Enriching Life with a Third-Party Special Needs Trust

A special needs trust (SNT) allows an individual to provide for a disabled beneficiary without jeopardizing the beneficiary’s eligibility for needs-based government benefits.

SNT funds can generally be used to pay for almost anything that falls outside the basic support that programs such as Supplemental Security Income (SSI) and Medicaid provide. This includes many goods, services, and experiences that these programs do not cover.

Rules around SNTs are complicated, and a trustee’s unauthorized use of SNT funds may result in a penalty or reduction of government benefits for the trust beneficiary.

How SNTs Work: First-Party versus Third-Party

There are two main types of SNTs: first-party and third-party. The main difference between them is that the former holds funds that the beneficiary owns or receives in a lump sum (often from a settlement or inheritance) and puts into the trust, and the latter holds funds given to the beneficiary by a parent, grandparent, or other family member or individual. Both types of SNT can hold assets such as cash, investments, life insurance policies, retirement accounts, and even real estate.

One key difference between first-party and third-party SNTs is that when the beneficiary dies, funds in a third-party SNT are not subject to reimbursement to the state for up to the amount of the government benefits the beneficiary received during their lifetime. Although the disabled person benefits from the funds, the funds in a third-party SNT never technically belong to them. So when a beneficiary of a third-party SNT dies, any remaining trust assets can pass to other individuals or to charities.

What a Third-Party SNT Can and Cannot Pay For

Regardless of whether an SNT is first-party or third-party, there are certain expenses that it can and cannot pay for on behalf of the beneficiary without jeopardizing government benefits.

The basic spending rule for SNTs is that the funds are intended to supplement—not replace or duplicate—needs-based government assistance benefits. They can be used for “special needs” but not for “basic support” (e.g., shelter and basic medical costs).

  • In general, an SNT can cover typical ongoing expenses of everyday life that government programs such as SSI and Medicaid do not
  • The funds must be used for the sole and direct benefit of the disabled beneficiary. Payments can benefit others only indirectly, such as when a beneficiary travels and needs an aide.
  • Whenever possible, SNTs should directly purchase an item or service in the trust’s name and not the beneficiary’s.
  • The trustee of an SNT should not make direct payments to the beneficiary even if the distributions are being made for allowable expenditures.

SSI, Medicaid, and SNTs

SSI includes shelter costs as part of its calculation when determining eligibility and benefit amounts. SSI refers to payments for shelter as “in-kind support and maintenance” (ISM). ISM is any shelter expense that somebody else (including a trust) provides for an SSI recipient. SSI considers ISM a type of unearned income. The following items fall into this category and generally should not be paid for by an SNT:

  • rent or mortgage payments
  • condo and HOA fees
  • property taxes
  • utilities such as water, gas, and electricity

Medicaid rules and coverage vary by state, but typically, SNTs can pay for the following types of medical and dental expenses that Medicaid does not cover:

  • inpatient psychiatric services for age-excluded individuals
  • over-the-counter medications
  • elective surgeries and procedures
  • dental and vision care
  • hearing aids
  • a private room instead of a shared room at a care facility
  • certain specialist providers

SNT funds disbursed in a way that violates SSI or Medicaid rules can impact a disabled person’s continued eligibility for those benefits.

The Social Security Administration may reduce SSI benefits by up to one-third of the federal benefit rate if SNT funds are used for ineligible purchases. Benefits may also be reduced if money is paid directly from the trust to the disabled beneficiary. Money paid directly to an SSI recipient to provide them with shelter could potentially reduce their SSI benefit dollar for dollar because this type of distribution is treated as unearned income regardless of what the funds are being used for.

If an SSI beneficiary receives cash (or a cash equivalent such as a refundable gift card) from an SNT, their benefit may be reduced by one dollar for each dollar received, up to the point where they lose SSI completely. A beneficiary could also lose their SSI altogether if noneligible trust payments increase what the Social Security Administration calls “countable income.” Losing SSI eligibility could lead to losing Medicaid since, in many states, SSI recipients automatically qualify for Medicaid.

Allowable SNT Purchases

Despite these restrictions on SNTs, they can be used to pay for many special expenses on the beneficiary’s behalf, such as the following items and activities:

  • clothing
  • phone, cable, and internet services
  • a vehicle, insurance, maintenance, and fuel
  • tuition, books, and tutoring
  • travel and entertainment
  • household furnishings and furniture
  • fitness equipment
  • computers, television, and other electronics
  • alternative medical treatments
  • parties or celebrations

In addition, the money required to administer a third-party SNT, including attorney’s fees and trust accounting fees, can be paid from the trust.

Creative Ways to Use Third-Party SNT Funds

Bearing in mind the restrictions on SNTs, trustees have wide latitude with how they can spend trust funds. As long as expenditures do not break the rules and put benefits at risk, a trustee is free to put money toward special purchases that go above and beyond the simple necessities and enrich the beneficiary’s life. Here are a few ideas for inspiration:

  • Vacations. Airfare, hotel accommodations, cruises, and other travel-related costs should be coverable by the trust.
  • Entertainment and hobbies. Support a beneficiary’s passion by using the trust to pay for movies, concerts, theater tickets, arts and crafts supplies, photography equipment, musical instruments, and physical and digital media subscriptions.
  • Recreational activities. SNTs can pay for membership fees, camps, or lessons for activities such as sports, exercise, and outdoor excursions.
  • Adaptive recreational equipment. To stay active outdoors, an SNT beneficiary might need specialized equipment, such as adaptive bikes, all-terrain wheelchairs, or modified vehicles—all of which can be paid for by an SNT.
  • Technology and electronics. Buy the beneficiary a new computer, tablet, or smartphone to stay connected and curate their interests. Funds can also go toward internet fees or a mobile phone plan.
  • Therapeutic services and programs. Nontraditional medicine such as aromatherapy, reiki, yoga, and massage therapy, as well as spa treatments and grooming services, offer a wellness boost and are usually not covered by Medicaid.
  • Pets and pet care. Research shows that pet ownership is associated with lower stress, depression, and anxiety. The trust can cover the costs of pet adoption, veterinary care, food, grooming, pet toys and supplies, and training.
  • Education and skill-building. Educational programs, classes, or workshops that can help a beneficiary build a skill set and increase their self-confidence may be paid for by the trust.
  • Home entertainment and furnishings. Although most housing-related expenses are not allowed from an SNT, many of the items that make a house a home—such as comfortable furniture, stylish décor, and an engaging sound system—are allowed.
  • Cultural and religious activities. Use money from the trust to foster participation in cultural or religious events, such as festivals, ceremonies, or annual celebrations that the beneficiary finds meaningful.

Get Help Managing an SNT

SNTs are highly technical and complicated, and administering one for a disabled beneficiary comes with significant responsibility. Not following trust rules can result in the reduction or loss of crucial public benefits.

There may be instances in which a beneficiary’s quality of life is worth more than a reduction in their government benefits. But a trustee must always balance short-term gain with long-term goals whenever they make a distribution, especially if a beneficiary requires Medicaid to pay for their long-term care costs—a central concern for many persons with disabilities. Trustees also have legal duties under general trust law requirements and can face legal action if laws are not carefully followed.

Our estate planning attorneys can help you set up an SNT for a disabled loved one and assist with trust administration, as either trustee or co-trustee or in an advisory capacity. Schedule a consultation to learn more.