The Economics of Divorce for Families with Children with Special Needs

Planning Is a Family Affair

First, parents of a child with significant disabilities will want to plan to ensure that their child is eligible for whatever government benefits and programs he or she would otherwise be eligible for. However, grandparents or aunts and uncles can often, with the best of intentions, leave assets directly to their grandchild or niece or nephew and cause them to lose eligibility for important services and programs. Education of family members is crucial—it is vital to get everyone in the extended family “on board.” This issue becomes even more complicated by “absentee” parents and grandparents. For example, uninvolved parents or grandparents who have little to do with their child or grandchild may, nonetheless, cause major problems when they die if they do not have a will, for, by law in many states, a portion of their assets will go automatically to their child or grandchild with disabilities.

Plan to Allocate Resources Over a Lifetime

Second, parents worry about how much their child needs for the rest of that child’s lifetime. When parents talk about planning for college education for a typical child, they can try and plan for what the cost of tuition might be when the child is eighteen. With a child with special needs, however, there are just too many variables, and the time horizon isn’t ten years or so, but rather seventy, eighty, or maybe even ninety years or more into the future. What will inflation be fifty years from now, let alone investment returns and interest rates? Which government benefit programs will the child qualify for, and which ones will even exist? It’s impossible to come up with an exact number. Regardless, parents can begin to plan by looking at potential resources their child may have access to as an adult.

The Child’s Potential

The first resource to consider is the children with disabilities themselves. What is a child’s potential for gainful employment? Many children with even significant cognitive disabilities have significant employability, and employment should, of course, be encouraged. There are individuals with autism or cerebral palsy who have a very high earning potential. There are also many individuals with these diagnoses and other developmental disabilities or mental health challenges who are unable to work at all. When beginning to plan, the best-case scenario is not what has to be planned for; rather, it is the more common reality of the child not being able to financially support him- or herself.

Parents

The second resource often considered is the parents. The parents may intend to financially support their child directly for the rest of their lives. The other common reality, however, is that most individuals with disabilities will outlive their parents.

Siblings

The third resource to consider is the parents’ other children— the siblings—who may financially support their brother or sister with disabilities. This is not only not realistic but, given that the sibling may have their own spouses and children in the future, it is probably also not reasonable. Moreover, most parents do not want their other children to take on that financial responsibility when they are gone.

Government Benefits and Services

The fourth resource to consider then, is government benefits and services available at both the state and federal level. Before a child turns eighteen years old, he or she will probably qualify for only a very few programs, if any, funded by the state or federal government, unless the family is living in poverty. However, once the child turns eighteen, he or she may qualify for several government benefits, as parents’ assets and income are no longer deemed designated to the child by most programs.

SSI

Probably the best-known government benefit program for people with disabilities is Supplemental Security Income (SSI), which is administered by the Social Security Administration (SSA). To qualify for SSI, a child must meet a threshold test of having no more than $2,000 in assets. Before a child turns eighteen, SSA considers parents’ assets and income. In the first full month after the child turns eighteen, SSA can only look at the child’s assets and income, although they do look back three years to see if the child had more than $2,000 in assets at any time during that period. If the child has never had more than $2,000 in his or her name in the last three years, then SSA moves on to the next test, which is whether the child could participate in “substantial gainful activity” (SGA). The SGA amount is $1,220 as of 2019, but it increases with inflation each year (in 2020 it will be $1,260). They will look at the child’s individualized education program (IEP), medical records, and work history (if any), to determine whether the child has the ability to gross work earnings of $1,220 per month. If, after analyzing all of the information, it is determined that the child cannot earn $1,220 per month, then the child will receive a check from SSI worth a maximum of $771 (this will increase to $783 in 2020) in states that do not have a state-subsidy “add-on.”

SSDI

Another well-known government benefit program for people with disabilities is Social Security Disability Insurance (SSDI). This program is best known for covering individuals who work for many years but who then become injured or sick and can no longer work and therefore qualify for the SSDI benefit. Children who are eighteen and applying for SSI probably do not have enough “quarters” to qualify for SSDI yet. However, they may have the qualifying number of quarters in just a few short years, due to the fact that they are already deemed disabled according to the SSI program. Before age twenty-four, an individual who is disabled requires only six quarters to be eligible for a small SSDI check.

A more common way that individuals with intellectual and developmental disabilities qualify for SSDI is as a “disabled adult child” (DAC), whereby they receive childhood disability benefits (CDB). To qualify for this benefit, the child must be deemed disabled prior to age twenty-two. This is most easily done by having applied, and been deemed eligible, for SSI before age twenty-two. In addition, a parent (or sometimes stepparent) must be on Social Security Retirement (SSR) or SSDI, or be deceased. Finally, the child must never have earned more than the maximum SGA amount from the time he or she turned twenty-two until the time the parent took SSR or SSDI or died.

The CDB benefit is very substantial in many cases. It is worth fifty percent of the SSR benefit paid to the parent at full retirement age (known as the “primary insurance amount” or PIA—this can be more than double the full SSI amount in 2019 dollars). When a parent dies, this amount increases further to seventy-five percent of the deceased parent’s SSR benefit at full retirement age.

Medicare

Regardless of which way a child with disabilities obtains SSDI, once he or she has SSDI and has been disabled for at least twenty-four months, the child is eligible for Medicare automatically. Medicare is important because it is accepted by most doctors, unlike Medicaid. Therefore, having Medicare as primary insurance is a goal for many children with disabilities who will not have employer-sponsored group health insurance.

While SSI, SSDI, and Medicare are very important programs that can provide much-needed income and cover many medical expenses, Medicaid is often the most important program for people with significant disabilities. This is because Medicaid is much, much more than medical insurance. Medicaid pays for everything for support to live with family independently or in a fully staffed group home, the cost of which can easily exceed $100,000 per year for an adult’s lifetime (and that can often be more than fifty years). Therefore, even if a family has relatively significant financial resources, special needs planning is important to ensure that those resources are not quickly spent in a single generation on the individual with disabilities.

SNTs and ABLE Accounts

To protect these government benefit programs that can be so crucial to individuals with disabilities living as full, independent, and meaningful a life as possible, there are a few important tools available. These included two different types of special needs trusts (SNTs), as well as ABLE accounts (“ABLE” stands for the “Achieving a Better Life Experience Act,” which was passed in 2014). They each have their own uses depending upon specific circumstances, which are beyond the scope of this article. In general, though, both types of SNTs (third-party trusts and “pay-back” trusts) are specialized, irrevocable trusts that allows the disabled beneficiary to enjoy the use of property that is held in the trust for his or her benefit while receiving needs-based government benefits. An ABLE account is a state-run savings program for eligible people with disabilities; it is governed by I.R.S. § 529A. ABLE account funds are typically exempt from the SSI and Medicaid asset limits, and, while investment earnings within the account are exempt from federal income tax, there is a “payback” to the state for what Medicaid has paid during the lifetime of the beneficiary on his or her death in most cases.

Trusts and Taxes

Third-party special needs trusts, upon the parents passing (which is when most are funded in any significant way) are generally a special type of nongrantor trust referred to as a “qualified disability trust” (QDT). These trusts receive an exemption from income tax based upon the former personal exemption (the calculation is preserved for QDTs under the 2017 tax reforms), which is currently $4,200. Further, to the extent that trust income is distributed for the benefit of the individual with disabilities, the distribution amount is imputed as income on the beneficiary’s Form 1040. Any income beyond the QDT exemption amount that is not distributed for the benefit of the beneficiary is taxed at trust tax rates, which are based upon “collapsed” tax brackets. In 2019, the highest income tax rates applied to every dollar over $12,750 in income.

“Pay-back” trusts, on the other hand, are treated as grantor trusts to the beneficiary under several IRS private letter rulings (PLRs). See, e.g., PLR 200620025 and PLR 201116005. Therefore, the income of the trust is imputed to the tax return of the beneficiary regardless of whether distributions were made.

Gifts to SNTs are incomplete gifts because the individual with disabilities can have no right or power over assets in the trust. Therefore, the annual gift tax exclusion (currently $15,000) does not apply. If parents are the grantors (for estate tax purposes) of an SNT, then gifts they make to the trust are not even gifts because, for IRS purposes, they are still in control of those assets. With the estate and gift tax exemptions as high as they are currently, this is not a concern for many.

The Marital Settlement Agreement and the Child with Special Needs

With this background we can now begin a discussion of the specific circumstances of divorcing or currently divorced couples with a child or children who have significant disabilities.

Use a Pay-Back Trust

When parents get divorced, there is often significant discussion about custody and child support and possibly contributions to college education expenses. Nearly all the discussion focuses on a timeframe that ends when the youngest child completes his or her undergraduate degree. When there is a child with special needs, however, the discussion is much more long-term. States often enable a judge to require child support to continue indefinitely for a child’s entire lifetime if the child is disabled. Furthermore, many states worry about individuals with disabilities long after the parents have died.

When we discuss these potential resources that a court can mandate a parent provide for the rest of a child’s life (even after the parent is deceased), we need to understand how to ensure that these court-ordered resources actually supplement the very substantial support the child may receive from the government, rather than cause the child to become disqualified from such programs. Court-ordered child support for an adult child with disabilities who is on SSI and/or Medicaid, as well as spousal support for a spouse who is disabled and on SSI and/or Medicaid, must be ordered directly into a properly drafted pay-back trust.

Calculate Actual Costs

Complying with the legal requirements to protect public benefits is often less complicated than negotiating the amount of child support for an adult child with disabilities. A child with a developmental disability or serious mental illness is likely to need 24/7 care for the rest of his or her life. The cost paid by Medicaid, as stated earlier in this article, can easily exceed $100,000 per year. However, this amount is still not enough, in many circumstances, to provide the full quality of life the parents would want for the child. When discussing the actual cost, it is helpful to look at what families of similar means might spend each year on an adult child with similar disabilities.

Require Life Insurance

Another topic of crucial importance in the negotiation of a marital settlement agreement is life insurance. When the divorcing parents have minor children, there is often a requirement that life insurance be maintained until the youngest child is twenty-one years old. However, for children who will need substantial support for the rest of their lives, the life insurance can and should be required to be maintained for the lifetime of the parents. A permanent life insurance requirement is, naturally, much more expensive for the parties to comply with, but it is essential in many cases. In determining an appropriate amount of the life insurance , it is again helpful to see what a married couple of similar means might purchase in terms of life insurance for a child with significant disabilities. It is of almost equal importance to the death benefit of the life insurance ordered, that the required life insurance be ordered to a third-party special needs trust, rather than a pay-back trust. In doing so, we can take advantage of the fact that SSI and Medicaid do not consider this life insurance to be “child support” and therefore do not require it to go to a pay-back trust. Therefore, we can ensure the life insurance proceeds go to the most flexible trust possible, and one where, on termination due to the passing of the beneficiary with disabilities, the remaining assets can go to other family members.

Create a Medicaid Sole-Benefit Trust

One of the fears many parents have is that they will need skilled nursing care towards the end of their lives and the cost of that care will dramatically reduce, if not eliminate, all their assets before their death, leaving nothing for their child’s special needs trust. However, there is an important federal exception to the general rule that there is a five-year “look-back” period if someone gives away their assets before they need skilled nursing care. If the individual, whether it be the parent or a grandparent or even an aunt or uncle, transfers assets to a special needs trust with certain provisions that qualify it as a Medicaid “sole benefit trust” under the Medicaid regulations of the state in which they are attempting to qualify for Medicaid to pay for skilled nursing care, there is no look-back period at all. They could literally make the transfer the day before they needed to qualify for Medicaid to pay for their skilled nursing care.

Consider Modifications to Estate Plans and SNTs

When parents of children with significant disabilities get divorced, they are often also worried about their existing estate plan documents and what changes may need to be made. While many states have statutes that deem a divorced spouse to predecease for the purposes of wills and revocable living trusts as well as durable powers of attorney, for irrevocable trusts, these laws generally do not apply. Therefore, special needs trusts will almost always need to be modified after the parents are divorced, in addition to the parents’ other estate plan documents. Most often, the parents wish to terminate the existing SNT and create their own separate SNTs. Sometimes they wish to merely modify the existing SNT using powers reserved jointly by them under the irrevocable trust.

Appoint a Guardian at the Right Time, in the Right Way

Guardianship is another frequent topic of discussion when parents of children with significant disabilities begin the process of divorce or are already divorced. Successor guardians are nominated in the parents’ wills in most states. This nomination should specifically include reference to nominating not only successor guardians of minor children but also a successor guardian of an adult disabled child, if necessary.

It is important to remember that when a child turns eighteen, he or she is deemed to be an adult in the eyes of the law, and therefore any custodial arrangement negotiated before the family law court no longer applies and the family law judge no longer has jurisdiction. Rather, the parents would have to petition the probate court for adult guardianship should it be necessary, and this can sometimes lead to a “relitigating” of the original custodial arrangements. A parent who did not have primary custody before the child turned eighteen may even threaten to contest the adult guardianship as leverage to avoid a requirement that adult child support be continued or permanent life insurance be maintained. One strategy for avoiding this outcome is to negotiate the adult child support and life insurance requirements when the child is sixteen or seventeen. This discourages conflating the guardianship process (which cannot be finalized until the child is eighteen) with the decisions on adult child support and life insurance.

If the divorcing parents of a child with significant disabilities decide to pursue guardianship together as co-guardians, many judges will be weary and ask many questions to ensure that the parents will not become deadlocked on important decisions for their son or daughter.