by James Lange, CPA/Attorney
This article has been reprinted with the permission of Forbes.com where Jim is a paid contributor.
If you have a child or grandchild who doesn't qualify for government benefits, but cannot live independently, you might be able to provide for that child better than you imagined.
Families that have a child who qualifies for government benefits, specifically Supplemental Security Income (SSI) or Social Security Disability Insurance (SSDI), can enjoy life-changing tax breaks by leaving an IRA to the child or special needs trust for the child. Please see my previous Forbes.com article titled How Grandparents Can Best Provide for Their Grandchild with a Disability.
In short, these children fall within an exception of the SECURE Act and are allowed to "stretch" the Inherited IRA over their lifetime. The referenced article showed a projected benefit of over $1 million from redirecting a $500,000 Inherited IRA to my daughter's Special Needs Trust rather than allowing it to pass to my wife outright.
What few people, even disability experts, know is there are millions of IRA beneficiaries who do qualify for the same ability to stretch the Inherited IRA without having to qualify for SSI or SSDI. Parents and grandparents of a child who is "in between" qualifying for SSI or SSDI but not being independent may now be able to change that child's life by taking advantage of the strategy recommended in this article. The key is that the IRA beneficiary must qualify as an Eligible Designated Beneficiary (EDB).
The tax code provides a separate and less widely understood pathway to EDB status for "in between" individuals who the IRS classifies as "chronically ill" that can offer the same potentially life-changing tax benefits for Inherited IRA or retirement plan funds.
Under the SECURE Act, most non-spouse beneficiaries must withdraw inherited retirement accounts within ten years. However, certain beneficiaries, classified as EDBs, are permitted to take distributions over their life expectancy, preserving long-term tax deferral.
According to Andrew H. Hook, former president of the Special Needs Alliance and an ACTEC Fellow, "Most families and their advisors have little to no understanding that a beneficiary can qualify as an EDB through the 'chronically ill' category without a formal SSI/SSDI determination of disability." Many advisors default to the SSI/SSDI route because that is the one they know, leaving the "chronically ill" pathway under IRC §7702B(c)(2) largely underused.
Many families have an adult child or grandchild whose situation falls between full independence and still requiring substantial support in daily life. But the child does not exhibit the level of impairment that would qualify for SSI or SSDI. These may include adults or children with:
The "chronically ill" EDB standard uses a different and, in some critical ways, less restrictive standard. There is no Social Security Administration (SSA) involvement required. No lengthy federal administrative process. No initial denial and appeal cycle. It has no earnings test. A person could have income of $100,000 per year and still qualify as "chronically ill" for IRA stretch purposes if they meet the applicable criteria. In addition, to qualify you don't need a letter from a physician (any licensed health care practitioner can certify).
The pathway is faster, less burdensome, and captures a broader population of qualifying individuals, which is precisely why it deserves far more attention than it currently receives.
Under IRC §7702B(c)(2), an individual is considered "chronically ill" if a licensed health care practitioner (not necessarily a physician) certifies, within the preceding 12-month period, that the individual meets any one of three tests.
In our experience, the third test is the most common qualifying pathway. Imagine an adult child on the autism spectrum who functions well enough to hold a part-time job in a supervised setting, but who cannot safely manage their own medical care, finances, or daily living without a structured safety net of supervision. That person would not likely qualify as "disabled" under the Social Security definition. But if a licensed health care practitioner certifies that they require substantial supervision due to cognitive impairment, they could qualify as "chronically ill" and therefore as an EDB entitled to a lifetime stretch of an Inherited IRA.
Note that the certification does not have to come from a physician. Under the statute, any "licensed health care practitioner," which includes registered nurses and licensed social workers, can provide the certification. This is another meaningful distinction from the SSA disability process.
It is important to understand that the "disabled" and "chronically ill" categories are legally distinct standards. They are not interchangeable. An individual who qualifies under one may or may not qualify under the other.
As Hook notes, "Families should evaluate both pathways with qualified counsel." But for families who have previously assumed their loved one could not qualify as an EDB because they did not meet the SSA's disability standard, the "chronically ill" category may open a door that appeared to be closed.
The difference between a ten-year distribution and a lifetime stretch on a $500,000 Inherited IRA can easily exceed $1 million in tax savings, under reasonable assumptions, depending on the beneficiary's age and tax bracket. And because the "chronically ill" definition has no earnings test, this opportunity extends to families who may have never considered disability-related planning.
Families with high-functioning beneficiaries, individuals who hold jobs, live independently in some respects, and have never interacted with the SSA, may nevertheless qualify for one of the most powerful tax preservation strategies available under current law.
To be clear, the tax advantage here is a long-term strategy. The savings build over decades as the Inherited IRA grows tax-deferred. For a detailed illustration of how this can play out, see the Timeline of Projected Benefits graph (shown here) that appeared in my previous Forbes.com article. In that article I describe how redirecting a $500,000 Inherited IRA to a Special Needs Trust is projected to save $1 million in taxes. While the facts of that case involved my daughter, a beneficiary who qualified under the SSDI standard, the underlying tax mechanics are similar.
The SECURE Act's ten-year rule reshaped inherited retirement planning for most beneficiaries. But exceptions remain and the "chronically ill" path to EDB status is one.
In my next article, I will walk through the certification process in detail: what the documentation actually looks like, how the process differs for IRAs and employer-sponsored plans, the critical deadlines you need to know, and the proactive steps families should take now to be prepared. If you suspect someone in your family might qualify, that article will give you a clear sense of what pursuing the "chronically ill" EDB designation actually involves and what it takes to do it right.
This article draws on the experience of Andrew H. Hook, a Certified Elder Law Attorney, Certified Financial Planner, and Accredited Estate Planner based in Virginia Beach, Virginia. Andy is a former president of the Special Needs Alliance, a Fellow of the American College of Trust and Estate Counsel, and a former editor-in-chief of the NAELA Journal.
This article has been reprinted with the permission of Forbes.com where Jim is a paid contributor.
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