What is a special needs trust? Benefits and how it works

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A special needs trust is a unique financial tool designed to provide support to individuals with disabilities without affecting their eligibility for certain government programs. A special needs trust can be a powerful part of a comprehensive financial plan for families with special needs members.

In this guide, we’ll explore what a special needs trust is, how it works, its benefits and how to set one up.

What is a special needs trust?

A special needs trust (SNT) provides financial support and security for people with disabilities without impacting their eligibility for Medicaid, Supplemental Security Income (SSI) and other needs-based government assistance.

The trust holds assets, such as money or life insurance policies, that are managed by a trustee for the benefit of a person with a disability (the beneficiary). The funds in the trust are used to supplement — not replace — government benefits, covering expenses such as out-of-pocket medical costs, education, vehicle or home repairs and recurring bills.

This type of asset protection trust ensures that the beneficiary can maintain their quality of life without losing access to crucial government aid.

Types of special needs trusts

Special needs trusts come in three main types — first-party, third-party and pooled trusts.

• First-party SNTs hold assets that belong to the beneficiary, such as money from a personal injury settlement or an inheritance and must repay Medicaid upon the beneficiary’s death. A first-party SNT may also be called a self-settled trust.
• Third-party SNTs, or supplemental needs trusts, are funded by someone other than the beneficiary and do not require Medicaid reimbursement.
• Pooled trusts can be either first- or third-party SNTs. The difference is that a pooled trust is managed by a nonprofit organization, which reduces administrative costs and supports investment optimization of pooled assets. Each beneficiary has their own sub-account.

Choosing the right type of SNT depends on the source of the assets and the specific circumstances of the beneficiary. Consulting with a professional experienced in special needs planning is a smart move.

How does a special needs trust work?

A special needs trust is a legal arrangement. The trust is usually established by a parent, grandparent or legal guardian and managed by a dedicated trustee who uses trust assets to cover expenses for a beneficiary beyond what government benefits provide.

First-party special needs trusts are irrevocable, meaning they cannot be altered once established and assets within the trust are protected from creditors and legal claims. This ensures funds are used solely for the beneficiary’s intended needs. A third-party special needs trust can be revocable or irrevocable depending on how the grantor sets it up. Typically, the grantor has the power to revoke or change the SNT.

The trust is managed by a trustee who oversees disbursements. Distributions are made to cover supplemental needs but not for basic expenses like food and housing.

To establish a first-party SNT, the beneficiary must be under 65 years old. There are no age restrictions for third-party SNTs, making them flexible for long-term planning.

What can a special needs trust pay for?

A special needs trust is designed to enhance the quality of life for individuals with disabilities. These trusts typically pay for expenses such as education, recreation, medical treatment not covered by government benefits and personal items.

Specifically, the funds can be used for medication and medical equipment not covered by Medicare or Medicaid, clothing, furniture, home appliances, tuition, cell phones, entertainment, personal assistants, legal fees, insurance, electronic equipment, burial expenses, home purchases and assistance with starting a business.

However, the general rule is that an SNT cannot be used for basic living expenses covered by Supplemental Security Income benefits, such as food and housing. This includes direct payments for rent, mortgage, utilities, groceries and meals. If the trust pays for these items, it can result in a reduction or loss of SSI benefits. Additionally, funds from the trust should not be given directly to the beneficiary, as this can also affect their SSI benefits.

How to set up a special needs trust

Setting up a special needs trust involves a series of steps and careful planning with an experienced attorney to ensure it adheres to legal requirements. Here are the key steps involved:

1. Determine the type of trust: Decide whether a first-party, third-party or pooled trust is most suitable. This will depend on the source of the assets and the specific circumstances of the beneficiary.
2. Choose a trustee: Selecting the right trustee is crucial. A trustee can be a family member, a professional or a corporate trustee. They are responsible for managing assets and making distributions in the best interest of the beneficiary. Select a competent and trustworthy person for this role.
3. Draft the trust document: With the help of an attorney, draft the trust. This document will detail the terms and conditions of the trust, including information about the trustee, beneficiary and the use of trust assets. The document should be signed and notarized.
4. Fund the trust: The trust can be funded with various assets, including cash, real estate, stocks, life insurance proceeds and other investments. It’s important to ensure assets are transferred to the trust and not directly to the beneficiary in order to maintain their eligibility for government benefits.
5. Submit the application: Complete and submit a trust account application form for review. Once approved, the trust will be established.
6. Manage the trust: Once created, the trustee must uphold their fiduciary duties, including managing trust assets, making distributions, paying taxes and keeping records. They must also stay informed about laws and regulations affecting SNTs to ensure ongoing compliance.

Keep in mind that creating a SNT can be a complex process. It’s advisable to work with experienced professionals to ensure the trust is properly established and managed.

Bottom line

A special needs trust can be a powerful tool for ensuring the long-term financial security of a loved one with disabilities. A trust allows families to provide for the supplemental needs of the individual without jeopardizing their access to crucial government benefits. However, setting up and managing a SNT involves multiple steps, including drafting legally binding documents. It’s essential to work with an attorney or financial advisor to ensure the trust complies with all legal requirements and effectively preserves eligibility for government benefits.