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Your child’s life quality depends on the special needs trust’s distribution standard. The distribution standard determines what the trustee can buy for the beneficiary, your child. Special needs trusts vary dramatically in what the trustee can buy for the beneficiary. This article will discuss the importance of the special needs trust’s distribution standard.
“Distribution” refers to the trustee distributing money for the beneficiary's benefit. For example, if the trustee pays your child’s dentist bill, that payment is a distribution from the trust. “Standard” refers to the language in the trust that informs the trustee what types of distributions are permitted. Distribution standards for special needs trusts can be either strict or discretionary.
A strict special needs distribution standard prohibits the trustee from making certain kinds of distributions. In other words, it limits what the trustee can buy for your child. Unless your state’s law requires one, you do not want a special needs trust with a strict distribution standard.
Here’s an example of a strict distribution standard:
The trustee shall not make any distribution to the beneficiary that will reduce or eliminate any government benefits, including, but not limited to, Supplemental Security Income (SSI) or Medicaid.
That sounds pretty reasonable, doesn’t it? However, the language actually limits what the trustee can buy for the beneficiary of the trust.
For example, let’s assume Sally received Supplemental Security Income (SSI). Sally is considering two options: 1) living in a Medicaid-funded residential setting or 2) living in a condo across the street from where she works at a grocery store. Sally has been working at the grocery store for nine years. Sally wants to live in a condo with her sibling. The trustee wants to buy the condo with trust funds, title the condo in the name of the trust, and pay the mortgage and utilities with trust funds.
Given the above distribution standard, can the trustee execute the plan? No. Why not? Because if the trustee pays for the condo’s mortgage and utilities, Social Security considers these items as a type of income called in-kind support and maintenance (ISM). Since Sally has ISM “income,” Social Security will reduce Sally’s monthly SSI cash benefit by one-third. In 2023, Social Security would reduce Sally’s SSI federal cash benefit from $914 per month by about $304.
However, the size of the SSI reduction is not the issue. The issue is that Sally’s monthly SSI cash benefit will be reduced. Remember, the above strict distribution language in our example said the trustee shall not make any distribution to the beneficiary that will reduce or eliminate any government benefits including, but not limited to, Supplemental Security Income (SSI) or Medicaid. Given that language, the trustee cannot pay the mortgage and utilities on the condo because it reduces SSI.
By contrast, if the special needs trust distribution standard was a discretionary standard that permitted the trustee to make a distribution that would reduce SSI, the trustee could weigh the monthly loss of a little over $300 in SSI cash benefits versus the value to Sally of living comfortably in the community, close to work, family, and friends.
Here’s another example of a strict distribution standard:
The trustee shall never under any circumstances make a distribution for food or shelter for the beneficiary.
With language like the above, the drafting attorney wants to avoid any in-kind support and maintenance (ISM) distribution that will reduce the beneficiary’s monthly SSI cash benefit. If the trustee pays for food and shelter, it will trigger a one-third reduction in the SSI cash benefit. Have you heard the adage “Don’t throw the baby out with the bathwater”? Due to the drafting attorney’s zeal to avoid reducing the monthly SSI cash benefit, the trust’s strict distribution standard undermines the overall purpose of the special needs trust—to give the beneficiary a better quality of life.
The irony is that after the parents die, the child with a disability may not even receive SSI. Often, the child gets Social Security Disability Insurance (SSDI) or Childhood Disability Benefit (CDB). For these Title II benefits, where either the child or the child’s parent paid into Social Security and Medicare, the trustee can buy the beneficiary anything and not worry about losing the benefit because these benefits are not means-tested. There’s no reason to restrict the trustee from making distributions for shelter or food.
Bottom line: Carefully review your child’s special needs trust distribution standard. When parents ask me to review special needs trusts drafted by another attorney, I sometimes ask them: “Do you know the trustee does not have the authority to purchase food and shelter for your child”? Shocked, they will say, “No!”
Here’s another example of a distribution standard:
In administering the trust, the trustee shall use the income and principal of the trust only to supplement and never to replace government or private benefits, if any, which may be available to the beneficiary.
The above distribution standard is unclear. The language does not address the possibility that the beneficiary is not receiving government benefits. What if the trustee considers the governmental program inadequate or inappropriate? Can the trustee bypass state-funded care and pay privately instead?
Why do special needs trusts use a strict distribution standard? There are three reasons.
Reason 1: The lawyer is using an ancient trust form. In the early days of special needs trusts (circa the 1980s), there were virtually no statutes or court cases to guide lawyers. The drafting attorneys were “flying blind.” Out of caution, lawyers often used strict distribution standards. However, many states now have statutes and case law explicitly allowing special needs trusts – often with far less restrictive distribution standards.
If the special needs trust limits what the trustee can buy for the beneficiary – especially food and shelter – and then has a laundry list of “supplemental items” that the trustee can buy for the beneficiary and the examples appear “retro,” such as a VHS recorder, radio, or Sony Walkman, you can be quite certain sure that the trust form is ancient and has a restrictive strict distribution standard.
Reason 2: Some states require a strict distribution for your child to remain eligible for Medicaid.
Reason 3: The Social Security Program Operations Manual System (POMS), Social Security's primary manual of policy and procedures for field personnel, in SI O1120.200 B. 13., defines a supplemental needs trust as “a type of trust that limits the trustee’s discretion as to the purpose of the distributions. This type of trust typically obtains [my italics] language that distributions should supplement, but not supplant, sources of income, including SSI or other government benefits.” That definition may have confused some attorneys.
However, Social Security’s test as to whether the assets in the special needs trust count as a resource of the beneficiary is not the above definition. The test, according to Social Security’s POMS SI 01120.200D.2, is the following:
_____________________________________________________________________________
If an individual does not have the legal authority to revoke or terminate the trust or to direct the use of the trust assets for his or her own support and maintenance, the trust principal is not the individual’s resource for SSI purposes.
______________________________________________________________________________
The POMS above reflects the regulations promulgated by the Social Security Administration (Section 416.1201) that define resources as follows:
_____________________________________________________________________________
Resources mean cash or other liquid assets or any real or personal property that an individual owns and could convert to cash to be used for his or her support and maintenance. If the individual has the right, authority, or power to liquidate the property, it is considered a resource. If a property right cannot be liquidated, the property will not be considered a resource of the individual.
_____________________________________________________________________________
You want a discretionary special needs trust distribution standard if state law permits. A special needs trust with a discretionary distribution standard allows the trustee discretion to buy things for the beneficiary that will reduce or eliminate government benefits if the trustee believes it is in the beneficiary’s best interests. The trustee also has the authority to make distributions for the beneficiary’s benefit if the beneficiary does not receive government benefits.
A special needs trust with a discretionary standard still makes clear that the trust is not a so-called “support” trust. The trust may state that your general intent is to have the trustee supplement, but not replace, government benefits if your child is receiving benefits. Still, the trust does not prohibit the trustee from making a distribution that reduces government benefits. The discretionary distribution standard does not prohibit the trustee from paying for food or shelter.
The discretionary distribution standard does the following:
With either the discretionary or the strict special needs standard, Social Security does not view the assets in the special needs trust as a countable resource of the beneficiary because the beneficiary cannot force the trustee to pay for food and shelter or liquidate the trust.
So, what should you do when working with your local attorney? Don’t ask your attorney whether the special needs trust has a strict or discretionary distribution standard. Although all estate planning attorneys will understand the concept of a distribution standard, not all attorneys will be familiar with the terms strict versus discretionary. Instead, ask your attorney specific questions. Here are a few possibilities:
If your attorney says the trustee cannot buy food, shelter, or other things for your child (the beneficiary), I recommend you ask your attorney to show you the state law restricting the trustee’s discretion. I want you to ask your attorney for two reasons:
Your child’s life quality depends on the special needs trust’s distribution standard. The distribution standard determines what the trustee can buy for the beneficiary, your child. Special needs trusts vary dramatically in what the trustee can buy for the beneficiary. This article will discuss the importance of the special needs trust’s distribution standard.
“Distribution” refers to the trustee distributing money for the beneficiary's benefit. For example, if the trustee pays your child’s dentist bill, that payment is a distribution from the trust. “Standard” refers to the language in the trust that informs the trustee what types of distributions are permitted. Distribution standards for special needs trusts can be either strict or discretionary.
A strict special needs distribution standard prohibits the trustee from making certain kinds of distributions. In other words, it limits what the trustee can buy for your child. Unless your state’s law requires one, you do not want a special needs trust with a strict distribution standard.
Here’s an example of a strict distribution standard:
The trustee shall not make any distribution to the beneficiary that will reduce or eliminate any government benefits, including, but not limited to, Supplemental Security Income (SSI) or Medicaid.
That sounds pretty reasonable, doesn’t it? However, the language actually limits what the trustee can buy for the beneficiary of the trust.
For example, let’s assume Sally received Supplemental Security Income (SSI). Sally is considering two options: 1) living in a Medicaid-funded residential setting or 2) living in a condo across the street from where she works at a grocery store. Sally has been working at the grocery store for nine years. Sally wants to live in a condo with her sibling. The trustee wants to buy the condo with trust funds, title the condo in the name of the trust, and pay the mortgage and utilities with trust funds.
Given the above distribution standard, can the trustee execute the plan? No. Why not? Because if the trustee pays for the condo’s mortgage and utilities, Social Security considers these items as a type of income called in-kind support and maintenance (ISM). Since Sally has ISM “income,” Social Security will reduce Sally’s monthly SSI cash benefit by one-third. In 2023, Social Security would reduce Sally’s SSI federal cash benefit from $914 per month by about $304.
However, the size of the SSI reduction is not the issue. The issue is that Sally’s monthly SSI cash benefit will be reduced. Remember, the above strict distribution language in our example said the trustee shall not make any distribution to the beneficiary that will reduce or eliminate any government benefits including, but not limited to, Supplemental Security Income (SSI) or Medicaid. Given that language, the trustee cannot pay the mortgage and utilities on the condo because it reduces SSI.
By contrast, if the special needs trust distribution standard was a discretionary standard that permitted the trustee to make a distribution that would reduce SSI, the trustee could weigh the monthly loss of a little over $300 in SSI cash benefits versus the value to Sally of living comfortably in the community, close to work, family, and friends.
Here’s another example of a strict distribution standard:
The trustee shall never under any circumstances make a distribution for food or shelter for the beneficiary.
With language like the above, the drafting attorney wants to avoid any in-kind support and maintenance (ISM) distribution that will reduce the beneficiary’s monthly SSI cash benefit. If the trustee pays for food and shelter, it will trigger a one-third reduction in the SSI cash benefit. Have you heard the adage “Don’t throw the baby out with the bathwater”? Due to the drafting attorney’s zeal to avoid reducing the monthly SSI cash benefit, the trust’s strict distribution standard undermines the overall purpose of the special needs trust—to give the beneficiary a better quality of life.
The irony is that after the parents die, the child with a disability may not even receive SSI. Often, the child gets Social Security Disability Insurance (SSDI) or Childhood Disability Benefit (CDB). For these Title II benefits, where either the child or the child’s parent paid into Social Security and Medicare, the trustee can buy the beneficiary anything and not worry about losing the benefit because these benefits are not means-tested. There’s no reason to restrict the trustee from making distributions for shelter or food.
Bottom line: Carefully review your child’s special needs trust distribution standard. When parents ask me to review special needs trusts drafted by another attorney, I sometimes ask them: “Do you know the trustee does not have the authority to purchase food and shelter for your child”? Shocked, they will say, “No!”
Here’s another example of a distribution standard:
In administering the trust, the trustee shall use the income and principal of the trust only to supplement and never to replace government or private benefits, if any, which may be available to the beneficiary.
The above distribution standard is unclear. The language does not address the possibility that the beneficiary is not receiving government benefits. What if the trustee considers the governmental program inadequate or inappropriate? Can the trustee bypass state-funded care and pay privately instead?
Why do special needs trusts use a strict distribution standard? There are three reasons.
Reason 1: The lawyer is using an ancient trust form. In the early days of special needs trusts (circa the 1980s), there were virtually no statutes or court cases to guide lawyers. The drafting attorneys were “flying blind.” Out of caution, lawyers often used strict distribution standards. However, many states now have statutes and case law explicitly allowing special needs trusts – often with far less restrictive distribution standards.
If the special needs trust limits what the trustee can buy for the beneficiary – especially food and shelter – and then has a laundry list of “supplemental items” that the trustee can buy for the beneficiary and the examples appear “retro,” such as a VHS recorder, radio, or Sony Walkman, you can be quite certain sure that the trust form is ancient and has a restrictive strict distribution standard.
Reason 2: Some states require a strict distribution for your child to remain eligible for Medicaid.
Reason 3: The Social Security Program Operations Manual System (POMS), Social Security's primary manual of policy and procedures for field personnel, in SI O1120.200 B. 13., defines a supplemental needs trust as “a type of trust that limits the trustee’s discretion as to the purpose of the distributions. This type of trust typically obtains [my italics] language that distributions should supplement, but not supplant, sources of income, including SSI or other government benefits.” That definition may have confused some attorneys.
However, Social Security’s test as to whether the assets in the special needs trust count as a resource of the beneficiary is not the above definition. The test, according to Social Security’s POMS SI 01120.200D.2, is the following:
_____________________________________________________________________________
If an individual does not have the legal authority to revoke or terminate the trust or to direct the use of the trust assets for his or her own support and maintenance, the trust principal is not the individual’s resource for SSI purposes.
______________________________________________________________________________
The POMS above reflects the regulations promulgated by the Social Security Administration (Section 416.1201) that define resources as follows:
_____________________________________________________________________________
Resources mean cash or other liquid assets or any real or personal property that an individual owns and could convert to cash to be used for his or her support and maintenance. If the individual has the right, authority, or power to liquidate the property, it is considered a resource. If a property right cannot be liquidated, the property will not be considered a resource of the individual.
_____________________________________________________________________________
You want a discretionary special needs trust distribution standard if state law permits. A special needs trust with a discretionary distribution standard allows the trustee discretion to buy things for the beneficiary that will reduce or eliminate government benefits if the trustee believes it is in the beneficiary’s best interests. The trustee also has the authority to make distributions for the beneficiary’s benefit if the beneficiary does not receive government benefits.
A special needs trust with a discretionary standard still makes clear that the trust is not a so-called “support” trust. The trust may state that your general intent is to have the trustee supplement, but not replace, government benefits if your child is receiving benefits. Still, the trust does not prohibit the trustee from making a distribution that reduces government benefits. The discretionary distribution standard does not prohibit the trustee from paying for food or shelter.
The discretionary distribution standard does the following:
- It gives the trustee flexibility to pay for whatever your child may need in the future;
- It gives the trustee authority to pay for private care, if necessary. We cannot predict the quality of government benefits for people with disabilities twenty-five years from now;
- It gives the trustee the authority to make distributions if your child is not receiving government benefits.
With either the discretionary or the strict special needs standard, Social Security does not view the assets in the special needs trust as a countable resource of the beneficiary because the beneficiary cannot force the trustee to pay for food and shelter or liquidate the trust.
So, what should you do when working with your local attorney? Don’t ask your attorney whether the special needs trust has a strict or discretionary distribution standard. Although all estate planning attorneys will understand the concept of a distribution standard, not all attorneys will be familiar with the terms strict versus discretionary. Instead, ask your attorney specific questions. Here are a few possibilities:
- What types of things will the trustee be able to buy for my child?
- Are there any things the trustee will not have the authority to buy for my child?
- If the state will allow my child to live in a Medicaid-funded residential program, but my trustee wants instead to buy a condo for my child or pay rent for an apartment, will the trustee be able to do so?
- If my child earns enough money and is not eligible to receive government benefits based on her disability, will the trustee still have the authority to buy things for her?
- If my child has a lot of bills, can the trustee make a large one-time payment to my child to pay off the bills? I understand if my child is on SSI, she may lose one month of SSI benefits.
If your attorney says the trustee cannot buy food, shelter, or other things for your child (the beneficiary), I recommend you ask your attorney to show you the state law restricting the trustee’s discretion. I want you to ask your attorney for two reasons:
- The special needs trust may have a strict standard, but it is not required by law; or
- If your attorney can point to a state law requiring the strict standard, you must know that to plan appropriately. For example, if the state law says the special needs trust cannot pay for your child’s food or shelter, you may want to leave a smaller percentage of your estate to the special needs trust and a larger percentage to your other children (if any). That way, your other children would have a moral (not legal) obligation to use the extra money for your child with a disability to pay for food and shelter.