When it comes to planning for a loved one who is disabled or chronically ill, understanding how required minimum distributions (RMDs) work is very important. After all, RMDs can impact one’s eligibility for benefits like (SSI) and Medicaid if not handled carefully.
This guide explores key RMD rules and strategies to protect benefits while managing taxes. That way, you can approach the challenges of inheritance planning for your loved one with more confidence.
What Makes Special Needs Beneficiaries Unique?
When people with special needs receive an inheritance, it often comes with distinct challenges. Strict eligibility requirements for programs like SSI and Medicaid mean that receiving funds from retirement accounts or RMDs could unintentionally disqualify someone from much-needed support.
For this reason, families with special needs individuals need to carefully weigh their options. This typically involves exploring what designations they qualify for, identifying potential tax strategies, and considering tools like trusts to achieve their goals while also preserving access to key benefits.
Understanding the Eligible Designated Beneficiary (EDB) Category
When you inherit a retirement account, you’re often subjected to something that’s called the “10-year rule.” This means you’ll need to withdraw the entire balance of your inherited IRA within 10 years after the original owner passes away. That said, some beneficiaries can qualify for exceptions.
What types of beneficiaries aren’t subjected to the 10-year rule?
The EDB designation provides select beneficiaries with options to withdraw funds over time instead of the default 10-year window. This distinction allows beneficiaries to extend withdrawals, such as RMDs, over different timelines.
Who is Considered to be an Eligible Designated Beneficiary (EDB)?
Several types of beneficiaries may qualify as EDBs. However, it’s important to note that even if a beneficiary falls under this classification, they may still be subject to varying RMD rules.
Here’s a breakdown of who qualifies as an EDB and their respective RMD options:
Spouse Beneficiary: A spouse can delay RMDs until their own required beginning date, or withdraw based on their life expectancy, providing flexibility to fit their financial circumstances. Spouse beneficiaries have the most options at their disposal. They can transfer the IRA into their own, keep it as an inherited account, or take everything out in a lump sum.
Minor Child of the Account Owner: A minor child can stretch withdrawals until they turn 21. At that point, the remaining account balance must be distributed within 10 years under the 10-year rule.
Not-More-Than-10-Years-Younger Beneficiaries: Individuals close in age (i.e., no more than 10 years younger) to the deceased—such as siblings—may also stretch withdrawals, avoiding accelerated payout requirements.
Disabled or Chronically Ill Beneficiaries: Beneficiaries classified as disabled or chronically ill can continue to stretch withdrawals over the course of their life expectancy. They are not subject to the 10-year window at any point. This option helps support their care while managing tax implications.
Please Note: For a more detailed look at how inherited IRA RMDs work across the board, we invite you to explore our comprehensive article, 2024 Inherited IRA RMD Rules. This guide breaks down key updates, rules, and strategies to help you understand inherited IRA RMDs, regardless of beneficiary status.
Key Considerations for Disabled and Chronically Ill Beneficiaries
Individuals with special needs may qualify as EDBs, giving them access to more favorable RMD rules. While this can provide significant benefits, it’s essential to understand that specific criteria must be met to be classified as “chronically ill” or “disabled” under these rules.
Who is Considered to Be a Special Needs Beneficiary?
The Internal Revenue Service (IRS) defines who qualifies as an EDB. In order to meet this requirement as a special needs (i.e., a chronically ill or disabled) beneficiary, you’ll need to meet the specifics of certain rules and definitions.
These include detailed definitions and documentation requirements, outlined below:
Definition of Disability: If a person has a medically confirmed physical or mental handicap that prevents them from engaging in substantial gainful activity, the IRS deems them disabled. This condition must either be expected to lead to death or continue for an extended and indefinite period of time.1
Definition of Chronic Illness: According to IRS regulations, a person who has been certified by a licensed healthcare professional as fulfilling specific requirements is considered a chronically ill individual. These requirements include being unable to independently perform at least two activities of daily living, such as dressing or eating, for at least 90 days, having a comparable level of disability as defined by federal regulations, or requiring constant supervision due to severe cognitive impairments that pose risks to their health or safety.1
Documentation Deadlines: Proof of disability or chronic illness must be provided by October 31st of the year after the account owner’s passing in order to maintain EDB classification. Failing to meet this deadline could result in being subject to the 10-year rule.2
Special Needs Trusts and Their Role in RMD Management
A special needs trust (SNT) offers a way to manage inherited funds for a loved one with disabilities while keeping their eligibility for SSI and Medicaid intact.
Why exactly is that?
If RMDs from retirement accounts were received directly by a special needs beneficiary, it could be counted as income and potentially disqualify them from programs like SSI. By directing RMDs into an SNT, the funds are managed in a way that complies with benefit program eligibility rules, making sure they do not negatively impact the beneficiary’s access to vital government support.
What other perks are there?
Another advantage of an SNT is the ability of a trustee to decide how and when to distribute funds. For instance, withdrawals from an IRA account can stay within the trust and be used for approved purposes that won’t interfere with benefit requirements. This approach can prevent disruptions to public assistance while providing financial support tailored to the beneficiary’s needs.
Anything else?
Special needs trusts are a type of irrevocable trust. This means that the trust’s terms generally cannot be altered after creation. A major advantage of irrevocable trusts is that funds inside them are protected from both creditors and lawsuits, providing another layer of protection for special needs beneficiaries.
Please Note: Creating an SNT requires careful attention to legal and tax rules. Errors in the trust’s language or setup could lead to accelerated distributions or the loss of certain protections. It’s often recommended that you consult with various professionals, such as financial advisors and attorneys.
Charitable Giving and RMD Strategies
It’s worth mentioning that charitable giving can be an effective addition to estate plans, especially for families of special needs beneficiaries. One way to achieve this is by naming a nonprofit organization as a remainder beneficiary of a SNT.
What does this do?
By naming a charity as the remainder beneficiary, the trust can provide for the beneficiary’s needs during their lifetime while ensuring that any remaining funds go to a cause that aligns with the family’s values after the beneficiary’s passing. Families may also choose a special needs-focused charity to continue supporting a broader community of individuals with disabilities.
Understanding ABLE Accounts and Their Benefits
ABLE accounts (Achieving a Better Life Experience accounts) also provide a flexible savings option for people with disabilities while preserving access to SSI and Medicaid.
How do these accounts function?
ABLE accounts are available to individuals whose disabilities began before age 26. Contributions, which can come from any source, are limited to $18,000 annually in 2024. Working beneficiaries may contribute additional funds based on their earnings up to the federal poverty level for their state.3
Can ABLE accounts handle RMDs?
RMDs from inherited IRAs can be transferred into an ABLE account. This option allows beneficiaries to stay within income thresholds while maintaining funds for their disability-related needs.
What qualifies as an expense?
ABLE account funds can cover a wide array of disability-related costs, such as housing, medical care, education, transportation, assistive technology, and financial management. Withdrawals used for these qualified expenses are tax-free, providing a significant advantage to families looking to stretch their savings.
What else should you consider?
ABLE accounts can hold up to $100,000 without impacting SSI eligibility, and balances exceeding that limit only pause SSI benefits temporarily.3 Meanwhile, Medicaid eligibility remains intact regardless of the account’s size. These accounts are an excellent complement to other planning tools like special needs trusts, giving families more options to secure long-term financial stability.
Please Note: With the passage of the ABLE Age Adjustment Act, eligibility for ABLE accounts will expand at the start of 2026 to include individuals who became disabled before age 46.4 This change will increase access to these accounts, making them an even more effective tool for families planning long-term financial support.
FAQs About RMDs for Special Needs Beneficiaries
Understanding the rules surrounding inherited IRAs can be challenging, especially when planning for someone with special needs. Below, we’ve answered some frequently asked questions to help make these rules clearer:
1. How do RMDs impact eligibility for Medicaid or SSI?
RMDs are counted as income, which can affect eligibility for government programs like Medicaid and SSI. If the income exceeds program limits, it could disqualify the beneficiary.
Tools like special needs trusts (SNTs) can hold RMDs in a way that prevents this income from disrupting benefit eligibility. Alternatively, smaller distributions may be directed to ABLE accounts, which allow for tax-free spending on approved expenses without impacting eligibility.
2. Can ABLE accounts and SNTs replace each other?
No, these tools serve different purposes. ABLE accounts are intended for everyday expenses and have contribution and balance limits, making them suitable for smaller financial needs. SNTs, on the other hand, are designed to manage larger inheritances or multiple sources of income, providing long-term management and protection.
3. What happens if EDB paperwork isn’t submitted?
The beneficiary will no longer have EDB status if the plan administrator does not receive proof of disability or chronic illness by October 31st of the year after the account owner’s passing. This means they’ll be subject to the 10-year rule, requiring all funds to be distributed within ten years, potentially increasing tax liabilities.
4. What are the penalties for missing RMD deadlines?
If the required amount isn’t withdrawn on time, the IRS imposes a penalty, often to the amount of 25% of the shortfall. The penalty may drop to 10% if steps are taken to correct the error quickly (within two years).5 To avoid these fees, beneficiaries should plan RMD withdrawals carefully.
We Can Help Protect Your Special Needs Beneficiaries
Protecting a loved one with special needs means balancing their financial security with maintaining eligibility for programs like Medicaid and SSI. These benefits are essential but come with strict income and asset rules.
Thoughtful use of things like RMDs, SNTs, and ABLE accounts can prevent unintended financial consequences while providing long-term support. We highly recommend consulting an attorney before implementing strategies for special needs beneficiaries.
Your family’s unique needs deserve a plan that works for you. With careful coordination, you can reduce tax burdens, protect eligibility for benefits, and extend the value of inherited funds. The proper strategy makes sure that your loved one will receive the resources they require without interfering with their participation in essential programs.
Our team is here to help you through the process, wherever you presently are. We invite you to schedule an introductory call with our team today to explore how we can support your family’s financial goals.
Sources:
- https://www.investopedia.com/eligible-designated-beneficiary-definition-5025191
- https://www.kitces.com/blog/secure-act-2-0-irs-regulations-rmd-required-minimum-distributions-10-year-rule-eligible-designated-beneficiary-see-through-conduit-trust/
- https://www.ssa.gov/ssi/spotlights/spot-able.html?tl=0%2C1%2C2%2C3%2C4%2C5%2C6%2C7%2C8%2C9%2C10%2C11%2C12%2C13%2C14%2C15%2C16%2C17%2C18%2C19%2C20%2C21%2C22%2C23%2C24
- https://www.ablenrc.org/get-started/am-i-eligible/#:~:text=This%20bill%20will%20increase%20the,people%2C%20including%20one%20million%20veterans
- https://www.irs.gov/retirement-plans/retirement-plan-and-ira-required-minimum-distributions-faqs#:~:text=If%20an%20account%20owner%20fails,was%20required%2C%20but%20not%20taken
Sheena is a highly regarded financial professional known for her clear explanations and practical advice on complex financial matters. She earned her CERTIFIED FINANCIAL PLANNER™️ designation in 2010 and holds a Bachelor of Science degree in Finance from the University of Wisconsin LaCrosse.
