The Special Needs Trust

The special needs trust can be your primary savings tool for your child’s future. It allows you to properly transfer savings to your child without jeopardizing his or her ability to receive government benefits. Several ways to fund the trust are presented below.

Also referred to as a “supplemental care trust” the special needs trust provides a way for you to supplement government benefits such as Medi-Cal and Supplemental Security Income (SSI). The trust can be set up so it functions while you’re alive, or begins to function after your death.

Here’s the way it works. First, you select a trustee—someone you completely trust and who can properly manage money. If the trust is to function while you are alive, the trustee distributes money from the trust to your child in ways that don’t disqualify your child from government benefits. If the trust is to function after your death, the trustee facilitates the transfer of money from your estate into the trust, then helps manage and distribute the money according to your wishes.

The most important benefits of the trust are maintaining your child’s financial well-being and his or her long-term eligibility for government assistance. It has another benefit, though. Through this trust, friends and family can make gifts of money, also contributing to the financial well-being of your child.

How to Fund Your Special Needs Trust

The most important thing to remember in funding your special needs trust is thisThe special needs trust, not your child, must be the heir or beneficiary of any funds you or anyone else wants to transfer to your child. 

Remember, always, if your child ever accumulates more than $2,000 in assets, he or she may become ineligible for receiving government benefits. Some states have stricter requirements, meaning that asset requirement may be below $2,000:

Here are some ways to fund your special needs trust:

  • Life insurance; it is one of the few ways to arrange for future funds after your death. Life insurance will be more affordable if you purchase it while you are young and healthy.
  • Standard government benefits, such as Social Security survivor benefits.• Savings and investments, including money in retirement funds (that can be distributed at an older age or transferred after death).
  • Gifts, assistance, and inheritances from friends and family members.
  • Any Property, such as the family home.
  • Military benefits.

How Funds From a Special Needs Trust Can Be Used

Each state has a different set of limitations on how money in special needs trusts can or can’t be used, but generally, it can be used for supplemental needs—those needs not met by government benefits such as Medicaid and SSI. Typical uses of money in special needs trusts:

  • Transportation
  • Home health aides
  • Education
  • Rehabilitation
  • Computer equipment
  • Medical and dental care not provided by government benefits

How Funds From a Special Needs Trust Cannot Be Used

Again, each state sets its own limitations on how funds can or cannot be used, but generally, the trustee of your special needs trust cannot use funds for:

  • Food
  • Housing
  • Property taxes
  • Home insurance
  • Utilities
  • Transferring cash to your child with special needs

How to Set Up Your Special Needs Trust

Select an estate planner experienced in working with families of children with special needs to set up your trust. This is a must; the trust has to be properly set up. Your estate planner will also properly establish the responsibilities of the trustee who can be a person or financial institution, such as a bank. The trustees most important job is to make sure your child always stays eligible to receive government benefits. Your estate planner , with your input, set what limitations the trustee has in managing and distributing the trust’s funds.

What Is a "Third-Party" Special Needs Trust and How Is It Different From Other Kinds of Trusts?

Special needs trusts come in three main flavors -- first-party special needs trusts, third-party special needs trusts. Both trust varieties are designed to manage resources for a person with special needs so that the beneficiary can still qualify for public benefits like Supplemental Security Income (SSI) and Medi-Cal.  While first-party special needs trusts hold funds that belong to the person with special needs, third-party special needs trusts, as the name implies, are funded with assets that never belonged to the trust beneficiary, and they provide several advantages over the other type of trust.

Third-party special needs trusts are set up by a donor – the person who contributes the funds to the trust.  These trusts are typically designed as part of the donor's estate plan to receive gifts that can help a family member with special needs while the donor is still living and to manage an inheritance for the person with special needs when the donor dies.  Third-party special needs trusts can be the beneficiaries of life insurance policies, can own real estate or investments and can even receive benefits from retirement accounts (although this process is very complicated and not typically recommended unless there aren't other assets available to fund the beneficiary's inheritance).  There is no limit to the size of the trust fund and the funds can be used for almost anything a beneficiary needs to supplement her government benefits.  Upon the beneficiary's death, the assets in a third-party special needs trust can pass to the donor's other relatives or anywhere else.

This last factor is one of the key advantages of a third-party special needs trust: because the funds in the trust never belonged to the beneficiary, the government is not entitled to reimbursement for Medicaid payments made on behalf of the beneficiary upon her death, unlike with a first-party or pooled trust.  This allows a careful donor to benefit her family member with special needs while potentially saving funds for other people who don't have the same needs.

Whereas first-party trusts must be established for the benefit of someone who is younger than 65, third-party trusts don't have age limits.  In some states, first-party trusts must be monitored by a court, but third-party trusts almost never have to go through this same process, especially while the donor is still alive.  In addition, while the donor is living, funds in the trust usually generate income tax for the donor, not for the beneficiary, avoiding the complication of having to file income tax returns for an otherwise non-taxable beneficiary and then explain them to the Social Security Administration.