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How Special Needs Trusts Work

Posted by Lanre J. Abiola | Mar 17, 2024

When there is a disability, chronic health issue, or addiction, parents often create a special needs trust, where funds in the trust are typically used for their child's treatment and recovery. Special needs trusts allow parents of special needs children to extend care and financial assistance for their loved ones. Thus, a special needs trust is meant to protect the assets of people with disabilities or medical conditions.

Special needs trusts have two unique features: (1) a trustee is appointed to manage any and all spending where the beneficiary has no control over the assets inside the trust; and (2) a special needs trust's beneficiary will be eligible for government programs that place limits on assets, such as Supplemental Security Income (managed by the Social Security Administration) or Medicaid since assets in the trust are not owned outright by the beneficiary. Because assets in a special needs trust are not considered traditional assets, it allows parents of special needs children to set aside assets to be used for the benefit of their special needs children, without risking their access to government-sponsored support benefits. Therefore, to take advantage of a special needs trust's unique features, parents of special needs children looking to create a special needs trust should consult with an experienced Wisconsin estate planning law firm. 

Additionally, there are different types of special needs trusts, including first party, pooled, and third party. A first party special needs trust is funded by the beneficiary, where the beneficiary has significant assets due to prior inheritance or any form of settlement money. Under a first party special needs trust, the remaining assets are used to reimburse Medicaid for the total amount of medical assistance paid out after the beneficiary dies.

A pooled special needs trust can be established with a non-profit pooled trust program which provides a professional trustee. Wisconsin offers two pooled special needs trust programs: Wispact and Life Navigators.

A third party special needs trust is funded by assets from any third party. For instance, parents, grandparents, and other relatives typically create a third party special needs trust. The third party special needs trust benefits the beneficiary without jeopardizing the beneficiary's ability to receive public benefits. 

Can I assign my individual retirement account (IRA) to my adult child's special needs trust?

No. However, you can name your adult child's special needs trust as a beneficiary of your IRA. This way, after you die, withdrawals from an IRA account will be paid to the trust for the benefit of your child. Moreover, your required minimum distributions under your IRA account would be triggered. For example, assuming you name your child's special needs trust as the beneficiary of your IRA and your child is in fact "disabled" or "chronically ill" per the tax code at the time of your death, your special needs trust would be required to take distributions from the account.

Is a traditional IRA the best way to fund a special needs trust? 

Yes. But a large IRA can mean large required distributions to fund a special needs trust, which means that the trust could end up with big tax bills because trusts, in some cases, are subject to taxes. 

The best solutions to fund a special needs trust and bypass big tax bills are: Roth IRAs and life insurance. With the former, the minimum distributions would be income tax-free. With the latter, there are no required minimum distributions; thus, you will likely avoid big tax bills. 

To learn more about a special needs trust in Wisconsin, contact Prestige Law Office, LLC. Give the firm a chance to help create your special needs trust by scheduling a consultation and taking the first step in securing your future.

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About the Author

Lanre J. Abiola

Mr. Lanre Abiola founded Prestige Law Office, LLC, with the objective of providing individuals, entrepreneurs, and small and mid-sized businesses with high-quality, cost-effective legal services to achieve the best possible result for clients at a fair cost. Mr. Abiola believes in vigorous advocacy on clients' behalf.

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