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Financial Advice

Using Retirement Accounts to Provide for a Disabled Child

While Congress has made it easier for parents to leave their IRA to a supplemental needs trust for a disabled child, this does not mean it's the best way to provide for such needs.

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Estate planning is an important part of parents' role in providing for a disabled child. The parents need to decide who will care for the child when they are gone and with what assets. Ideally they have enough money to fund a trust under which the perfect trustee will invest that money and disburse funds to the perfect caregivers to provide for the child's lifelong needs. For a wealthy family, that may mean the trust will cover all the child's foreseeable needs. For a less wealthy family, it may mean the trust will cover the child's supplemental needs, that is, expenses not covered by government benefits for the disabled. This column addresses the latter scenario.

If the parents' assets include IRAs, 401(k) plans, or similar retirement accounts ("IRAs" for short), they need to face a hard truth as they set up their estate plan: Those assets are not worth "face value." The money in the IRA is pretax. Distributions from the IRA (whether made to the IRA owner during life or to the beneficiary after the IRA owner's death) are included in the recipient's gross income for federal income tax purposes (and state income tax, too, if applicable). Based on today's top federal tax bracket (37%) and a hypothetical state tax rate, that would mean the IRA is worth only about 60% of its face value. Your $500,000 IRA is really worth only $300,000.

But, say the parents, "We are not in the top federal income tax bracket. That’s only applicable to couples with over $647,850 of taxable income (at 2022 rates). We have nowhere near that much taxable income!" That's true, but when you die, you are leaving your IRA to a supplemental needs trust, or SNT, for your child. A trust enters the top income tax bracket of 37% at just $13,451 of taxable income. If the $500,000 IRA is distributed to that trust in a lump sum, there may well be only about $300,000 left, after paying the income taxes, to provide for the child's lifetime supplemental needs, because almost all of the money is taxed in the top bracket.

The point of applying a 40% "haircut" to the value of the retirement account is to bring the parents' focus to ways to reduce that tax impact or at least provide for it.

Make Sure the Trust Qualifies for a Life Expectancy Payout

As is well known, the Secure Act of 2019 eliminated the life expectancy payout (also called "stretch IRA") for most IRA beneficiaries, replacing it with a maximum 10-year required payout after the IRA owner's death. But Secure made an exception for disabled beneficiaries: The disabled individual, as IRA beneficiary, still qualifies for a life expectancy payout for an inherited IRA. And because of special provisions in the Secure Act, a trust for the benefit of a disabled individual also can qualify for the life expectancy payout. This means that, instead of cashing out the entire IRA in one lump sum or even over 10 years, the trust can take minimum required distributions from the IRA in annual instalments over the disabled beneficiary's life expectancy. For example, if the child is age 40, the life expectancy payout would be spread over 45.7 years; if age 50, it would be over 36.2 years.

A multidecade payout would allow the IRA to be distributed and taxed gradually, instead of in one lump sum, thereby reducing the income tax burden because:

  • The annual distributions can be better matched with the beneficiary's supplemental needs. Money withdrawn from the IRA that is expended, in the same year it is withdrawn from the IRA, for the child's supplemental needs is taxed to the child, not to the trust. Generally, the parents can count on the child being in a low to zero-rate tax bracket. With a multidecade payout, therefore, a substantial chunk of the IRA distributions should be passed out to (and taxed to) the disabled child at a low or zero tax rate rather than the high bracket applicable to the trust.
  • Smaller annual distributions to the extent retained in the trust are more easily sheltered by the trust's small lower-bracket window (the first plus/minus $13,000 taxed at less than 37%).

In short, a long life expectancy payout can significantly reduce the tax burden on the distributions from a moderate-sized IRA to a supplemental needs trust.

To qualify for that life expectancy payout, the trust must meet various requirements. A trust that meets these requirements gets the hefty title of "Applicable Multi Beneficiary Trust," or AMBT, in the tax code. The parents need to work with an estate planning attorney who knows the requirements of the AMBT (as well as the requirements for supplemental needs trusts) inside out. For example, it may not be possible to have a charity as the ultimate beneficiary of the trust (after the death of the disabled individual); also, certain documentation must be provided to the retirement plan to prove the disabled status of the beneficiary and the trust's qualification as an AMBT.

The most important requirement of the AMBT is this: During the entire lifetime of the disabled beneficiary, the trust must never distribute any of the IRA funds to anyone other than the disabled beneficiary. When the trustee takes a dollar out of the IRA, the trustee has three choices of what to do with that dollar:

  • Use it to pay trust expenses, such as the trustee's fee.
  • Pay it "to or for the benefit of" the disabled beneficiary. That means giving the money to the beneficiary or paying the beneficiary's expenses directly from the trust.
  • Hold it in the trust for use in a future year for one of the two preceding uses.

What Happens to IRA Distributions Accumulated Inside the Trust

Money the trustee withdraws from the IRA and then holds inside the trust for use in a future year is subject to income tax at the trust level. The first $13,450 of such "held for future use" IRA distributions will be taxed at less than 37% (2022 rates)—about $3,000 total. Every dollar of such "held for future use" IRA distributions in excess of $13,450 will be taxed at 37% (plus state taxes if applicable in both cases).

What all this tells us is that a $500,000 IRA left to an AMBT-SNT for the benefit of a 40-year-old disabled beneficiary can be distributed and used for the beneficiary's supplemental needs over the beneficiary's 45-year life expectancy without (probably) being subject to a significant income tax burden.

But if the retirement account is much larger or the life expectancy period much shorter, annual distributions will exceed the beneficiary's supplemental needs and the excess will be taxed at the highest bracket. Prior to Secure, the trust could have a safety valve for IRA distributions that were in excess of the disabled beneficiary's supplemental needs—pay them out to other family members. But after Secure, any IRA distribution not needed in the same year for the beneficiary's supplemental needs must be held (and taxed) inside the trust. The funds so retained can be used in a later year for the disabled beneficiary's benefit or can be distributed to other beneficiaries after the death of the disabled beneficiary.

There are good planning reasons why the trustee might want to hold IRA distributions for future use—to cover years when supplemental needs are above normal or to cover years after the beneficiary's life expectancy when the beneficiary is still alive (people can live past their IRS life expectancy). But holding distributions for future use will come at a high tax price, especially for a large IRA. This is in accordance with the apparent intent of Secure—to provide a tax break (life expectancy payout) for disabled beneficiaries without giving a tax break for funds that may be distributed to (or held for later distribution to) other family members.

Consider Other Alternatives

Looking at this picture, IRA-owning parents of a disabled child should consider alternatives. While an IRA left to an AMBT is the right answer for some families, it would also be nice if the trustee of the trust for your disabled child did not have to sweat the annual dance of minimum required distributions, matching IRA distributions to supplemental needs, and trying to avoid the dreaded trust income tax rate on distributions "accumulated" for future use. The trustee will not have this problem with non-income-taxable assets left to the trust such as Roth IRAs (all distributions income is tax-free), life insurance (ditto), or even regular estate assets such as homes and securities (any built-in gain is not taxable if the asset is sold after death, owing to the "stepped-up basis" on death of the owner).

Funding the supplemental needs trust with something other than the IRA not only makes the trustee's job easier, it frees the parents from the restrictions of the AMBT. For example, the trustee can be given discretion to distribute the trust's fund to other family members if it is apparent the funds exceed the disabled beneficiary's needs.

Some alternatives for getting tax-free assets to the trust:

  • Different assets for different beneficiaries. If there are multiple beneficiaries in the estate plan, consider leaving the IRA to some other family member(s) and leaving nonretirement assets to the SNT.
  • Roth conversions. If the parents' income tax bracket is significantly lower than the trust's is likely to be, they could consider partial Roth conversions from their IRA to use up some of those lower brackets. This is a perfect tax-planning idea, but it is also an irrevocable step that uses up some of the parents' money right now, paying the income tax on the Roth conversion. They can never get that tax money back. If later on because of changing circumstances, such as a major illness, they find they would rather have kept that tax money, they will regret it. Roth conversion is recommended only if the tax cost of the conversion is paid with money you are sure you will never miss later.
  • Life insurance. Life insurance provides a way to build the needed fund for the disabled child's trust with a fixed annual cost (the premium) that the parents can budget for, knowing that the supplemental needs trust fund will be there whether they die sooner or later.


The fact that Congress has made it easier for parents to leave their IRA to a supplemental needs trust for their disabled child does not mean that it is the best way to provide for such needs. Consider the alternatives; and if leaving your IRA to an AMBT be sure to work with a qualified estate planning attorney who knows how to implement that plan.

Natalie Choate is a lawyer in Wellesley, Massachusetts, who concentrates in estate planning for retirement benefits. The 2019 edition of Choate's best-selling book, Life and Death Planning for Retirement Benefits, is available through her website,, where you can also see her speaking schedule and submit questions for this column. The views expressed in this article do not necessarily reflect the views of Morningstar.

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