Video of Presentation for Monmouth County Bar Family Law Committee on “Pensions and Special Needs Trusts”

Summary of Presentation: Pensions and Special Needs Trusts

Special Needs Trusts (SNTs):

Special needs trusts are estate planning devices that are specifically permitted under federal and state Medicaid law, which further New Jersey’s public policy regarding the rights of the disabled.

Types of SNTs:

Special needs trusts may be “first party” or “self-settled” trusts (“d(4)(a) trusts”), which contain the assets of the disabled beneficiary; or “third party” trusts (sometimes referred to as “supplemental benefits trusts”), which contain the assets of a third party (usually a parent or grandparent). The legal requirements differ for establishing each type of trust, and care must be taken to establish the special needs trust to comply with applicable law, so that the assets of the trust are not considered “available” to the disabled beneficiary, thus rendering the beneficiary ineligible for Supplemental Security Income (“SSI”), Medicaid, or other public benefits based upon need.

Transfer of Pensions and Other Income Streams to SNTs:

A more complex issue arises when considering transferring an income stream into a special needs trust. The most common types of income streams include alimony and child support payments; personal injury/structured settlements; pensions; annuities; and individual retirement accounts. Some types of income are not assignable by law and, therefore, may not be paid directly to a trust. For example, Railroad Retirement pensions; Veterans pensions and assistance; federal employee retirement payments; Social Security and SSI payments; workers’ compensation benefits; and, private pensions under the Employee Retirement Income Security Act are not assignable.

However, income that is legally assignable and is assigned to an irrevocable trust is not income in determining eligibility for Medicaid and other public benefits based upon financial need. Thus, many types of streams of income, such as alimony and child support; annuities; individual retirement accounts; and personal injury/structured settlements, may be assigned to an SNT.

A special needs trust may be funded with an IRA or other qualified retirement plan. According to the trust rules regarding payments of IRAs and other retirement benefits, all benefits must be distributed out of the IRA within five years of the owner’s death, if he or she died before the required beginning date (“RBD”); or over what would have been the remaining life expectancy of the deceased owner, if the deceased owner died after the RBD. However, when a qualifying trust (including a special needs trust) is the beneficiary, benefits can be distributed in annual installments over the life expectancy of the oldest beneficiary of the trust.

Pursuant to Private Letter Rulings 2006-200-25 and 2011-160-05, the transfer of a decedent’s IRA to a self-settled SNT is disregarded, for federal income tax purposes. The trustee of a special needs trust can use the disabled beneficiary’s life expectancy to calculate the annual RMD. The IRS also determined that a special needs trust is a grantor trust, for federal income tax purposes, so all income is taxed at the disabled beneficiary’s applicable tax rate.