Reading Room

Useful Things to Know About Special Needs Trusts
for Persons with Disabilities

by Madelyn Leopold
Boardman Law Firm

Casey and Beth’s daughter, Amy, was seriously injured by a drunk driver while she was riding her bike. Amy was eleven years old at the time. The couple sued on behalf of their daughter and has recently won a large settlement. Amy is now almost eighteen and is doing better than her parents had feared, but she will need special care for the rest of her life. Without government assistance—particularly the health insurance provided under Medicaid—her costs of care would be prohibitive. Casey and Beth want to be sure that the personal injury settlement will supplement and not replace the government assistance that their daughter currently relies on.

Another couple, Dorothy and Mike, have a grandson who was born with Down Syndrome. His parents—Dorothy and Mike’s son and daughter-in-law—will care for him while they are alive, but he would benefit from special schooling that is expensive. And what would happen if his parents were gone? Dorothy and Mike worry about their grandson and his parents and want to help. But their son has cautioned them about the risks of giving their grandson money, since the gift might make him ineligible for government assistance.

Situations like these affect many families. They may have the usual worries about estate tax, but other familiar decisions are not routine: leaving an inheritance to a loved one may hurt and not help. How can families fund the lifelong needs of their disabled loved one in a way that maximizes that person's quality of life, without jeopardizing important government benefits?

"Special needs trusts" offer an effective option for accomplishing these goals. A properly worded special needs trust can provide supplemental resources to the disabled person without jeopardizing his or her eligibility for government benefits. This article presents a very general overview of some of the specialized trust arrangements currently available for disabled persons and their families.

A quick overview of the public benefits landscape is in order. For disabled persons under age 65, the key government programs are Supplemental Security Income (SSI) and Medical Assistance (Medicaid). SSI provides monthly cash payments to the disabled who do not have enough work history to qualify for Social Security Disability. In Wisconsin, persons who are eligible for SSI are automatically eligible for Medicaid. Medicaid is the health insurance program for low-income people. The Medicaid program also covers long-term institutional care and, in certain cases, care in the community. Given the costs of such care, Medicaid can be more important to a disabled person and his family than cash payments.

SSI and Medicaid are "means-tested" programs, meaning that eligibility depends on meeting certain criteria, including asset and income limitations. The asset limitation is $2,000; the children in both my examples would be ineligible for SSI and Medicaid if their assets exceeded $2,000. The income limitation is also stringent: if the child's income, including income from a personal injury settlement, were to exceed $564 per month, that child could be ineligible for SSI and Medicaid even if her assets totaled less than $2,000.

To be eligible for public assistance, then, a disabled person's income and resources must be minimal. While the services available through government benefits can be substantial, any actual cash benefits are likely to be small, so the costs of "amenities" such as cable TV, telephone service, car insurance and repairs, or vocational training will be beyond the person's budget.

This is where the special needs trust comes in. The principal and income of a special needs trust are not counted as available assets for purposes of Medicaid eligibility, provided that the trust is drafted to meet legal requirements, and provided that the trustee makes distributions in a way that will not result in a loss of government benefits. To preserve eligibility, these trusts are designed to supplement government benefits, rather than to replace them.

There are basically two kinds of supplemental special needs trusts: third-party trusts and "self-settled" trusts. Either type can be created during the settlor's life or by will.

A third-party trust is one created by and funded solely with the assets of someone other than the disabled person. Disabled children as well as adults may be beneficiaries. The trustee must be given absolute discretion over distributions. The beneficiary (the disabled person) must not be able to control the trust or require distributions. At the death of the beneficiary, the remaining funds can be distributed to others as the trust document directs.

A properly drafted third-party trust would enable couples such as Dorothy and Mike to set aside funds for their grandson without making him ineligible for government assistance. The trust funds would not be used to support the child but could be used to pay for amenities such as special schooling, travel, a pet, or a computer. The trust must be irrevocable, but Dorothy and Mike can direct the distribution of any funds remaining at their grandson's death, for example to their other grandchildren. The couple could set up the trust during their lifetime or in their wills, depending on the immediacy of their grandson's needs.

The trust for Dorothy and Mike’s grandson is funded with theirown assets. Casey and Beth, who won the personal injury award,are in a different situation. The settlement proceeds will be awarded to their daughter Amy, as her own property. Can Amy’s access to those funds be structured so as to preserve her eligibility for government benefits?

As a general principle, a disabled person who transfers her own funds into a trust would be ineligible for Medicaid under the Medicaid divestment rules, at least for a period of time. In 1993, however, Congress created a special exception to the divestment penalty for younger individuals. The "OBRA '93" trusts (also called "self-settled" trusts because they are funded with the disabled person's own assets) do not count as an asset of the disabled person for eligibility purposes and do not cause a divestment.

In order for a self-settled trust to qualify as an OBRA '93 trust, the disabled person cannot be the trustee or control the assets. There are a number of other requirements for an OBRA '93 trust:

• The disabled person must be under age 65,
• The trust must be established for the benefit of the disabled person by a parent, grandparent, legal guardian, or court,
• The trust must be irrevocable, and
• At the beneficiary's death, the trust by its terms is required to pay to the state all remaining trust assets up to the total amount of Medicaid paid on behalf of the beneficiary.

An OBRA '93 trust would be a good solution for Casey and Beth’s daughter and her personal injury award. The funds can supplement Amy’s public benefits and provide for a better quality of life during her lifetime, while any funds remaining at her death, after the Medicaid payback, can pass to beneficiaries of her choosing.

A special needs trust can be an attractive option for families, whether or not they are wealthy. Trust requirements are complicated, however, and public assistance law changes frequently. An incorrectly worded trust can put the disabled person's government benefits at risk. For these reasons, anyone who is interested in this planning option would be well advised to consult with an attorney who is knowledgeable about elder law as well as trusts and estate planning.

Please feel free to contact Madelyn Leopold at (608) 283-1773 or mleopold@boardmanlawfirm.com if you have questions not addressed in this article.