aren't covered by insurance, caregivers. So those are traditional things. But also I've seen concert tickets, clothing, televisions, anything to help that beneficiary enjoy life. Those are also things that can be covered.

06:41 - 07:05

And is there somebody that oversees the relevancy of the distribution of the funds then? How does that actually work? It would be up to the trustee to determine, but it would also be based on the instructions left, you know, provided for in the trust document...which is like a traditional taxable trust. Exactly. And so perhaps maybe there's been some cases where the trustee's judgment has narrowed the scope and maybe that's where that misperception comes from.

07:05 - 07:39

But you're saying, legally the trusts have the bandwidth to provide for all the things you're saying, which goes far beyond food and shelter. Indeed. And actually because of some of the complexities that come with food and shelter and being covered with a trust, I do think that that's where some of the misconceptions come from. Ashley, I know that's something that you and I have spoken a lot about and you've encountered. Would you mind sharing some of your perspective on that? I'd be happy to. Yeah, the food and shelter issue is greatly misunderstood, particularly as it pertains to distributions from a special needs trust.

07:39 - 07:41

It comes from a good place.

07:41 - 08:09

You know, SSI is a program that was designed to pay for the person's most basic needs, food and shelter. And so the way that the Social Security Administration looks at that is to say if that disabled individual is receiving financial support for those basic needs, i.e., food and shelter from other sources, which could include, you know, distributions from a special needs trust, well, then SSI benefits are going to be reduced because clearly that individual doesn't need the full scope of the benefits.

08:09 - 08:27

So for that reason and since we have seen many trusts that are drafted with very restrictive language, will say in order to preserve government benefits and particularly SSI, special needs trust funds cannot be used for food and shelter.

08:28 - 08:52

That way, they're helping to ensure that those distributions aren't unnecessarily resulting in the reduction of the SSI benefit. The problem is, in most markets, the federal SSI benefit, which again today stands at 771 dollars and some states do supplement to some extent, but again, not to a significant degree.

08:52 - 09:22

But that benefit on its own is unlikely to cover the full cost of food and shelter. I know in Seattle, you know, finding an apartment to rent that is only going to cost you $771 is going to be a very difficult feat. And so in those cases, it actually makes sense to just make a distribution from the special needs trust to supplement food and shelter costs and simply accept a reduction of the SSI benefits. The good news is, for distributions for food and shelter,

09:22 - 09:42

SSI will be reduced by only by up to a maximum of one-third. So it's usually a financial trade-off that families are willing to accept. OK, that's clear. Maybe you can get a houseboat in Seattle for $771 a month, or like half a room in one. Right. So I think what I've heard you say is a few things, you've already taught me a lot.

09:42 - 10:11

Even if the family has sufficient funds to provide for a disabled family member without tapping government benefits, there are still very clear benefits to setting up a special needs trust. Those benefits anticipate potential legislative change, protect those benefits over time, and then Andi and Ashley have both clarified that there's really broad scope and that sometimes, yes, it does make sense for the trust to distribute for food and shelter and reduce those government benefits.

10:11 - 10:20

But frankly, it's a vehicle that's flexible, protective, and necessary, even if the family has the funds to support. So that's good.

10:20 - 10:49

So what about families who leave it to other siblings to care for the family member with a disability? Yeah, I'm so glad you brought this up, Beata, and this is an objection that we hear from many families with whom we work, where they just don't want to deal with going through what seems to be the complexity of setting up a special needs trust. And they're just going to leave it to another sibling. In fact, these are discussions that I've had in my family. Beata, as you know, I have a sibling with special needs.

10:49 - 11:19

And I think my parents' first assumption was that they were simply going to leave the assets outright to me, knowing full well that it is absolutely my intent to financially care for and provide for my siblings, however, generally speaking, this is actually not a very good idea. Again, even in cases such as mine, where the neurotypically developing sibling is fully committed to caring for the special needs individuals, families should really have an eye towards protecting themselves against circumstances that, quite frankly, are just beyond their control.

11:20 - 11:54

Two of the most common ones that come to mind are, you know, instances of divorce or liability claims. You know, we've worked with families over the years where assets may be left to that neurotypically developing sibling. Many years down the road, that sibling finds themselves facing a divorce. And now all of a sudden, the assets that the parents had intended for their special needs child are subject to these new creditors. Or what if that sibling ends up in a car accident and you know, they're at risk for a substantial liability claim that could, you know, really deplete the financial reserves of that family.

11:54 - 12:15

So those have to be considered; even with those issues aside, you know, many families just don't like the idea of their children becoming the financial boss of their other children. It can create for some relatively awkward family dynamics. And, you know, there's oftentimes just the perspective that siblings should just be siblings and leave the financial matters to somebody else.

12:15 - 12:34

Well, thank you for that. You've clearly thought through all these pros and cons. And I have to say, I love and hate this podcast sometimes. I love it for the information that we put out that we hope is helpful to all of our listeners, and especially as we specialize in topics like today. But I hate that it always ends in a kind of a bad place.

12:34 - 12:55

Divorce and death and planning are all related, right? We have to anticipate how to respond to these worst case scenarios. And I think it's why people are so hesitant to put these plans into place, because you're always considering these worst case scenarios when you're doing it. But again, that's why we do this, right? That's why we have these tough conversations.

12:55 - 13:29

Let's maybe pivot. So you've convinced me a special needs trust makes total sense, regardless of whether you think you've got a plan, you need a trust. Who should set it up? How do they set it up and when do they set it up? Brass tacks. Andi, you want to take a first shot? Certainly. So to answer that question, it's helpful to understand the main types of special needs trusts. And typically we deal with what's called a first party special needs trust or a third party special needs trust. A first party special needs trust is actually funded with property owned by the special needs individual.

13:29 - 13:59

I would say the most common circumstance that we see is like a personal injury award, oftentimes an award based on the injury that is given rise to the special need. It also comes up when well-meaning but perhaps not educated family members on the law surrounding government benefits and special needs planning give gifts to the special needs individual. And if they own those gifts in their own name, it will disqualify potentially this person from very valuable benefits.

14:00 - 14:31

So on that person's behalf, a trust is formed. Those assets are placed in the trust. First party special needs trusts come with two very important limitations. One is they've got to be established before that special needs individual is 65. Second, those trusts are subject to clawback rules for medical expenses. So any medical expenses that have been paid on that state benefits that have been paid on that beneficiary's behalf during their lifetime, get clawed back or have to be paid back to the state government when they pass away.

14:31 - 14:56

So a third party special needs trust is different. That's a trust that if I have a special needs child, I create for my child. So they're my assets. They're not the special needs beneficiary's assets. These types of trusts can be established at any time, so they can be established during my lifetime or at my death or a combination of both. And those trusts are not subject to any clawback rules.

14:56 - 15:21

So going back to your question of who establishes it and how and when is it funded, part of that conversation turns on, well, where are the assets coming from? Are they technically owned by the special needs individual or is it another family member that's contributing on their behalf? OK, Ashley, maybe we could continue this thought and think about, you know, in particular the third party special needs trust.

15:22 - 15:49

How do you advise families on the right time and perhaps amount to fund a third party trust then? Yeah, there's several factors that can play into the decision in terms of when to fund the trust. But from our perspective, one of the most significant factors really has to do with the financial status of the family. If the family is not in a position where they've fully secured their own financial future, a concept we refer to at

15:49 - 16:08

Bernstein as core capital, making sure that you have sufficient assets to support your lifetime spending with a very high degree of confidence. If that hasn't been secured, then the family's probably not in a position where they're ready to irrevocably move assets off their balance sheet into a trust that can only be tapped to support that individual with disabilities.

16:08 - 16:33

So in that case, they are probably going to wait until after their passing and fund it with assets from their estate or from life insurance proceeds or a combination of the two. If the family has more wealth than they're likely to need during their lifetime, then there may be some benefits actually to funding the trust during the grantors' lifetime. One of the families that we've worked with has a sizable estate and is probably in a position where they're likely to have a large estate tax problem.

16:33 - 16:59

And so throughout the last several years, they've been employing multiple strategies to help reduce the size of their estate by transferring and gifting assets to trusts for the benefit of their children and their future grandchildren as well. And in their case, it absolutely makes sense to target some of that lifetime wealth transfer that they're doing to the special needs trust, you know, for the benefit of their special needs child and start that prefunding of that trust during their lifetime.

16:59 - 17:33

It always comes back to our first episode. Know your numbers, right, know your numbers, that core numbers, what's going to drive planning. Let me ask you, Andi, a follow-up question. Two of them, actually. So is a special needs trust always irrevocable? It doesn't necessarily need to be. There are times we've worked with families who establish them during lifetime and they're revocable trusts, to give them flexibility. But often, especially if it's paired with wealth transfer... Right. ...they're going to be irrevocable. And certainly after the grantor passes away, they're going to be irrevocable.

17:33 - 17:51

OK, and do you want to comment in terms of the type of funds that can be used to fund? Does it matter? It definitely matters, because if you think of going back to the beginning, the broad overview, why are we establishing this trust? Well, it's to provide for a special needs individual.

17:51 - 18:22

A family member putting in illiquid assets that doesn't generate income probably is not going to be very helpful. What we're looking for is liquid assets that can help support their care and provide for things that the government is not. That being said, we have had clients who put in a mix of assets or maybe they put in real estate. The idea being it's going to be sold at a certain point, it will generate that liquidity. OK, I mean, I think this comes back to our basic planning expertise that we work with clients to help them understand that.

18:23 - 18:53

I mean, how many estates have you seen that are easy and obvious? Never, right. They wouldn't come to you if they were. If everything was liquid, if everything was able to kind of be settled in a day, that's straightforward. That doesn't tend to be the case. Right. So you got to go back to what Ashley said, first, knowing your core, protecting yourself before you set up a trust that's certainly irrevocable, to protect your child or family member. And then the basics of planning apply in terms of how to fund that. OK, so that's really helpful.

18:53 - 19:01

So let me maybe switch gears and talk about another type of financial support that's designed for people with disabilities.

19:02 - 19:33

And this is an account called an ABLE account. So Ashley, I was hoping you could help us define that and compare that to a special needs trust. Yeah, absolutely. So the ABLE Act, which was passed into law in December of 2014, stands for the Achieving a Better Life Act. And it's a program that was actually... falls under the same code section that governs 529 tax advantaged college savings account, which many of our listeners, I'm sure are, you know, at least broadly familiar with.

19:33 - 19:59

And the idea was to allow for people with disabilities to actually maintain their own tax advantaged savings account without impacting their access to government benefits. So, you know, there was a lot of excitement about these plans initially back in 2014 when they came out. But unfortunately, up until this point, they really haven't caught on as much as people had hoped. So it's the first time hearing of them. So why aren't they catching on? Sounds like a great idea. It is a great idea.

19:59 - 20:34

There are some limitations and drawbacks that I think, you know, people need to be aware of, and that has sort of slowed the adoption of these accounts. First and foremost has to do with the contribution limits. The annual aggregate contribution limit into these accounts is limited to 15,000 dollars per year. So the reality is, these accounts just aren't going to grow to be that big. So it's not going to be, you know, the account for which provides the financial support for your special needs, you know, family member, you know, for the rest of their lives, given that you're really limited in terms of what you can put into them.

20:34 - 20:58

In addition, if the account does end up exceeding 100,000 dollars in assets, SSI benefits could be temporarily suspended until the point at which the account is drawn back down below the threshold. This is a point, I think, that frightens people and makes them anxious about losing access to those government benefits. It's a little bit different because it's considered a suspension, not a termination, but something

20:58 - 21:26

that people, you know, are acutely aware of if they're investigating these accounts; and then the final point is really that, as Andi mentioned, with first party special needs trusts, these accounts are subject to Medicaid payback upon the death of the special needs beneficiary. And so to the extent that a family has one of these accounts, they're probably going to want to spend that account down first so that the assets have been spent down and therefore you don't end up having to pay back the state for medical coverage.

21:26 - 21:37

I have a number of thoughts here, but I want to hear Andi's thoughts first. Where I've seen families use these effectively, I think it's important, as Ashley mentioned, because of the low threshold for these accounts.

21:38 - 22:06

It's not an either or conversation. I think when I've seen families use them successfully, it's a both. They have a special needs trust for their family member, but they also have an ABLE  account that gives that individual a sense of financial freedom and gives them some agency over their funds. They work especially well for a high functioning family member who is working, who is doing things and wants to have that sense of independence.

22:06 - 22:24

And in that regard, it provides a mechanism for doing that in a way that a special needs trust can't while still maintaining access to benefits. My first reaction in hearing about this detail from both of you is, you know, depending on who's listening and depending on what their asset base is, right.

22:24 - 22:51

If your child is born with special needs, what would stop you from starting to fund $15,000 a year if you're allowed to do that in a tax advantaged way until you get to the maximum? It seems like we know there's always a benefit to sheltering from taxes, right? The same way that there is in a 529. It seems like the first and easiest vehicle to deploy before you get to a special needs trust. Am I missing something there?

22:52 - 23:07

The one additional point to consider, Beata, that again can make these accounts really, really great in certain circumstances is what Andi mentioned, is that the special needs individual is the actual account owner on the account and they have direct access to these funds.

23:07 - 23:34

And so there are absolutely circumstances where that just may not be appropriate because of, you know, risk and potential unsavory individuals, you know, manipulating that special needs person, you know... gets back to all of those things you were mentioning, right, sometimes the conversation turns to those sort of yucky aspects that we don't necessarily like to think about, but we need to be obviously concerned about, you know, protecting our loved ones and making sure that they're not in a position to be taken advantage of.

23:34 - 23:52

So in those circumstances, an ABLE account just may not make sense. Would you set one up when somebody turns 18 then and not fund it from birth or fund it with the ability to turn it over? Help me understand that. I don't know that there's one... I'm going to give you the obnoxious lawyer answer. And it really is. You always do. I know I do.

23:52 - 24:24

It depends. It depends. I think it really is, and especially with ABLE accounts, and probably why they haven't... They're great vehicles. But perhaps going back to Ashley's point, why they haven't caught on as much as we would have thought is because there are complexities in thinking through that individual situation and where it makes sense. I think, for some kids, yeah, I think that would make sense. To Ashley's point, for others, they may not ever get to a point where the family feels like they have enough savvy to use that account responsibly.

24:24 - 24:26

Understood. Understood.

24:26 - 24:32

Well, this has been really eye opening to me, and I really appreciate all of the diligence and detail that you shared.

24:32 - 25:02

I want to give you an opportunity before wrapping up to just comment on anything we've missed on the idea of the basics of vehicles to help in special needs planning. You know, the one point that I'd like to make is as it pertains to funding a special needs trust and thinking through all the planning, there's a common mistake that we see families make. They go through all the proper steps of setting up their special needs trusts. They design their estate plan to fund that trust upon their passing.

25:02 - 25:33

They even go as far as notifying other family members who may have an intent to leave wealth to their special needs individuals, and Beata, they forget to change the beneficiary on their IRA or 401k. And so even though they've done all this planning upon their passing, they inadvertently end up leaving money directly to the special needs individual, which isn't an unsolvable problem, that those funds can be, you know, quickly, quote unquote, you know, shoveled back into a first party special needs trust.

25:33 - 25:57

But upon receipt of those assets, it could cause, you know, a temporary and meaningful, impactful disruption to their government benefits. So, you know, don't forget the low hanging fruit. That is sound advice for sure. Andi? I would say, the other point where we see families struggle is when you've got children that are neurotypical and then you've got one who isn't; and thinking through how to plan for them. And we have a lot of questions about fair isn't

25:57 - 26:21

necessarily equal, and equal isn't necessarily fair, and so sometimes the greater good is to make sure that everyone's needs are met within the family is to allocate more of the liquid assets to that special needs trust for that special needs family member and more of the illiquid things to the other kids. Or maybe the share of that child is actually smaller than the other kids.

26:21 - 26:50

So there are conversations that because of the special needs family member's unique circumstances, thinking through not just what assets, but also amounts and mission and goals is even more critical in those family situations. Yeah, well, you've given me a lot to think about and a tremendous amount of information. I'm so glad we're doing this. I know that this information can be so helpful to so many. And I really want to thank you both for taking the time today.

26:50 - 27:19

I'm going to summarize what I've learned in spending this 30 minutes with you, that even if you have the assets, a special needs trust is a vehicle that's very powerful in the sense of protection and in control and ensuring that your interests are being met over the long term. As we know, tax legislation and estate legislation evolves constantly and ABLE accounts, even though they haven't been, you know, perhaps they haven't got the momentum that we thought they would,

27:19 - 27:33

they certainly have some benefits when the situation is right. And as always, you have both reminded me that there is no prescription to get this right for one family, you have to customize to everybody's needs. So thank you again for joining me today. And thank you all for listening.

27:37 - 28:02

If you enjoyed the podcast and haven't subscribed to our show, please go to Apple Podcasts, Google Play, Spotify, or wherever you listen to subscribe and rate us. You can also find us on Twitter at BernsteinPWM or find me, Beata Kirr, on LinkedIn. Bernstein: Making money meaningful for individuals, families, and foundations for over 50 years. Visit us at

Beata Kirr
Co-Head—Investment & Wealth Strategies

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