The Beneficiary Designation Trap And Disabled Children

by: Thomas D. Begley, Jr.

Many children with disabilities are receiving means-tested public benefits, such as SSI and Medicaid, or may receive such benefits in the future. By leaving monies outright to those children, they will become ineligible for those public benefits, which generally have an asset limit of $2,000. Only about 25% of clients prepare Special Needs Trusts for their children. Even those that do, often overlook the importance of beneficiary designations.

Many clients believe that their life insurance policies, retirement plans, annuities, and other tax-deferred vehicles pass under their Wills and to the Special Needs Trust. Only probate assets pass under a Will. Life insurance policies, retirement accounts, annuities, and POD investments pass outside the Will directly to the named beneficiary.

It is crucial that clients understand that the beneficiaries of their life insurance policies, retirement accounts, and annuities be changed to the Special Needs Trust, if the children with disabilities are receiving or expect to receive means-tested public benefits.

The other problem with tax deferred assets, commonly called “Income in Respect of a Decedent” or “IRD assets,” is that they may be subject to federal and state estate taxes, state inheritance taxes, and income taxes. Therefore, the Special Needs Trust may not receive nearly as much as the parent intended to provide. A strategy to solve this problem would be to have the parents purchase a life insurance policy in an amount sufficient to pay any estate, inheritance, or income taxes attributable to these assets. In order to achieve a dedicated funding source, the parent might consider purchasing an annuity with a lump sum payment that will pay out a sufficient amount of income to pay the life insurance premium. The life insurance proceeds would then replace the assets lost to taxation.