Special needs trusts: financial and estate planning for the disabled; how to structure an estate plan that won't jeopardize a disabled child's eligibility for public assistance.

Many clients have disabled children who receive Social Security supplemental security income benefits SSI). Parents of disabled children receiving benefits face an almost insurmountable dilemma when doing financial and estate planning for the child. To the extent these parents finance the disabled child's economic needs during their life and after their death, they risk the loss of public assistance to the child. For most parents, the thought of disinheriting a child as a means of preserving SSI benefits is intolerable. Conversely, outright distribution of the parent's estate to the child may result in the loss of these benefits. In an everchanging world with unknown future economic conditions, parents want to structure an estate plan that will not jeopardize the disabled child's access to SSI and other available public benefits.

THE SOLUTION: A SPECIAL NEEDS TRUST

A planning device called a special needs trust (SNT) has been developed over the past few years to deal with government agency restrictions. The SNT is based on Social Security Administration (SSA) guidelines that permit payment for certain social, medical, educational, transportation and other services without negatively affecting SSI benefits or eligibility status. The SNT is not based on legislation and should not be regarded as an absolutely certain way to protect a disabled child's assets and access to public assistance. It is, however, preferable to the alternatives. To be effective, the SNT must be carefully structured as an emergency backup fund that supplements, but does not supplant, SSI provisions for the beneficiary's needs in such areas as food, clothing and shelter.

While the SNT can and should be structured to consider the complexities of Medicaid qualifications and disqualifications, the focus of this article is SSA guidelines, the essential elements of an SNT designed to conform to those guidelines and legislative proposals which, if enacted, would further sanction and bring additional certainty to special needs trust planning.

SSA GUIDELINES: THE PROGRAM OPERATION MANUAL

SSA guidelines are found in the Program Operational Manual (POM) used by SSA eligibility workers to determine whether the principal of a trust is includable as a resource for a claimant of SSI benefits. Conformity of an SNT to POM guidelines is vital to successful financial and estate planning for a disabled person. Nevertheless, the SSA has kept these guidelines a veritable secret from SSI recipients. It's critical, therefore, that SNT planners know both the SSI codified restrictions and POM guidelines used to determine whether trust principal is an includable resource.

SSI RESTIUCTIONS

To illustrate these restrictions, an SSI recipient is not permitted to own cash or other resources in excess of $2,000 in value. A resource (such as a trust) is considered to be "owned" by the beneficiary and thus "an includable resource" if it is available to be used for food, clothing and shelter; these are the needs SSI satisfies. There are other restrictions as well. For example, SSI recipients cannot have more than $20 per month of unearned income. Income above this amount will result in a reduction in SSI benefits on a dollar-for-dollar basis and could mean the ultimate loss of the entire public benefit.

Many clients believe they can simply make distributions of assets to third parties to avoid this restriction. Of course, if public assistance agencies are not aware of funds received by a disabled recipient, no loss of benefits can occur. Not only is this a violation of the law with a potential liability, but there is the very real risk that a significant private family subsidy will be discovered. Loss of public assistance would be the unfortunate result.

Public assistance agencies are strongly inclined to deny public assistance or attach assets of a beneficiary that might be used to provide benefits already being provided by public assistance. Even trusts drafted by competent attorneys and under the administration of an independent trustee can cause a disabled recipient of trust income to be disqualified from public assistance unless the trust is carefully drafted and written to conform to SSA guidelines.

CRITICAL POM GUIDELINES

SSA policy, as expressed in the POM guidelines, treats a trust as a resource when an individual owns the assets in the trust and, acting on his or her own behalf or through an agent, has the legal right to use the assets for food, clothing or shelter. Further, the policy statements instruct eligibility analysts not to count property held in trust as a resource of the claimant if access to the property is restricted.

RISK OF INFORMAL TRUSTS

Clients desiring to avoid having to set up an SNT often consider giving money outright during their lifetime or upon their death to an individual in whom they have confidence, trusting that individual to use the funds in an appropriate manner for the benefit of the disabled person. The problem, of course, is there are no formal written constraints on this individual, sometimes called a precatory trustee, and other than the good faith assurances of the precatory trustee, the client has no way of knowing whether the disabled person will actually receive the benefit of the funds.

Even if confidence in the precatory trustee is well placed, there are problems. Income generated on funds held by the trustee would be taxable to him or her. The funds themselves could be attached by any of the trustee's creditors, could become involved in a domestic relations dispute or simply be used by the trustee for some personal financial need or emergency. Of course, there are other risks as well, not the least of which is the death of the precatory trustee and the claim of ownership of the assets by the heirs.

Because using an informal trustee has so many risks, clients have long desired to protect the beneficiary's assets through a trustee legally bound to abide by the terms of the trust and to protect trust proceeds from attachment by the trustee's creditors. For this protection, however, the beneficiary gives up free access to trust income and principal and must abide by the terms of the trust as reasonably interpreted by the trustee. Of course, a trustee who misinterprets trust provisions or acts inappropriately could be removed through court proceedings. Assuming the trustee does not abuse his discretion, the beneficiary must know and understand fully these assets are not "owned" outright by the beneficiary and are subject to definite restrictions with regard to their use.

SNT DIFFERS FROM COMMON SUPPORT TRUST

An SNT is unlike a traditional support trust, which authorizes distributions for the general health, support and maintenance (and sometimes comfort) of a beneficiary. The traditional support trust violates public agency restrictions concerning the value limit of resources a beneficiary can own and income he can receive because the trustee has the discretion to distribute trust income and principal for the beneficiary's support.

An SNT must be tightly drafted to direct the use of funds to serve purposes that don't overlap with the intent of SSI. For example, the trust should define "special needs" as those needs that foster and maintain the beneficiary's health, safety and welfare but limit them to those needs not provided for by any public agency of the county, state or federal government. Likewise, the trust should avoid providing benefits directly relating to food, clothing or shelter since provision for these is essentially SSI's purpose.

EMERGENCY BACKUP FUND

Unlike the traditional support trust, the SNT is an emergency or backup fund secondary to public resources. Care should be taken to expressly state in trust documents that the trustor's intent is that assets not be used to supplant SSI benefits but only to supplement them. Clear instructions should be given to the trustee to continue to use public benefits, particularly SSI and Medicare, for essentials such as food, clothing and shelter.

Care must also be taken to state the purpose of the trust as an emergency or backup fund and to limit the discretionary powers of the trustee. Fortunately, laws throughout the United States have been developing in a manner favorable to SNTs and have increased the probability that a trust can be created to provide a certain amount of supplemental assistance for a disabled beneficiary without substantial risk of loss of public assistance benefits or attachment of trust proceeds.

It's now fairly well established that a distribution to a third person can be made for purposes other than food, clothing and shelter and not be regarded as unearned income for the beneficiary. A trustee can be empowered to make distributions for the purchase of exercise equipment, travel, reasonable recreation, training programs, education and, of course, rehabilitation. It's very important, however, that financial advisers, trustees, clients and even the beneficiary of the SNT recognize that restrictions must be placed on the use of these funds, which must be under the control of an independent trustee, if they are to be considered assets not owned by the beneficiary.

SNT MUST BE IRREVOCABLE

If SNT is not revocable and is very difficult, if not impossible, to amend. However, during the lifetime of a client/grantor, an SNT can be created but left unfunded. Of course, if the client does not place assets into the SNT, its irrevocable nature is immaterial. The trust could be irrevocable and yet be part of the client's revocable living trust, with funding of the SNT intended to take place after the client's death.

TRUSTEE SELECTION

Identification of a trustee possessing the usual appropriate attributes is as critical as the form of an SNT, and a professional trustee should seriously be considered. The trustee must recognize the special restrictions of an SNT as well as the personal liability the trustee is subjected to for negligence, indiscretion or errors on the trustee's part or on the part of individuals who assist him in performing his duties. These duties cannot be delegated. An SNT trustee can enlist the aid of other professionals to perform some of the tasks, but they are only advisers to the trustee. He remains directly liable for the professional adviser's errors and omissions.

CONTINGENT BENEFICIARIES 

The trustee can be found in a fiduciary tight spot" when there are contingent beneficiaries who will receive undistributed principal and income of the trust after the death of the disabled person. During the lifetime of the disabled beneficiary, a trustee may attempt to provide as much economic assistance as possible in satisfaction of the trust's purposes without incurring a loss of public benefits. In cases in which contingent beneficiaries are to receive distributions of income and principal that were not previously expended on the special needs of the primary beneficiary, the contingent beneficiaries may be critical of the trustee's discretionary spending not clearly authorized by the trust instrument. These conflicting interests between lifetime and contingent beneficiaries can be particularly troublesome when the trustee is a family member or friend of both parties.

The existence of these contingent beneficiaries could deter creditors' claims against the trust during the primary beneficiary's life. A court may hesitate to allow creditors to invade the trust estate where the interests of such contingent beneficiaries would clearly be injured. Therefore, while the existence of contingent beneficiaries makes the task of trust administration more complex, their existence often is seen as a strategy to add protection from the claims of creditors.

POWER OF TRUSTEE TO TERMINATE SNT

There is always the possibility the SSA's administrative guidelines will change. The law itself can change as well and, of course, there will always be gray areas that require interpretation by the courts. If current or future circumstances make it more desirable to go back to the old system of a precatory trustee, the SNT trustee should have the power to terminate the trust. Note, however, that the power to terminate an irrevocable trust is controversial and could be brought into question.

The trustee of an SNT should have the option to terminate it as a last recourse to try to protect trust property from the claims of creditors. Assuming the trust is terminated, it's important be be mindful of the risk inherent in using precatory trustees. While such a transfer creates substantial risk of loss to the disabled beneficiary, creditors may find it difficult to prove the beneficiary has any legal interest in the property and may be frustrated in attempts to attach the assets.

One solution is to distribute the trust principal and income to two or more cotrustees. Cotrusteeship is often discouraged by estate planners because of the requirement of unanimity in decision making. However, in such an arrangement cotrusteeship could increase the integrity of the informal trust relationship and provide additional protection for the informal beneficiary by holding the funds in joint tenancy, thus avoiding an inheritance problem on the death of the first joint tenant/trustee.

Careful planning must precede an SNT's execution and funding. Nevertheless, given the risks of other unrestrictive "support trusts" or the informal precatory trustee relationship, living within a tightly drafted SNT is an alternative worth considering in light of today's law, which is becoming more favorable for disabled people.

NEW LEGISLATION NEEDED TO CODIFY SNT

For three years, Congress has been considering legislation to codify SSA guidelines and notify SSI recipients of their rights. Those favoring the legislation argue that SSI recipients can become far more productive members of society and live independently and with dignity through the structuring of a trust that meets certain special needs. Opponents argue that SSI recipients should not have "substantial assets" whether or not their beneficial use is restricted. The latter position appears to be inconsistent with the policy guidelines of the SSA.

The SSA's position on codification is inconsistent with the purpose of its own policy guidelines. On one hand, these policy guidelines enable the structuring of an SNT that preserves eligibility without substantial risk of loss of benefits. Nevertheless, the SSA has formally opposed recent legislative efforts in Congress to codify their rules. In addition, only a relatively small number of attorneys and financial advisers are aware of the closely guarded POM guidelines and are therefore fearful to attempt to structure an SNT for a client who may lose eligibility for valuable SSI benefits. Legislation making the POM guidelines law and requiring dissemination of this information to the disabled and their families is necessary to meet the financial needs of disabled Americans.

A TOOL FOR THE FUTURE

The SNT is rapidly developing as an essential financial and estate planning tool. Prudent planning requires well-defined statutes. Until such statutes exist, planners should caution clients that care be taken to conform trusts for the disabled to SSA guidelines. Further caution should stress the relative instability of guidelines as opposed to statutes. At this time, all SNTs should be structured to anticipate possible changes in SSA guidelines and permit the trustee to protect trust assets through the power of termination, if necessary.

n