Do I Need a Third Party Special Needs Trust or a Revocable Living Trust: Special Needs Planning Fundamentals

Introduction to Planning for Special Needs Individuals

Do you have a special needs child?  Do you have a child on the autism spectrum?  Do you intend on leaving an inheritance to an adult beneficiary who struggles with severe depression?  Is a beneficiary of your estate plan “on SSI?”  Do you anticipate someone else, such as a grandparent, leaving an inheritance to your special needs child?  If you answered yes to any one of these questions, then you should consider creating a particular type of trust known as a third party special needs trust (SNT), also sometimes called a supplemental needs trust.

Special needs planning involves creating a multi-pronged plan to ensure financial security and quality of life for individuals with disabilities.  Estate planning for disabled, or special needs, individuals includes legal, financial, and healthcare considerations tailored to the person’s unique needs and future care.

Quite literally, the one million dollar question is how to pay for the high costs of lifetime care for special needs individuals.  State and federal public benefits programs such as SSDI, SSI, and Medicaid (Medi-Cal here in California), can help . . . if the individual qualifies.  To qualify for monthly government-funded means-tested cash income such as Supplemental Security Income (SSI), certain Medi-Cal programs (based on either disability or age), Section 8 Housing, and other public benefits programs, the disabled individual (the applicant) must meet some rather convoluted “income” and “resource” rules.  This article outlines the bare minimum requirements.

Using certain types of trusts, such as a first party SNT or third party SNT, or perhaps an SSA-recognized bank account referred to as an ABLE account (which, in general, does not constitute an available resource to the disabled beneficiary of the account), can often ensure that your loved one with special needs can remain eligible for public benefits now and in the future once they receive their inheritance.

In general, to qualify for means-tested public benefits – SSI, for instance – the individual can have no more than $2,000 in assets.  As you can imagine, inheriting a small bank account can render them ineligible for SSI and other asset-tested government benefits programs!  However, fortunately, the Social Security Administration (SSA) and Medicaid allow members of the disability community to legally “shield” assets from “counting” as income and/or resources, allowing them to remain below the $2,000 threshold.  SNTs are one such vehicle.

Basics of Special Needs Trusts and SSI

While there are additional types, two of the most common types of special needs trusts that estate planners utilize are the first party SNT and the third party SNT.  These trusts differ in one important aspect: while a third party SNT does not require a “Medicaid payback clause,” first party SNTs (also referred to as a “(d)(4)(A) trust” or “self-settled trust”) must contain a Medicaid payback provision that provides that, at the disabled beneficiary’s death, any assets remaining in the trust must first be used to reimburse every state Medicaid agency that paid benefits to the beneficiary while alive, before remainder beneficiaries can receive their inheritance from the first party SNT.

Here is another important distinction between these two forms of SNTs: the disabled individual or a third party on behalf of the disabled individual must create the first party (d)(4)(A) SNT before the disabled attains the age of 65; a third party may create a third party SNT regardless of the disabled beneficiary’s age.

To be clear, a first party SNT is funded with the disabled or special needs individual’s own assets, whereas the third party SNT is funded with the assets of an individual other than the disabled individual.  This can be a confusing point at first, but it is an important difference between first party and third party SNTs: when an individual, such as a parent, creates a first party SNT on behalf of the disabled individual, it is not a third party SNT, even though you might think that the parent indeed is a third party. 

The crucial, basic point to remember is that, you can create a first party or third party SNT for a loved one with special needs, but because the third party SNT will not require a Medicaid payback clause, the third party SNT often is the more attractive type of trust, especially if the beneficiary has already turned 65. 

Sadly, the first party SNT with the Medicaid payback requirement is often necessary because family members failed to implement appropriate estate planning in the first place.  If you name your disabled sibling as a beneficiary of your IRA, for instance, and your sibling is or will be applying for SSI or another public benefits program with income or resource restrictions, you are likely jeopardizing your sibling’s eligibility.  Rather, you should discuss with an estate planning or special needs planning attorney whether creating a third party SNT for your sibling and designating the third party SNT as the IRA beneficiary is an appropriate solution. 

Leaving inheritances to disabled family members outright and in their own names, or even in a general needs trust, is not the same thing as leaving the inheritance to them in an appropriate SNT.  Aside from the out-of-pocket cost to create the trust, there is little downside to creating and funding an SNT.

You Can Create a Third Party SNT and Fund it Later

You do not need to disinherit your disabled family member out of fear of “messing up” their government benefits eligibility, or out of fear that “it will all go to the state.”  Proper special needs planning prevents these outcomes.

In contrast to a first party SNT, another potential advantage of a third party SNT is that you can create a revocable third party SNT.  As long as the disabled beneficiary is prohibited from amending or revoking the third party SNT, you can maintain the revocable character of the third party SNT and make appropriate changes over time.  You can even fund it with death beneficiary designations on IRA and similar qualified retirement accounts.

Properly funding any SNT is crucial, especially if you have qualified retirement accounts such as an IRA or 401(k).  It is critical that you discuss your assets with your estate planning or special needs planning attorney and understand what you need to do with beneficiary designation forms, and whether and when the third party SNT should be irrevocable.

You should not download a special needs trust form from the internet and engage in DIY planning, or make beneficiary designation changes to your retirement accounts on your own, without first meeting with an experienced estate planning or special needs planning attorney.

It is also worth mentioning that a third party SNT may be drafted “inside” your traditional revocable living trust or as a standalone trust in a separate document.  In short, for simplicity and clarity, it is often advisable to create a standalone third party SNT (which, as mentioned above, may be either revocable or irrevocable).

ABLE Accounts

An Achieving a Better Life Experience (ABLE) account is another vehicle that a special needs individual can use to maintain means-tested public benefits eligibility.  Anyone wishing to give money to the disabled individual may create an ABLE account on the disabled individual’s behalf, as long as the disabled individual otherwise qualifies.

An ABLE account is a tax-advantaged savings account designed for individuals with disabilities, allowing them to save money without affecting eligibility for government benefits. Funds can be used for qualified expenses such as healthcare, education, and housing. 

Under the ABLE Act, to qualify as an ABLE account beneficiary, the disability must have onset before age 26.  However, beginning on January 1, 2026, the onset age of disability will be increased to age 46.  In addition, the amount of funds in an ABLE account that does not count as a countable resource for SSI beneficiaries is capped at $100,000.

One potential drawback to ABLE accounts is that, like first party SNTs, ABLE accounts have a “Medicaid payback” rule: at the beneficiary’s death, any funds remaining in the account must be paid back to state Medicaid agencies to reimburse them for benefits paid.

In Sum: Excellent Solutions

With appropriate foresight and a proper understanding of special needs planning, using a standalone third party SNT to leave assets to a disabled or special needs family member may be an excellent solution, even if the individual is not currently receiving means-tested public benefits.  Unlike a first party SNT or an ABLE account, the third party SNT will not be required to reimburse state Medicaid agencies (assuming it otherwise passes muster upon review by SSA).  However, if an individual is receiving an inheritance outside of an SNT or a personal injury settlement, as long as the individual is under 65 years old, a first party SNT may be an appropriate solution.

Please contact California estate planning and special needs planning attorney Ryan J. Casson at (805) 384-0400 to set up an appointment to discuss how special needs planning can immeasurably benefit your family.