Should Your Special Needs Child Have a Savings Account?

November 18, 2013

Many parents ask if their special needs child should have a Section 529 plan or some other type of college savings plan.  Other parents have already opened a college plan for their child.  Since Social Security has recently clarified their position regarding 529 plans, I thought this would be an appropriate time to address this issue.

For purposes of this discussion, please assume that unless otherwise stated, when I use the word, “child”, I am referring to your special needs child.  Let us also assume that I am referring to an adult child—one who is 18 years of age or older—unless I use a term such as “minor” to indicate otherwise.

The funds in a Section 529 plan, also known as a Qualified Tuition Program (QTP) are considered, by Social Security, to be a countable resource to the owner of the account.  The owner is usually a parent or grandparent.  The funds will therefore not interfere with your child’s government benefits.

Distributions from the account to the designated beneficiary (the disabled adult child) are considered a gift, unless there is evidence to the contrary.  As long as these distributions are used for your child’s educational expenses, they are excluded as income in the month of receipt.  In other words, the distributions, properly used, will not affect your child’s SSI income.

If the distribution is not spent in the month of receipt, it is excluded for 9 months beginning from the month after the month of receipt.  If the distribution is spent for non-educational purposes, it is treated as income to the beneficiary.

Example:  The parent, Bob, takes a distribution from his 529 plan in the amount of $2,000.  He gives this to his 19 year-old disabled daughter, Sally (the beneficiary of the 529 plan), for college expenses on January 15th.  Sally spends $1,500 on college expenses and puts the remainder in her bank account.  The $1,500 is excluded as income in the month of January.  The remaining $500 of the distribution will be considered a countable resource to Sally in the month of October if she has not spent the remaining funds on educational expenses prior.

*If the owner of the 529 plan is the SSI beneficiary, the account is a countable resource.

You should keep complete and accurate records of all transactions, distributions, expenditures, etc. for Social Security verification.

Why you should consider NOT participating in a 529 plan for your disabled child:

  •    Your special needs child may not go to college
  •    If your child does not go to college, you will need to change beneficiaries to another family member
  •    If you do not have another family member going to college, you can get your money back but it will be subject to income tax and a 10% penalty.
  •    The record keeping, for both the owner and your disabled child, can be onerous.

UTMA Custodial Accounts

Some parents have established a custodial account known as the Uniform Transfer to Minors Act (UTMA) for their special needs child.  A slightly different version of this is the Uniform Gift to Minors Act (UGMA).  These are simply custodial (trust) accounts for a minor.  The assets in the account are owned by the minor but controlled by the custodian (usually the parent or grandparent).  The problems with this type of account are:

It has a high impact on student aid since it considered an asset of the student
If it exceeds the $2,000 resource limit (in combination with other assets) of your child, it will adversely affect SSI and possibly Medicaid eligibility.
The funds are not transferrable to another beneficiary

Since the original transfer from parent to child was an irrevocable gift, you cannot transfer the money back to the parent from the child’s custodial account.  You do, however, have a few options.

1. You can spend the money for the benefit of the child as long as it doesn’t benefit the custodian.  In other words, it can’t be used for expenses that would normally be associated with parental obligations such as food and clothing, etc.

2. You can transfer the assets to a section 529 plan.  However, there will be certain restrictions with this type of transfer which are not normally associated with a 529 plan.  One of these is that your child will become the account owner when he or she reaches the age of trust termination, age 18 for an UGMA and 21 for an UTMA.  There are other constraints as well which make this option less than ideal.

3. According to the Social Security Administration, the custodian has the authority to transfer custodial property to a Special Needs Trust prior to the minor’s attainment of age of majority (age 18 in New York).

*Prior to transferring any funds from a college savings plan or custodial account, you should seek the advice of a special needs planning professional.

As you can see, when attempting to use a college plan for a disabled child, you can run into a maze of complications.  For this reason, I usually suggest that funds intended for college for a child with special needs be placed in a separate account owned by the parent and “earmarked” for college.  In the long run you will have greater flexibility and control of the assets.