ABLE Accounts - a New but Limited Financial Option for the Disabled

A new law should offer a path to additional financial security for some individuals with disabilities. The “Achieving a Better Life Experience” (ABLE) Act creates Section 529A of the Internal Revenue Code (26 U.S. Code §529A) which authorizes a new form of tax free savings account for individuals who became severely disabled before they reached age 26.

The idea is to allow a limited class of people with disabilities to have more savings than previously allowed without jeopardizing their public benefits eligibility. The extra savings in the account can be used as needed to pay for a broad range of expenses like education and housing costs.

ABLE accounts should be relatively easy and inexpensive to set up. Unlike creating a trust, you won’t need to involve a lawyer (although advance legal planning advice would be beneficial). If you follow all the rules there should be no income tax on the earnings of the ABLE account and you won’t have to file an annual income tax return.

This all sounds pretty good. Unfortunately, the law is subject to limitations that restrict its value for most of the disabled population. But it is an option that will be useful for some.

Overview

The ABLE Act allows qualified individuals to set up one special ABLE account that can be used to pay for a broad range of expenses. The account is established by and owned by the disabled individual but anyone can contribute to it. 

If the rules are followed, earnings on the ABLE account will not be subject to federal income tax, and more importantly, the funds in the account will not disqualify the owner from continued benefits under the Supplemental Security Income (SSI) and Medicaid programs. (If the account balance exceeds $100,000, SSI is suspended but Medicaid eligibility can continue.)   

To be “designated beneficiary” of an ABLE account you must have become disabled before age 26. If you meet this limitation there are two potential paths to ABLE qualification:

(1) If you are receiving SSI or Social Security Disability Insurance (SSDI), you are qualified under the ABLE Act.

(2) If you are not receiving benefits from SSI or SSDI, you can still qualify via a certification process based on a doctor’s diagnosis. You must be certified as having a medically determinable physical or mental impairment, which results in marked and severe functional limitations, and that can be expected to result in death or that has lasted or can be expected to last for a continuous period of not less than 12 months, or as being blind.

The money in an ABLE account can be used for a wide range of "qualified disability expenses." Funds can be used to pay for education, housing, health, transportation, personal support, employment training, legal and financial assistance, and more.

The ABLE Act takes effect for tax years beginning in 2015 but you won’t be able to set up an account right away. Regulatory guidance must be issued and your state must establish a program before you can set up an account.

Limitations

Because of the age limitation in the law, ABLE accounts will be of most interest to individuals with developmental disabilities, mental health issues and childhood conditions. Although the condition must have arisen before the account owner reached age 26, individuals over that age can create an account if they meet the age of onset requirement.  

But the age limitation means that few older adults will be eligible beneficiaries under the ABLE Act. And the program has a number of other requirements that make it less attractive for many of the individuals who do qualify. These include the following:  

Medicaid Payback Requirement.  After the death of the beneficiary funds remaining in an ABLE account must be used to repay any state Medicaid plan that was used by the beneficiary after the account was established.

Contribution limitations. ABLE accounts are modeled to some extent on qualified tuition plans (QTP or “529 plans”) that allow for tax free savings for higher education expenses. Some of the limitations are based on those found in QTP plans. Contributions to ABLE accounts will be limited to the annual exclusion amount (currently $14,000 per year per donor) and the accounts will have the same aggregate contribution limit as the state’s QTP plans. (In Pennsylvania the aggregate 529 plan contribution limit is currently $452,210). Contributions must be made in cash. Violation of these limits may disqualify the entire account.

$100,000 Limitation for SSI Qualification. The usual qualification resource limit for an individual for SSI is $2,000. But amounts in an ABLE account of up to $100,000 will be ignored for purposes of qualifying for SSI. Amounts (including earnings) in an ABLE account in excess of $100,000 will be considered to be a resource of the designated beneficiary and can cause their SSI benefits to be suspended until the balance is reduced. Note that the suspension of benefits applies to SSI but not to Medicaid.

One Account. A beneficiary can have only one ABLE account.

Residence. The beneficiary must reside in a state that has authorized ABLE. (My guess is that this will not be a problem in most states including Pennsylvania given the broad bi-partisan support in Congress for the ABLE Act.)

Qualified Expense Limitation. As noted above, the funds in an ABLE account can only be used for “qualified disability expenses.”  

Comparing ABLE Accounts to Special Needs Trusts

Even for those who meet its age of disability onset requirement, ABLE will be only one of several tools that can be used to set aside some savings. Other options will often be superior. In particular, various forms of “special needs trust” have long been used to provide additional financial security for disabled individuals without impacting their SSI and Medicaid benefits.

If the funding is coming from a parent (or other third party), using a third party special needs trust will have many advantages over funding an ABLE account. With a third party created trust there are no age limits, or limits on the amount you can put into the trust. Perhaps most notably, there is no Medicaid payback requirement.

The ABLE account does have some potential income, estate, and gift tax advantages over the third party trust, but in most cases these tax advantages will turn out to be illusory. Gift and estate tax concerns mainly apply only to those few donors who have assets in excess of a $5.43 million dollar (in 2015) exemption amount. Few parents are that wealthy. 

And, while the earnings on an ABLE account can be income tax free, the earnings of many third party special needs trusts also avoid federal income tax. These trusts are usually set up so that income is taxed to the disabled beneficiary. This means that the beneficiary’s $4,000 exemption and $6,300 standard deduction (in 2015) can shelter up to $10,300 from income tax. In addition, disabled beneficiaries of third party trusts usually have lots of tax deductible expenses that can protect additional income from tax. So, the federal income tax on the earnings of many special needs trusts ends up being zero.

Families should carefully consider the advantages and disadvantages of ABLE accounts vs. special needs trusts before deciding what to create and fund. (For a more in-depth discussion of the types of special needs trust and their use see my earlier blog post What are "Special Needs Trusts.")  

Who may benefit most from the ABLE planning option

Given the restrictions that apply to ABLE accounts and the existence of other planning tools (especially special needs trusts), it’s easy to become discouraged. It looked like Congress finally decided to do something to help the disabled “achieve a better life experience,” but when you dig down into the law you begin to question who will actually be helped.

Actually, even with all of its limitations, the ABLE account option may be of significant value to some disabled individuals. In particular, it may provide a much needed escape hatch for the employed disabled.

Currently, millions of individuals with disabilities are caught in a financial trap that affects their SSI and Medicaid benefits. The problem is that when they try to save some of their wages, it causes their savings to exceed the $2,000 SSI limit and they lose SSI and Medicaid benefits.

The ABLE Act should allow disabled workers (provided they were disabled before age 26) to deposit their excess earnings into an ABLE account. (Note that the $14,000 annual contribution and $100,000 balance restrictions will apply.) They can save for future expenses and needs while maintaining their SSI and Medicaid eligibility. This increase in savings and resources will hopefully allow them to "achieve a better life experience."  

The bottom line: the ABLE Act is a beneficial law that will help some disabled persons. It may be particularly useful to shelter some of the excess earnings of the working disabled. But funding a special needs trust will typically be a better option for parents, grandparents, and other third parties.   

Further Information

The ABLE Act was included as part of The Tax Increase Prevention Act of 2014 that President Obama signed on December 16, 2014. If you use the above hyperlink see Division B of that Act at page 125 for the specific provisions of the ABLE Act. 

What are Special Needs Trusts

Special Needs Require Special Estate Planning

Pooled Trust Law Updated

Are Tax-Free ABLE Accounts The Right Financial Solution For People With Disabilities?