Leaving assets to your adult children or other beneficiaries may seem simple. But in many situations, it can be quite tricky. For example, if you have a beneficiary with special needs, you must take special care.

July 28, 2020 by Steve Hartnett 0 Comments

Maybe you grew up without much. You worked hard. You earned a good education. You succeeded in life even though the streets weren’t paved with gold where you grew up. In fact, maybe you grew up in a very impoverished, oppressed community.

Now you (and your spouse if you’re married) have accumulated enough so you’re comfortable. Maybe you’re not a billionaire, but you feel like you’ve achieved a reasonable level of material success. After your death, you’d like to provide for your loved ones so they can be a step up the ladder of financial stability and so they can get a good education and get a good start in life.

Deciding to whom you want to leave your assets is often the easy part. Often the difficult decision is determining the best way to leave them your assets. Let’s say you want to leave your assets to your children at your death. What’s the best way to do it?

You could leave your assets to them outright. That might be the right solution sometimes, but all too often, that’s not the right solution. This is the third in a series of blogs examining different ways to leave assets to a beneficiary and when and why that might be appropriate.

The first article in the series discussed the “Divorce Protection” Trust or “Access” Trust. The second article discussed a fully discretionary trust, often called an “Asset Protection” Trust or a “Sentry” Trust. This third article in the series examines a “Special Needs” Trust.

A Special Needs Trust is tailored to help a beneficiary with special needs receive an inheritance without jeopardizing their current or future public needs-tested benefits, such as Medicaid or Supplemental Security Income (“SSI”).

If you have a child or other beneficiary who has special needs, you want to provide them the best chance to lead a full and meaningful life, just like any other child or beneficiary. If you leave assets to them outright, it could jeopardize public needs-tested benefits which they are on.

Let’s look at a quick example. Betty is leaving assets to her son, Jackson. Jackson has special needs. Betty loves Jackson and wants the best chance for him. But she knows Jackson will have unique challenges in life. Betty has $800,000 in assets and she has two children, Jackson and Abigail. Both her children are now adults and Abigail attends college. If Betty leaves assets to Jackson, he’d be ineligible for needs-tested public benefits. Betty could leave all the assets to Abigail and ask her to watch out for Jackson. However, if Betty did that, the funds intended for Jackson would be lost if Abigail had financial difficulties from creditor issues, divorce, mismanagement, etc.

Betty could leave the portion intended for Jackson in a Special Needs Trust for him. Abigail could be the trustee of that trust and distribute from it for Jackson’s special needs. This would allow the funds to be used for Jackson to enjoy life through education, vacations, and other “special needs” without jeopardizing his needs-tested public benefits. Also, if Abigail had creditor issues, her creditors could not attach the assets in Jackson’s Special Needs Trust.

From an income tax standpoint, the Special Needs Trust for Jackson is treated as a separate taxpaying entity. A separate tax ID number would be needed for the trust. The trust’s taxable income might be carried out to Jackson if there are distributions to or for Jackson’s benefit that year. Otherwise, the trust would pay its own taxes.

As demonstrated by the three articles in this series, leaving assets to beneficiaries can be tricky. Often the best way to leave an inheritance to someone you love is not leaving it outright. Rather, it is often better to leave them assets in a trust with provisions tailored for their benefit. For some beneficiaries, a Special Needs Trust is appropriate. For other beneficiaries, an Asset Protection Trust is best. For still other beneficiaries, a Divorce Protection Trust is best.

Stephen C. Hartnett, J.D., LL.M.
Director of Education
American Academy of Estate Planning Attorneys, Inc.
9444 Balboa Avenue, Suite 300
San Diego, California 92123
Phone: (858) 453-2128
www.aaepa.com