Many people are aware that special needs trusts (SNTs) are needed planning tools for special needs individuals. However, many are not aware that there are different types of SNTs, or what the difference is between them. The general financial purpose of a special needs trust (there are many non-financial reasons to have a SNT) is to ensure that a special needs beneficiary can qualify for public benefits. By having resources owned by the special needs trust for the benefit of the special needs individual, the individual may be able to qualify for a variety of means-tested benefits like supplemental security income (SSI) for Medicaid.
Special needs trusts generally fall into two categories: third-party SNTs and first-party SNTs.
Third-party SNTs are funded with money that is gifted from anyone other than the beneficiary, usually a family member. A key benefit of a third-party special needs trust is that there is no right of recovery of benefits for a state (more on that later). When the trust beneficiary passes away, assets remaining in the trust can be distributed to anyone specified in the trust, for example other children or even charities.
First-party SNTs, sometimes called self-settled trusts, are funded with money from the beneficiary (special needs person). These are commonly utilized when the beneficiary wins a lawsuit. Until recently, these trusts could not be established by the special needs individual. However, On Dec. 13, 2016, President Obama signed the 21st Century Cures Act, which allows special needs individuals to create first party SNTs. First-party SNTs are just as effective as third-party special needs trusts in terms of helping beneficiaries qualify for public benefits. However, at the beneficiary’s death, any funds still in the first-party SNT will be used to pay back any Medicaid expenses incurred by the beneficiary during their lifetime. So, siblings of the beneficiary will receive no money from this trust until Medicaid is fully reimbursed for expenses incurred. (For related reading, see: Special Trusts for Special Needs.)
A testamentary trust is an SNT that is created at the death of the grantor or grantors (typically parents). Often this trust is embedded in a family or living trust and has language that creates the special needs trust after death. This works perfectly well if you or others don’t intend to make gifts to the beneficiary during their lifetime.
The stand-alone SNT is a trust that is created during the grantor’s (typically the parents) lifetime. This has several benefits over a testamentary trust. First, it allows for gifts to be made at any time. These gifts can be made by just about anyone if it is a third-party SNT. Similarly, if there are others besides the grantors that plan on leaving money to the beneficiary, a stand-alone SNT is much more practical. Let’s say Chris and Jennifer, parents of Andrew, who has downs syndrome, create a third party stand-alone SNT for Andrew’s benefit. Both sets of grandparents want to leave money to Andrew at their death, and occasionally like to make substantial birthday gifts to Andrew. If a standalone SNT is available, the grandparents can not only make gifts to the trust during life, but they can leave money to the SNT through a will or trust of their own at their death. Without the stand-alone SNT, they could not make substantial gifts to Andrew without jeopardizing his public benefits. They could create testamentary third-party trusts after death, but then Andrew would end up with three separate SNTs, all with different instructions and possibly different trustees. This would create a very complicated and unnecessary situation.
These are just some of the decisions and factors that go into estate planning when a special-needs child is involved. A financial planner and estate planning attorney understand the unique challenges that a special needs individual faces. It is also important they understand the intricacies, interdependence and special rules around public benefits and personal planning. This will help you create a comprehensive, well-coordinated plan to make sure your special needs loved one lives a safe, fulfilling and happy life.
(For more from this author, see: Financial Planning for a Special Needs Child.)
David Chazin & Jon Elfin are registered representatives of Lincoln Financial Advisors. Securities and advisory services offered through Lincoln Financial Advisors Corp., a broker/dealer (member SIPC) and registered investment advisor. Insurance offered through Lincoln Marketing and Insurance Agency, LLC and Lincoln Associates Insurance Agency, Inc. and other fine companies. Insight Wealth Strategies is not an affiliate of Lincoln Financial Advisors Corp. Lincoln Financial Advisors does not provide legal or tax advice. 3000 Executive Parkway, Ste 400. San Ramon, CA 94583. (925) 659-0217.