Special needs trusts are powerful estate planning tools that require careful attention to formalities in their drafting and administration. If the trust is drafted or administered improperly, a beneficiary may be rendered ineligible for government programs. This article takes a closer look at the three types of special needs trusts that are most regularly used.
While estate planning is important for everyone, it's especially important for individuals with disabilities. Without proper planning, a person with disabilities may no longer be eligible for certain government programs. A special needs trust is a powerful estate planning tool that will allow a disabled person the ability to have an unlimited amount of assets set aside for their needs while still being able to qualify for government benefits. If the special needs trust is set up correctly, you will be able to improve the beneficiary's quality of life while also protecting their assets from creditors. Perhaps just as important as the preservation of their benefits is the ability to leave detailed instructions regarding the beneficiary's care – a special needs trust will give you the ability to create a roadmap for how the trust assets will be managed.
The three types of special needs trusts we will consider in greater detail are self-settled trusts, third-party trusts and pooled trusts.
A self-settled trust is one that is funded with the disabled beneficiary's own assets. These assets may come in the form of a personal injury settlement, divorce settlement, inheritance or perhaps a retirement or investment account. Some of the key features for a self-settled trust include:
- Friend, family or professional can be trustee.
- Funded with assets belonging to the disabled individual.
- Must include a provision that the state Medicaid agency shall be reimbursed for the cost of benefits received, after the beneficiary's death.
- All assets can pass on to whomever you have chosen, after the beneficiary's death.
A third-party trust is one that is funded with assets belonging to someone other than the beneficiary. These assets usually come in the form of an inheritance. Typically, parents or grandparents may create their own estate plan with their revocable living trust leaving a percentage to an individual with disabilities. In order to preserve this beneficiary's eligibility to receive benefits, the inheritance cannot be left outright to them. Instead, the family member's revocable living trust will include provisions for the disabled beneficiary to receive their inheritance in a third-party special needs trust. Some key features of the third-party trust include:
- Friend, family or professional can be trustee.
- Funded with assets belonging to individuals other than the disabled beneficiary.
- May be terminated if the beneficiary's condition has improved or they no longer require government assistance.
- All assets can pass on to whomever you have chosen, after the beneficiary's death (after state repayment for Medicaid).
A pooled trust will allow the beneficiary to receive the benefits of the special needs trust without the need to administer a separate trust. Pooled trusts can be funded with assets belonging to someone other than the special needs beneficiary or with the assets belonging to that beneficiary. The main difference with the pooled trust is that it is required to be managed by a nonprofit company. This company will invest and manage the assets without intervention from a separate professional trustee (or family member elected as trustee). After the special needs beneficiary has passed away, the funds that remain will then be retained by the trust (or possibly used to reimburse any expenses owed to the state for Medicaid). Some key features of a pooled trust include:
- Managed by a nonprofit company.
- Assets funded in a pooled trust are fully controlled by the nonprofit company. They will have full discretion to invest and manage all assets.
- Pooled trusts may retain a portion of the beneficiary's trust account to fund other pooled trusts.
- Assets in the pooled trust may be used to reimburse the state for Medicaid expenses.
It's obvious that a professional will not know your family the way that a close friend or family member will. The professional trustee will not have an emotional attachment to the beneficiary nor will they have any emotional investment. If these are important traits in a trustee, then you may want to consider selecting a family member. Yet, that doesn't mean you should completely disregard hiring a professional trustee to serve as well. Keep in mind that a professional trustee has managed trusts before – they are more likely to avoid making mistakes. It's easy to make mistakes when administering a trust and this is especially true with special needs trust (both at the drafting phase and during the administration process). Some common reasons a special needs trust might fail or your ultimate goals may not be achieved include:
- Listing more than one lifetime beneficiary.
- Creating a trust that is not irrevocable.
- Failing to plan all together and leaving the care to a family member.
- Disinheriting a child in order to preserve their eligibility for benefits.
- Allowing the beneficiary to compel distributions from their special needs trust.
Consulting with an experienced estate planning attorney to answer preliminary questions is only the first step, but it's an important first step. You want to utilize an attorney who not only has estate planning experiences, but one who also specifically has experience with drafting special needs trusts. You do not want to run the risk of the special needs trust failing and your beneficiary losing out on any government assistance. Also, you may want to consider nominating a professional trustee. A professional trustee has the experience to get the job done right and is a neutral third party. If having a trustee in place that has an emotional connection to your special needs beneficiary is important, then perhaps consider nominating a family member (or friend) as co-trustee along with a professional trustee. This way you get the peace of mind from selecting someone experienced as well as having a trustee who shares a personal connection to your family.