A reprinted article from May/June 2014
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SPECIAL NEEDS TRUSTS
Enhancing Quality of Life and Preserving
Eligibility for Government Benefits
By D av id J. G ordon, C F P ® , C I M A ®
T
he special or supplemental needs trust
(SNT) is a statutory creation used
primarily to protect and optimize
the financial planning opportunities of
people with physical or mental disabilities.
SNT beneficiaries are persons who would
otherwise meet the Social Security general
assistance aid requirements but for their
often-meager level of wealth or income.
This article discusses trusts created under
the Omnibus Budget and Reconciliation
Act of 1993 (OBRA) and codified in 42
U.S.C. 1396p(d)(4)(A), et. seq., and ThirdParty Trusts. SNTs may also be referred to
as “OBRA 93 Trusts,” “d4A” or “d4C” trusts,
and Third-Party Trusts. In Illinois, relevant
statutory authority is found at 760 ILCS
5/15.1; 305 ILS 5/5—1.1a, 405ILCS 5/5-105,
and 89 Ill. Admin. Code Sect.120.347.
Introduction
Special needs trusts (SNTs) are an important exception to the rules that typically
apply to most trusts. Established for the
benefit of special needs individuals, properly
designed and implemented SNTs can shelter
assets from needs-based programs such as
Medicaid and Supplemental Security
Income (SSI). Moreover, for people under
age 65, an SNT will not be subject to the
“look-back” rules. These rules, designed to
prevent gratuitous transfers for the sole purpose of aid qualification, consider “available
resources” to include those transferred
within 36 months for transfers to individuals, and five years for transfers to trusts.
Applications for most needs-based public
assistance consider the typical trust as an
available resource. This is not the case with
SNTs, which are specifically exempt from
being considered an available resource.
At the death of the beneficiary, the public
agency usually will place a lien against the
trust to recover funds provided. However,
while alive, the beneficiary will have the
added security and flexibility of available
trust assets to supplement quality of life
and care.
Needs-based programs generally are subject to asset and income thresholds that can
disqualify or require contribution from
those with even very modest financial
resources. These types of programs form
a long list, and may include food stamps,
Veterans Administration benefits, Medicare
Part D, state and county benefits, legal and
Table 1: Three Main Types of Special Needs Trusts
Trust Format
Description
First-Party Special Needs Trust (d)(4)(A)
Third-Party Special Needs Trust
(state provides statutory authority)
Pooled Trusts (d)(4)(C)
Qualified Income Trust (d)(4)(B)
Funded by assets belonging or awarded to the disabled individual.
At death, residual assets first reimburse state aid agency.
Funded and settled by a third party with assets not belonging to the beneficiary.
At death, residual assets flow to designated beneficiaries.
Contributions are comingled or pooled for investment purposes; individual beneficiaries have
their own subaccounts that determine and track the amount of assets they are entitled to use.
At death, residual assets reimburse state aid agency or remain in pool.
Funded with income of disabled individual. Monthly distributions go to care provider. If greater
than care costs, can provide income to care recipient and spouse.
At death, residual reimburses state care provider.
Note: MIller Trusts are not included in this table.
© 2016 Investment Management Consultants Association Inc. Reprinted with permission. All rights reserved.
FEATURE | SPECIAL NEEDS TRUSTS
health clinics, and services or financial aid
from other public or private organizations.
They are distinguished from entitlement
programs such as Medicare and Social
Security Disability Insurance (SSDI), where
qualification requires only requisite
work-related tenure of the recipient or
parent.
Three Basic Formats
There are three main types of SNTs (see
table 1). They feature different funding
sources and varying payback requirements.
They are distinguished mainly by their ability (or inability) to direct residual amounts,
and whether creditors can attach or seek
repayment from trust assets. When using
trust formats differing from the SNT, great
care should be taken
to assure there is no conflict with
needs-based entitlement programs.
Although it is possible that a trust,
properly drafted and funded with
assets not owned by or entitled to
the disabled individual and settled
by a third party, could be exempt
from consideration, it is not a simple matter and can vary from state
to state. It is strongly recommended
that qualified counsel, experienced
in SNTs, be consulted before
embarking on any action that may have
legal or tax consequences.
of SNT cannot be created directly by the
disabled individual—even if that person
has the capacity to do so.
A trust containing the assets of an individual under age 65 who is disabled (as
defined in section 1382c(a)(3) of this
title) and which is established for the
benefit of such individual by a parent,
grandparent, legal guardian of the individual, or a court of the State will receive all amounts remaining in the trust
upon the death of such individual up to
an amount equal to the total medical assistance paid on behalf of the individual
under a State plan under this subchapter. (42 U.S.C. 1396p(d)(4)(A))
useful in properly drafted estate plans and
in conjunction with intervivos gifting goals.
As with any tax or legal matter, qualified
counsel should be consulted.
Pooled Trusts
A third type of SNT is referred to as the
“pooled trust” because contributions are
comingled or pooled for investment purposes. Each individual beneficiary has a
subaccount that determines and tracks the
amount of assets the individual is entitled
to use. Created and administered by nonprofit entities under state authority, pooled
trusts are used when assets exceed aid
thresholds but are not sufficient to justify
the expense of drafting a separate trust
under (d)(4)(A).
Enabled by 42 U.S.C. 1396p(d)(4)(C),
the pooled trust has no age limitation. Unlike (d)(4)(A) trusts, the
Some states, including Illinois,
pooled trust can be used to shelter
allow immediate Medicaid
assets for disabled individuals over
eligibility for a person over
the age of 65. Although anyone can
contribute to a pooled trust, they
age 65 who shelters assets
are usually established by a parent,
with a pooled trust.
grandparent, guardian, court, or
by the disabled individual (with
requisite capacity). In addition to
protecting assets from spending
down
to
qualify for aid, pooled SNTs offer
Third-Party SNTs
Third-Party SNTs are trusts that are funded advantages that may include convenience,
fiduciary oversight, cost-effective investand settled by a third party with assets not
ment management, ease of administration,
belonging to the beneficiary. Authorized
and inexpensive establishment and mainteunder the trust or trustee statutes of indinance costs.
vidual states, these types of SNTs require
careful drafting so that distributions do not
conflict with or reduce Medicaid and other
At the death of the beneficiary, some states
needs-based programs. In Illinois, for
will seek repayment for sums expended,
example, this type of SNT may be referred
while others will allow funds to stay in the
to as a 5/15 trust, after the relevant statupool or be otherwise directed. There is a
tory authority found in the Trusts and
great deal of latitude because the Omnibus
Trustees Act at 760 ILCS 5.15 et seq. The
Budget and Reconciliation Act of 1993
Third-Party SNT is designed to improve
(OBRA) regulations allow up to 100 perthe quality of life for the individual and to
cent of the residual to be retained by the
qualify as an “exempt asset” for the purtrust. However, the federal law also allows
poses of needs-based eligibility programs.
the individual states to provide their own,
At the death of the special needs individual, more restrictive, requirements, thereby
assets remaining in this type of trust are
resulting in significant variance across the
not subject to state agency repayment.
country.
Instead, the designated beneficiaries are
entitled to the assets as specified under the
In conformance with federal law, Illinois is
terms of the trust. These trusts can be very
an unusual example that requires payback
“
First-Party SNTs
Practitioners commonly use the term
“special needs trust” to designate trusts that
are funded by assets belonging or awarded
to the disabled individual. To shelter assets
from needs-based eligibility guidelines,
these trusts require reimbursement to the
state agency from residual trust assets at
the death of the disabled individual beneficiary. Amounts remaining after repayment,
if any, may be distributed per the terms of
the trust. These so-called “payback” trusts
arise from 42 U.S.C. 1396p(d)(4)(A) and
(d)(4)(C) and also may be referred to as
“(d)(4)(A)” or “(d)(4)(C)” trusts.
Note that the (d)(4)(A) type of SNT must
be established for the sole benefit of the
disabled individual and funded before he
or she reaches age 65. In addition, this type
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INVESTMENTS&WEALTH MONITOR
© 2016 Investment Management Consultants Association Inc. Reprinted with permission. All rights reserved.
FEATURE | SPECIAL NEEDS TRUSTS
to the state only if sufficient funds remain
for a 100-percent payback, i.e., trusts with
smaller residuals are not subject to payback at all. Subject to the 100-percent payback requirement, Illinois also allows the
entity creating the trust to retain a fixed
percentage for use by other account holders in the pool. Remaining funds, if any,
may be transferred to designated beneficiaries or donated back to the trust.
Some states, including Illinois, allow
immediate Medicaid eligibility for a person over age 65 who contributes assets to a
pooled trust. However, rules can vary from
state to state because Medicaid, though
authorized by the federal government, is
implemented at the state level. Many states
have a post-age 65 penalty for uncompensated transfers (i.e., when fair-market value
is not received by the transferor from the
trust). The penalty can require amounts
paid out to be first used to offset all or part
of the Medicaid costs incurred before qualification for Medicaid.
As with all Medicaid and state-provided
entitlement programs, it is important to
check your specific state regulations for
guidance. In addition to differences by
state, there are also differences among different types of trusts within the same state.
As a result, it can be economically beneficial to compare different types of trusts
before embarking on a course of action.
The Miller Trust
About half of the states use spend-down
approaches to Medicaid eligibility. Other
states use income-cap rules where
Medicaid eligibility is limited where
income exceeds certain limits. When
(d)(4)(B) income trusts are used, certain
entitlement programs may not provide for
nursing facility expenses and also will not
allow individuals to spend down to qualify
for Medicaid facility payments. Income-cap
states currently include AL, AK, AZ, CO,
DE, FL, GA, ID, IA, KY, LA, MS, NV, NJ,
OK, OR, SC, SD, TN, TX, and WY.
In the income-cap states, one method to
solve this issue is known as the Miller Trust
or Qualified Income Trust (QIT). A QIT can
“
These documents are designed to communicate
the wishes and knowledge of the parent or caregiver
and can be invaluable in helping future caregivers
understand the history of the disabled individual.
”
be established to receive the amount
of income in excess of the income cap.
Enabled by 42 U.S.C. § 1396p(d)(4)(B) and
an offshoot of Miller v. Ibarra, 746 F. Supp.
19 (D. Colo. 1990), this irrevocable trust
may provide Medicaid eligibility in cases
where it would otherwise be denied. Income
(only) from annuities, pensions, government assistance, and other sources is paid
into the trust. No assets, other than income,
may be contributed to a Miller Trust.
The Miller Trust may distribute amounts
to the settlor in order to provide the settlor
with a monthly income, so long as the
total from all sources is below the threshold amount. In certain states, additional
sums may be paid to the spouse of the
beneficiary, again assuming that total
spousal income remains below the cap
amount. Additional income is then paid to
the care provider, often a nursing home, to
offset the Medicaid cost. At the death of
the beneficiary, any remaining funds are
used to reimburse the Medicaid agency.
Again, rules vary by state and should be
carefully considered before taking action.
Although many state Medicaid agencies
have pre-approved trust forms and/or
guidelines, they will usually not provide
tax or legal advice.
Thoughts for the Future
An additional use of SNTs (beyond maintaining eligibility for benefits) also may
include a care plan, life plan, or memorandum of intent to help an incoming trustee
understand the goals of the settlor regarding quality of life and treatment needs.
These documents are designed to communicate the wishes and knowledge of the
parent or caregiver and can be invaluable
in helping future caregivers understand the
history of the disabled individual. In addition to medical and disability-related
directions, such documents can describe
preferred living arrangements, social activities, family and friendship relationships,
favorite places, comfort foods, likes and
dislikes, etc.
FINAL ASSET DISPOSITION
Enabled under 42 U.S.C. § 1396p(d)(4)(A) and (d)(4)(C), one major difference between (d)(4)(A) and
(d)(4)(C) trusts is in the disposition of remaining assets at the death of the beneficiary. Where the (d)(4)(A)
trust is invested in a separately managed account and any remaining amounts after Medicaid reimbursement may transfer as directed by the beneficiary, assets in the (d)(4)(C) or pooled trust are comingled
in trust accounts sponsored by a nonprofit entity that may retain any residual assets not claimed by the
Medicaid provider. In addition, (d)(4)(A) trusts must be funded prior to age 65 and cannot be created by the
disabled individual; (d)(4)(C) trusts have no such restrictions. In some states, a (d)(4)(C) trust initiation can be made after age 65. However, the Centers for Medicare
and Medicaid Services are attacking this on a state by state basis, so it may not be so for much longer.
(d)(4)(A) trusts can receive subsequent payments from a settlement, after age 65, if the settlement began
before age 65. Many states hold that, at the death of the beneficiary of a (d)(4)(C) trust, at least part of the
remaining funds must be allocated to other accounts of the pooled trust for use by other individuals with
disabilities.
MARCH/APRIL 2014
© 2016 Investment Management Consultants Association Inc. Reprinted with permission. All rights reserved.
3
As an overview, a life plan can help maintain and improve
quality of life and protect the special needs individual from
some of the stress and disruption that can accompany changes
in primary caregivers and trustees. Drafting a life plan can be a
structured process or a simple handwritten statement of a parent’s wishes for a child. Many private and nonprofit resources
are available to help benefactors explore options and guide creation of a plan. With modest forethought, difficult transitions
can be made easier and outcomes more successful.
This article originally was published in the May/June 2014 issue of IMCA’s Investments &
Wealth Monitor. Updated 6/2016.
Morgan Stanley Smith Barney LLC (“Morgan Stanley”), its affiliates, and Morgan Stanley
Financial Advisors and Private Wealth Advisors do not provide tax or legal advice. Clients
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information provided nor any opinion expressed constitutes a solicitation for the purchase
David J. Gordon, CFP®, CIMA®, is an Executive Director–Financial
or sale of any security. Morgan Stanley, its affiliates, and Morgan Stanley Financial
Advisor and Senior Portfolio Management Director with the
Gordon Financial Group at Morgan Stanley in Deerfield, IL, where
he specializes in fee-based portfolio management and comprehensive financial planning. The Portfolio Management program is
described in the applicable Morgan Stanley ADV Part 2, available
at www.morganstanley.com/ADV or from your Financial Advisor.
Contact him at [email protected].
Advisors do not provide tax or legal advice. ©2016 Morgan Stanley Smith Barney LLC. Member SIPC.
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