In our office, we routinely assist individuals with disabilities or their families in creating first party special needs trusts (SNTs). This article explains the background on first party SNTs, the options available, and our process.
Background
To understand SNTs, let’s use the example of Jane Smith. Jane is 30 years old, and is physically healthy but has never been able to work or live independently due to an autism spectrum disorder. Jane lives in a group home, and receives SSI and Medicaid (MA). Jane’s father, John Smith, is guardian of her person and estate.
Jane’s grandmother Jill, who has always been close to her, names Jane as a beneficiary on a life insurance policy. At Jill’s death, Jane now becomes entitled to $100,000 of life insurance proceeds. What options are available to Jane (and John)?
The first option would be to disclaim the funds. A disclaimer means to refuse the gift, meaning it would go to the contingent beneficiary on the life insurance policy. This is a very bad idea. For purposes of SSI and MA, the disclaimer will be considered a gift, which will cause Jane to lose her MA and potentially her SSI. The funds are gone, so she has no way of supporting herself.
The second option is to accept and spend the funds. Jane will lose her MA and SSI, because she has more than $2K in liquid assets. The funds will be spent on Jane’s expenses until exhausted, at which time she will regain her SSI and MA benefits. However, Jane will go to the back of the line for any MA programs she is receiving that have a waiting list. This is disruptive (and disappointing, since the inheritance did her no good) but is manageable.
The third option is to set up a first party SNT for Jane. Federal statutes allow this, so long as the trust requires the funds to be paid back to the state at Jane’s death, and distributions from the trust are made carefully in a way that is consistent with rules for SSI and MA. During Jane’s lifetime, she can keep her public benefits, and the trust money will be used to supplement those benefits. So, for example, they might be used for medical bills or equipment not covered by MA, home improvements, or travel. At Jane’s death, unused funds will go back to the state. (This last part is not ideal, but it is the tradeoff in the statute for allowing this type of trust to exist at all.)
This third option will almost certainly be the best option for Jane.
Jane’s example deals with an inheritance, but it could just as easily be a personal injury settlement or social security settlement. In any of those cases, a first party SNT will most likely be the best way to preserve Jane’s SSI and MA benefits and allow her to benefit from the funds she has received.
Setting up First Party SNTs
There are two main ways to set up first party SNTs. The first is to create an independent (a.k.a. standalone) SNT managed by a family member or bank.
Again, consider Jane’s situation. If John goes this route, our office would create the trust document based on a conversation with John and permission from the guardianship court. The trust will work like a business—it will have its own checking and investment account, have its own tax ID, and file its own tax return every year. John will be the trustee, and will be responsible for investing the funds, making distributions, and filing the trust tax return.
This can work, but has a number of practical problems. John may or may not have the high level of financial sophistication and deep understanding of SSI and MA rules governing distributions to be proficient as trustee. The trust is intended to run for Jane’s lifetime, meaning John will need to choose successor trustees to take over if he dies or becomes unable to serve. The first successor might be Jane’s brother, but someone from the next generation (i.e. Jane’s brother’s children) should be included. Those people might not exist or might be too young to commit to the role. Naming a bank as primary or successor can solve this, but in Jane’s case $100K under management is not enough to justify the fees that would be charged by a professional.
The second option is a pooled trust. In Wisconsin, our go-to pooled trust is Wispact. Wispact is a nonprofit organization that manages multiple first party SNTs (which are called sub-accounts) and pools the funds for investment purposes. In that case, our office would assist John in creating the trust with permission of the court. Once the funds are received, they would be turned over to Wispact. John would continue as an advisor, meaning Wispact would consult with him on how best to use the funds. However, ultimate legal responsibility for distribution decisions, investment management, and tax reporting falls on Wispact, not John. John can name Jane’s brother (and, as they grow older, other family members) as successor advisor.
This second option solves multiple problems for Jane. John no longer needs to worry about distribution rules, tax reporting, or investment management, all of which are handled by Wispact. Nor does he need to worry about finding successor family members to manage trust funds, since Wispact as an organization will continue for Jane’s lifetime. And Jane can see some real benefits from her grandmother’s gift.
Getting Started
The first step is for the person who will be receiving funds or their guardian(s) to meet with us to discuss the situation. The agenda for the meeting is to discuss the person’s public benefits, the nature and timing of the gift, and possible options for preserving it. If a trust is the right option, we make some preliminary decisions about how the trust will work.
It is very important to meet with us as soon as you learn the funds are coming rather than wait until a check is in hand. Coming to us sooner rather than later allows us to create the trust in time to avoid a potential lapse in public benefits.
Have you learned that you or a person you care for will be receiving a lump sum and need to protect disability benefits? Call today for a free consultation.