How a Special Needs Trust Works - SmartAsset

If you have a loved one who deals with chronic illness or a disability of some kind, you want to be able to keep supporting them after you’re gone. However, you don’t want to disrupt their ability to collect funds from programs like Medicaid or Disability. In these situations, you can use a special needs trust.

What Is a Special Needs Trust?

A special needs trust is a specific type of trust fund designed to help a beneficiary with special needs without hurting their eligibility for programs like Supplemental Security Income (SSI), Social Security Disability Insurance (SSDI) and Medicaid. In this case, someone with “special needs” refers to anyone who is chronically ill or has a physical or mental disability.

Programs like SSDI and Medicaid can act as crucial supports for individuals dealing with disabilities or chronic illnesses. However, these programs have income limits in order to ensure they’re serving those who need them the most. If you were to simply pass on funds to your beneficiary once you pass away, they could come in above this income limit.

A special needs trust circumvents this stipulation, as the owner of the funds is technically the trust, not the beneficiary. Furthermore, you’ll choose a trustee to be in charge of disbursing the funds in the trust. So while the beneficiary benefits from the trust, he or she isn’t in control of its assets.

Estate planning documents often must adhere to specific standards depending on the state they are filed with. To be sure, check the laws surrounding special needs trusts in your state. Failing to meet these requirements may invalidate your trust.

There are, however, a couple of universal rules that must be followed for a special needs trust to maintain validity:

If you are creating a special needs trust for a beneficiary, you must do so before the beneficiary turns 65.
Funds from the trust usually can’t be used to pay for food or shelter.

Types of Special Needs Trusts

Sometimes a situation crops up in which someone could benefit from a special needs trust, but they themselves own the funds in question. In other words, what if you come into some money, but you don’t want to interfere with your own ability to receive SSDI or Medicaid? In this situation, you can create a first-party special needs trust in which you serve as both the beneficiary and the grantor. Be advised that these can be complicated to draw up, as states have varying rules determining their validity.

A first-party special needs trust houses money that belongs to its beneficiary. That’s in contrast to a third-party special needs trust, which holds funds that a beneficiary does not directly lay claim to. These are generally used by grantors to allow the beneficiary to begin receiving funds from the trust even before their death.

Another major benefit of a third-party special needs trust is that because the funds never technically belong to the beneficiary, they cannot be used for Medicaid payments. This way, the grantor can use the trust to not only save money for the beneficiary, but also future beneficiaries.

The third and final version of these trusts is the pooled special needs trust. These are unique in that nonprofit organizations manage their assets for a fee. More specifically, these organizations pool the funds of multiple trusts together and invest them. When it comes to payments, beneficiaries receive an amount equal to their percentage of the pooled trust’s balance.

Benefits of a Special Needs Trust

A special needs trust, if established correctly, can be a win-win situation. The beneficiary wins, naturally, because they have financial support coming their way that doesn’t exclude them from further help. Meanwhile, the grantor of the trust has peace of mind knowing that their funds are being spent according to their wishes.

A special needs trust allows you to put down in writing what you wish your funds’ purpose to be, making it legally binding. Since special needs trusts are irrevocable, you can also protect your funds from creditors and lawsuits against the trust’s beneficiary. To reap these benefits, however, you must make sure to word your trust carefully and correctly. To ensure you accomplish this, it’s typically wise to consult an estate planning attorney when finalizing the trust. A financial advisor can also help you build a financial plan that incorporates a robust estate plan.

Bottom Line

The whole point of leaving funds behind for your loved ones is to make their lives easier, not harder. A special needs trust makes this possible, allowing you to help your beneficiary deal with the expenses that come with illness or disability without hamstringing their ability to get other assistance.

Tips for Planning Your Estate

While it’s possible to make an estate plan yourself, there are numerous pitfalls to DIY estate planning. You’re probably better off working with an attorney and a financial advisor, particularly if your situation is complex. Finding the right financial advisor that fits your needs doesn’t have to be hard. SmartAsset’s free tool matches you with financial advisors in your area in 5 minutes. If you’re ready to be matched with local advisors that will help you achieve your financial goals, get started now.
Take steps to minimize your estate taxes. Your beneficiaries could lose a significant chunk of their inheritance to taxes. There are a number of ways to prevent this from happening, though. For example, you can give portions of your assets to family members through gifts or by setting up an irrevocable life insurance trust.