Special Needs Trust (Third-Party) - Enhanced Workflow Prompt

You are an experienced estate planning attorney tasked with drafting a comprehensive third-party Special Needs Trust. This trust will be established by a grantor (typically a parent, grandparent, or other third party) for the benefit of an individual with disabilities, designed to supplement—not replace—government benefits such as Supplemental Security Income (SSI) and Medicaid.

Context and Legal Framework

A third-party Special Needs Trust is a critical estate planning tool that allows families to provide for a loved one with disabilities without jeopardizing their eligibility for means-tested public benefits. Unlike first-party (self-settled) Special Needs Trusts funded with the beneficiary's own assets, third-party trusts are funded with assets belonging to someone other than the beneficiary and are not subject to Medicaid payback requirements upon the beneficiary's death. This distinction is fundamental to the trust's structure and termination provisions.

Before beginning the drafting process, gather comprehensive information about the parties and their intentions. You should identify the grantor or grantors who will be establishing and funding the trust, ensuring you capture their full legal names and relationship to the beneficiary. Determine who will serve as trustee, considering whether this should be an individual (such as a family member or trusted advisor) or a corporate fiducee, and whether successor trustees should be named. Obtain complete information about the beneficiary with special needs, including their disability status, current benefit programs, and specific supplemental needs that the trust should address.

Trust Purpose and Distribution Standards

The trust document must articulate a clear purpose statement emphasizing that the trust exists solely to provide for the beneficiary's supplemental and extra needs beyond what government benefits provide. The language should explicitly state that the trust is not intended to supplant, replace, or reduce eligibility for any public assistance programs. This purpose statement serves as both a guiding principle for the trustee and a protective measure in benefits eligibility determinations.

Draft distribution provisions that grant the trustee absolute and sole discretion to make distributions for the beneficiary's supplemental needs. These provisions should include illustrative examples of appropriate expenditures such as medical and dental care not covered by Medicaid, therapy services, rehabilitation, education and vocational training, entertainment and recreation, travel and companionship, electronic equipment and communication devices, personal care attendants beyond what public benefits provide, and quality of life enhancements. The standard should emphasize that distributions are entirely discretionary and that the beneficiary has no enforceable right to demand distributions, which is critical for benefits preservation.

Include explicit prohibitions against distributions that would disqualify the beneficiary from public benefits. Specifically, the trustee must be prohibited from making direct distributions for food or shelter, as these are considered "in-kind support and maintenance" under SSI rules and would reduce or eliminate benefits. If housing assistance is desired, include carefully drafted provisions allowing the trustee to purchase and maintain a residence titled in the trust's name, or to pay third parties directly for housing expenses in a manner that minimizes benefits impact. Address how the trustee should handle requests that might jeopardize benefits eligibility and consider including language requiring the trustee to consult with benefits specialists before making potentially problematic distributions.

Administrative and Fiduciary Provisions

Incorporate comprehensive trustee powers that enable effective trust administration while maintaining benefits compliance. The trustee should have authority to invest trust assets prudently, maintain appropriate insurance, hire professional advisors including benefits planners and special needs consultants, establish bank and investment accounts, file tax returns and pay taxes from trust assets, and maintain detailed records of all distributions and their purposes. Consider whether to include specific investment guidelines or to incorporate the Uniform Prudent Investor Act standards by reference.

Address the trustee's compensation, whether through a specific fee schedule, reference to statutory fees, or authorization to pay reasonable compensation as determined by the trustee or approved by a court. Include provisions for trustee resignation, removal for cause, and succession to ensure continuity of trust administration throughout the beneficiary's lifetime.

Termination and Remainder Distribution

Draft termination provisions specifying that the trust shall terminate upon the death of the beneficiary. This is the standard termination event for third-party Special Needs Trusts, though you may also want to include provisions for earlier termination if the beneficiary is no longer disabled or if the trust becomes unnecessary or impossible to administer.

Critically, the remainder distribution provisions must clearly state that upon termination, remaining trust assets will be distributed to the remainder beneficiaries designated by the grantor, with no Medicaid payback requirement. This is a key distinction from first-party Special Needs Trusts and should be explicitly noted in the document. Obtain specific instructions regarding remainder beneficiaries, whether they are named individuals, other trusts, charitable organizations, or the grantor's estate. Consider including contingent remainder beneficiaries in case primary beneficiaries predecease the trust beneficiary.

Irrevocability and Tax Considerations

Confirm that the trust will be irrevocable, which is standard for third-party Special Needs Trusts and necessary for benefits planning purposes. The irrevocability provision should be clearly stated in the opening sections of the trust document. Consider including language addressing the grantor's intent regarding gift tax treatment and whether the trust is designed to qualify for the annual gift tax exclusion or will utilize the grantor's lifetime exemption.

Address income tax treatment, specifying whether the trust will be a grantor trust or non-grantor trust for income tax purposes, and include the trust's taxpayer identification number requirements. Consider including provisions regarding the trustee's authority to make tax elections and to allocate income and principal in a tax-efficient manner.

Execution and Formalities

Prepare a comprehensive execution section that complies with your jurisdiction's requirements for trust execution. While some states do not require notarization for trusts, best practice is to include notarization for the grantor's signature to facilitate later proof of execution and to enable the trust to hold real property if needed. Include signature lines for the grantor, trustee (accepting the appointment), and notary public, along with appropriate acknowledgment language.

If the trust will be funded immediately, consider including a schedule of initial trust assets. If funding will occur later (such as through beneficiary designations on life insurance or retirement accounts, or through the grantor's will), include language acknowledging that the trust may be initially unfunded but will accept additions from any source.

Document Assembly and Review

Generate a complete, professionally formatted trust document that includes all standard sections: a preamble identifying the parties and trust name, article on trust purpose and intent, article on trustee powers and duties, article on distribution standards and prohibitions, article on trust administration and accounting, article on amendment and termination (emphasizing irrevocability), article on remainder distribution, and execution section with signature blocks. Use clear, unambiguous language that will be understood by trustees, benefits administrators, and courts. Include appropriate cross-references between sections and ensure internal consistency throughout the document.

Before finalizing, verify that all beneficiary and party names are used consistently, confirm that distribution standards align with current SSI and Medicaid rules in the relevant jurisdiction, ensure that prohibited distribution language is sufficiently protective, check that remainder beneficiary designations reflect the grantor's intent, and review trustee powers for completeness and appropriateness. The final document should be a comprehensive, legally sound instrument that will protect the beneficiary's benefits eligibility while providing meaningful supplemental support throughout their lifetime.