The ABLE Act of 2014 created ABLE accounts, also known as Achieving a Better Life Experience accounts, to give people with disabilities a way to save money without compromising their eligibility for government assistance. These accounts let people save up to a predetermined amount without compromising their eligibility for Medicaid and Supplemental Security Income (SSI). The money in an ABLE account can be used for qualified disability expenses, such as housing, health care, education, and transportation.
Key Takeaways
- ABLE Accounts and Special Needs Trusts are financial tools designed to help individuals with disabilities save and manage their money without losing eligibility for government benefits.
- ABLE Accounts offer tax-free growth and withdrawals for qualified disability expenses, while Special Needs Trusts may have different tax implications depending on the type of trust.
- Contributions to ABLE Accounts are limited to ,000 per year, with a total limit of 0,000, while Special Needs Trusts have no contribution limits and can be funded by third parties.
- Withdrawals from ABLE Accounts for non-qualified expenses may be subject to income tax and a 10% penalty, while Special Needs Trusts have more flexibility in how funds can be used without tax consequences.
- When comparing the tax benefits of ABLE Accounts and Special Needs Trusts, it’s important to consider the specific needs and financial situation of the individual with disabilities.
By giving them access to flexible financial resources, ABLE accounts aim to improve the quality of life for people with disabilities. Conversely, Special Needs Trusts (SNTs) are formal agreements created to manage financial resources for people with disabilities while maintaining their eligibility for government assistance. In contrast to ABLE accounts, which belong to the person with a disability, SNTs are created by a guardian or family member. Assets held in the trust can be utilized for the beneficiary’s benefit without deducting from their allotted resources under Medicaid and SSI.
SNTs can be especially helpful for people who have inherited money or received a settlement because they can be put in a trust to make sure the recipient doesn’t lose their eligibility for necessary government assistance. One of ABLE accounts’ most alluring aspects is how they are taxed. While the earnings in an ABLE account grow tax-free, contributions to the account are not tax deductible on federal tax returns. Accordingly, as long as the money is utilized for approved disability expenses, any interest, dividends, or capital gains made within the account are exempt from federal income tax. This tax-free growth can greatly increase the amount of money that people with disabilities have access to, enabling them to save money over time without having to pay taxes.
Also, in some states, contributions to ABLE accounts may also be eligible for state tax deductions. For example, some states provide tax breaks to citizens who make contributions to the ABLE program in their home state. For families trying to save as much money as possible for a loved one with a disability, this can offer an extra layer of financial support.
It is crucial to remember that although withdrawals for qualified expenses are tax-free under federal law, withdrawals for non-qualified expenses might be subject to income tax & a 10% penalty on the withdrawal’s earnings portion. ABLE accounts and Special Needs Trusts are taxed differently. For tax purposes, SNTs are typically regarded as distinct legal entities.
This implies that the trust’s tax rate will be applied to any income produced by the trust’s assets. Particularly when income surpasses specific thresholds, trusts are frequently subject to higher tax rates than individuals. The overall financial plan for managing a trust may be greatly impacted, for instance, when trusts reach the highest federal income tax rate of 37 percent in 2023 at just $13,450 of taxable income. Distributions made to the beneficiary from a Special Needs Trust, however, are usually not subject to income tax.
This implies that although the trust may be subject to taxes on its profits, any payments given to the disabled person directly are not considered taxable income. Through the trust, families can offer financial support without raising the beneficiary’s taxable income or endangering their eligibility for government assistance thanks to this arrangement. Trustees must keep correct records and make sure IRS rules are followed in order to prevent unforeseen tax repercussions. A substantial disability must have occurred prior to the age of 26 in order for a person to be eligible for an ABLE account. This age restriction is important because it guarantees that the program is aimed at younger people who might need ongoing assistance throughout their lives.
The person must also meet the requirements set by the Social Security Administration (SSA) or be eligible for SSI. It is important to note that while multiple family members may make contributions to an individual’s ABLE account, only one account may be opened per person. Regarding contribution caps, federal law establishes specific annual contribution caps for ABLE accounts.
Up to $17,000 can be contributed annually by individuals in 2023 without compromising their eligibility for government assistance. Also, under certain conditions, the person may be able to contribute even more if they are employed and receive income through a program called “ABLE to Work.”. Up to a maximum of $12,760 in 2023, this clause permits qualified individuals to make additional contributions equal to their earned income.
However, SSI eligibility cannot be affected if total contributions from all sources exceed $100,000. Eligibility for creating a Special Needs Trust is based on the purpose of the trust’s establishment and its adherence to legal requirements, not on age or type of disability. On behalf of a person with a disability, a parent, guardian, grandparent, or court may create a Special Needs Trust.
The trust must be created with the individual’s best interests in mind, making sure that it doesn’t prevent them from being eligible for Medicaid and SSI, two vital government programs. Special Needs Trusts do not have contribution caps like ABLE accounts do, but it is important to take into account how contributions might impact one’s eligibility for government assistance. A trust that receives a sizable amount from an inheritance or settlement, for instance, needs to be properly set up to prevent the beneficiary from losing their eligibility for Medicaid or SSI. Also, any money deposited into a first-party Special Needs Trust—which is financed by the beneficiary’s personal assets—must be utilized for their benefit and might need to be reimbursed to Medicaid on their death.
While third-party trusts are exempt from this requirement, they are still subject to rules governing expenditures & distributions. Qualified Disability Costs. As long as ABLE accounts are utilized for approved disability expenses, withdrawals from them are comparatively simple. The costs of education, housing, transportation, uninsured medical services, and other essentials that improve the lives of people with disabilities are all included in this category.
Advantages and Flexibility. ABLE accounts are especially appealing due to the flexibility with which funds can be used; beneficiaries are not subject to penalties or taxes on eligible expenses when they take out money as needed. Compliance and Documentation. Nonetheless, keeping thorough records of all withdrawals and expenses from an ABLE account is essential.
These amounts could be subject to income tax and an extra 10% penalty on earnings if they are taken out for non-qualified expenses. The significance of thorough planning and documentation in the management of an ABLE account is emphasized by this requirement. Qualifications & documentation.
To maintain their eligibility for government benefits and to ensure compliance with IRS regulations, beneficiaries should maintain records of all transactions, including receipts. Special Needs Trust withdrawals are subject to strict guidelines that guarantee adherence to legal requirements while giving beneficiaries the assistance they require. The trustee may decide how to distribute funds from an SNT, and they must be used exclusively to support the disabled person.
Common applications include paying for therapy sessions, buying medical equipment, and covering living expenses that are not covered by government assistance programs. It is crucial to remember that distributions from a Special Needs Trust should be paid to service providers or vendors directly on behalf of the beneficiary rather than to the beneficiary directly as cash payments. This strategy guarantees that money is spent properly while preserving adherence to SSI and Medicaid rules. Trustees must be cautious when allocating funds, and they should seek legal advice if they are unsure if a specific expense is allowed by government regulations. The tax advantages of Special Needs Trusts and ABLE accounts differ in a number of significant ways, which may have an impact on families with disabled members’ financial planning choices.
Tax-free growth on earnings and tax-free withdrawals for approved expenses are two major benefits of ABLE accounts. This feature makes it easier for people with disabilities to manage their daily expenses associated with their disability by enabling them to save money without having to pay taxes. While Special Needs Trusts are exempt from taxes on distributions made to beneficiaries directly, they are subject to higher rates of taxation than individual taxpayers on any income earned within the trust. This difference may have an effect on long-term financial plans; families who expect substantial savings growth over time may favor ABLE accounts because of their advantageous tax treatment.
But when it comes to asset protection and flexibility in handling larger sums of money that might surpass ABLE account limits, SNTs provide special benefits. Although they address different needs and situations, both financial tools are ultimately crucial in helping people with disabilities. When choosing between setting up an ABLE account or a Special Needs Trust, families must carefully assess their unique circumstances, taking into account elements like anticipated costs, possible inheritances, and long-term financial objectives.
Speaking with financial advisors or legal professionals who specialize in disability planning can help them make the best decision possible while optimizing benefits.
FAQs
What is an ABLE account?
An ABLE account is a tax-advantaged savings account for individuals with disabilities and their families. It allows them to save money without affecting their eligibility for certain public benefits programs.
What is a Special Needs Trust?
A Special Needs Trust is a legal arrangement that allows a person with a disability to receive financial support without jeopardizing their eligibility for government benefits such as Medicaid and Supplemental Security Income (SSI).
How are ABLE accounts and Special Needs Trusts taxed?
Contributions to ABLE accounts are made with after-tax dollars, and the earnings grow tax-free. Withdrawals are also tax-free if used for qualified disability expenses. Special Needs Trusts are taxed based on the type of income they generate, such as interest, dividends, or capital gains.
What are qualified disability expenses for ABLE accounts?
Qualified disability expenses for ABLE accounts include education, housing, transportation, employment training and support, assistive technology, personal support services, health, prevention and wellness, financial management and administrative services, legal fees, expenses for oversight and monitoring, and funeral and burial expenses.
Who can contribute to an ABLE account or Special Needs Trust?
Anyone can contribute to an ABLE account on behalf of the account beneficiary, including the beneficiary themselves. Contributions to a Special Needs Trust are typically made by a third party, such as a family member or legal guardian.
Can funds from an ABLE account be transferred to a Special Needs Trust?
Yes, funds from an ABLE account can be rolled over into a Special Needs Trust without incurring a penalty, as long as the beneficiary of the ABLE account is the same as the beneficiary of the Special Needs Trust.