Insuring Your Child with Special Needs

Because people with Down syndrome have a shorter life expectancy, parents must also prepare for the possibility that they may outlive their child. Although it is not pleasant to think about, having a life insurance policy can help cover funeral expenses.

Additionally, because some people with Down syndrome have health issues, it can be difficult to find affordable life insurance policies.  One of the easiest ways to insure a child with special needs is to find an insurance company that offers a guaranteed issue child rider. With this type of rider, the parent is underwritten medically but the child is offered coverage as long as the parent is approved – there is no need for a medial assessment of the child.  This rider will cover all of the insured parent’s children (under the age of 18 at the time of issue) until they reach the age of 25. Once the child reaches 25, they have the option to purchase a permanent plan for the child with no medical underwriting, allowing the coverage to last the lifetime of the insured child.

Ask your insurance agent about these types of policies. Need help finding a policy with a guaranteed child rider? Contact DSAWM for assistance.

Funding a Special Needs Trust with Life Insurance

Family members often experience a feeling of accomplishment when they sign their special needs trust (SNT), but signing documents is only the first step in reaching the ultimate goal of providing financial stability for their loved one with a disability. The family must also plan how to fund the trust to ensure it meets the future financial needs of their family member. Please note: in this case we are discussing 3rd party SNTs – these trusts are funded by assets not owned by the person with special needs.  If this person has too many assets for a 3^rd party SNT, he or she (or the parents) may want to consider a 1^st party NST as the rules for the two are entirely different.

Now, some families can sufficiently fund their SNT simply by directing their assets into the trust through their estate plans. However, these families may still be concerned about future financial setbacks or long-term illnesses that may deplete their assets and reduce the funds available for the trust.

Other families may have significant retirement assets (examples: IRAs, 401(k) plans, and 403(b) accounts) that they are counting on to fund their SNTs. However, leaving retirement funds to an SNT can be a problem because income tax has not yet been paid on the money in the account.  Therefore, when the account owner dies, the IRS will want the beneficiaries to withdraw the money quickly so that the taxes can be paid to the treasury. If the SNT is not structured correctly, the beneficiary may have to take all the money (into the SNT) in just a few years, putting the beneficiary in a higher income tax bracket and causing the distributions to be taxed at a higher rate. However, if the distributions can be stretched out over the expected lifetime of the beneficiary, a lower amount of income tax can be paid.

Finally, some families of more modest just don’t have the funds and assets to fund their SNT and need to explore other funding options.

Thankfully, life insurance has become a common answer to the question of how to fund an SNT. Even for those with larger estates, life insurance can be an attractive funding source; a life insurance policy ensures that even if there are financial setbacks in the future, there remains a source of assets for the SNT. Life insurance directed to an SNT can also provide flexibility to a family by providing adequately for the child with special needs while still allowing parents to direct other assets that may be inappropriate for a SNT to their other children.

Keep in mind, for those wishing to ensure that their assets are not lost no matter what happens to the grantor (the creator of the trust) – such as lawsuits, nursing home care, etc. – then an asset protection trust may be the best way to hold some portion of the family member’s assets, especially life insurance policies.  These types of trusts are irrevocable, but can offer a surprising amount of flexibility.

Selecting A Plan to Fund SNTs

What type of life insurance might be appropriate for you? A qualified insurance broker should be able to help answer this question, but here are a few things to consider:

• An SNT’s need for the insurance benefits is likely to be permanent, so term insurance is probably not appropriate. While term life insurance may offer lower premiums for a fixed period of time (10, 15 or 20 years for example), when that term expires, the premiums charged for renewal are often not affordable. Because the SNT will last for the life of the child with a disability, a whole life policy or universal life policy with a guaranteed death benefit is recommended. The premiums for these types of policies – while initially more expensive than the premiums for term policies – usually remain constant throughout the duration of the policy. Moreover, in many cases, the income that the policy produces by investing the premium payments can pay some or all of the premium, particularly after the policy has been in place for several years.

• There is a potential problem with whole life insurance plans – they have cash value. Special Needs Attorney Charles Cottrel of The West Michigan Estate Planning Center gives an example: What if the insured party goes into a nursing home and needs Medicaid? “Medicaid will count the cash value [of the insurance policy] against the person, “explains Cottrel. “They will have to cash out the policy and spend down the money so then it is gone and will not be there for the intended beneficiary.” To avoid this potential problem, Cottrel suggests placing the life insurance policy into an irrevocable trust. If the policy is in an irrevocable trust for at least 5 years before needing Medicaid, it doesn’t need to be cashed out.

• Many lawyers and insurance brokers recommend survivorship policies – also known as second-to-die policies – to fund SNTs. These policies cover two lives – typically (but not necessarily) the parents’ lives. The premiums on survivorship policies are lower than the premiums on a policy for a single person or on two individual policies because the policy only pays out after both insured people have died. This type of policy is particularly attractive if the parents are older, or if one of them has health problems.

• Whatever type of insurance policy is chosen, the policy must name the trustee of the SNT, in his or her capacity as trustee, as beneficiary of the policy, rather than naming either the trust itself or the individual with special needs.

Life insurance is by no means the only way to fund an SNT, but it may be an appropriate way to do so for some families. As with any investment or strategy to benefit a person with special needs, it is helpful to consult with an experienced special needs attorney when considering using life insurance to fund an SNT. Need help with your special needs planning? Charles Cottrel at The West Michigan Estate Planning Center in Ada consulted on this article and would happy to speak with you. He can be reached at (616)723-8255.