In December, the Achieving a Better Life Experience (ABLE) Act was signed into law, paving the way for disabled people and their families to set up accounts similar to 529 plans where they can save for disability-related expenses that won’t be included in their eligibility for Medicaid or Supplemental Security Income Benefits.
In June, the IRS proposed additional guidance for how those programs should be established and managed. The IRS will accept comments on the proposal until Sept. 21, and a public hearing to discuss those comments will be held Oct. 14.
However, unlike their fairly straightforward counterparts, 529A plans, as the ABLE accounts are denoted in the Internal Revenue Code, introduce many questions that states are struggling to answer, according to Jamie Canup, a partner in the Richmond, Virginia, office of Hirschler Fleischer and chairman of the firm’s tax practice.
“All of the states currently are scrambling to figure out, first of all, who is going to administer the ABLE program in their state,” he told ThinkAdvisor. In fact, he said, the first question they have to answer is whether they are “going to be a contracting state, in the sense that they contract with another state to run an ABLE program, or are they going to actually host an ABLE program?”
States will have to identify how much of a need they have for an ABLE program. Using data from the 2013 American Community Survey, Cornell University found 12.6% of Americans are disabled, including almost 11% who are between 21 and 64. More than half of disabled people in 2013 were 75 or older.
“I don’t know that there’s a need for 50 programs,” Canup said. “Who those states are going to be is a different story.”
States that have passed or enacted ABLE legislation as of July 21, according to The Arc, an advocate for people with intellectual or developmental disabilities, include Alabama, Arkansas, Colorado, Connecticut, Delaware, Florida, Hawaii, Iowa, Kansas, Louisiana, Maryland, Massachusetts, Minnesota, Missouri, Montana, Nebraska, Nevada, North Dakota, Rhode Island, Oregon, Tennessee, Texas, Utah, Vermont, Virginia, Washington, West Virginia and Wisconsin.
Canup did say that in Florida “it’s pretty clear that they intend to be a player in this area. They have a very large prepaid 529 plan; I think they feel they’ve got the ability to run one of these programs for other states, too.”
However, Canup said he isn’t aware of any states that have a full-fledged program up and running for disabled individuals to begin saving in. “Anyone who has a disabled loved one is not able to open an account today. I would guess that probably won’t happen until sometime in 2016,” he predicted.
Once the accounts are established, individuals will be able to make after-tax contributions to 529A plans up to $14,000 a year. The first $100,000 of contributions will be excluded from means testing. Distributions on qualified expenses will be tax-free and can be taken throughout the life of the beneficiary. Qualified expenses include education, housing, transportation, health care expense, employment training and support, and financial management.
To be eligible for a 529A plan, the designated beneficiary has to have become disabled prior to their 26th birthday, and their disability must have lasted for at least a year or be expected to last at least a year.
Like a traditional 529 plan, non-qualified distributions from 529A plans are taxed at a 10% rate. Unlike a traditional plan, though, beneficiaries can only have one plan in their name.
Another important distinction between traditional 529 plans and 529A plans is that in tuition plans, “it’s the taxpayer who is responsible for determining whether or not their expenses are qualified higher education expenses,” Canup said. “In the 529A account arena, the proposed regs put the onus on states that run these programs, and that’ll mean on their advisors that they hire to run these programs, to determine whether or not the distribution that’s being requested is for a qualified disability expense.”
That could add to the expense of the plan if that means states need to have a dedicated person “become an expert at classifying what a disability expense is and all the medical terminology.”
One of the reasons states have held off on implementing a 529A program is to wait for the just-released guidelines from the IRS, Canup said, but now they’re waiting to see what their obligations are.
“‘How are we going to set up the accounts? Are we going to partner with an investment bank, much as the 529 plans have done? Are we going to run them ourselves? If so, who’s going to run them and where are those accounts going to be housed? Will this be the nature of an HSA or a fund of funds scenario?’ There are a lot of open questions right now,” he said.
Canup said another question is whether the accounts would be used for long- or short-term savings. He pointed out that with 529 plans, there’s a fairly specific point in time when distributions will begin. “If you set an account for a newborn, you’re thinking 18 to 20 years before they tap the money,” he said. “If you set it up when your child or grandchild is about to enter high school, you’re thinking three, four years, something like that.”
Because 529A plans can be used for so many things — housing, health care, transportation, medical equipment, employment training — they don’t have that inherent time line, Canup said. “I think that’s one of the big questions when these programs get set up. The folks in the 529 community are thinking more in term of long-term horizons, but I’m hearing that folks in the disability community are thinking of these […] like an HSA account, making monthly disbursements of maybe even weekly disbursements depending on the need.”
Canup believes that when the Act was approved, the main objective was a tax-advantaged savings vehicle. “I think Congress when they set this up, if you think of it in terms of the tax benefit, which is the same as the 529, you put your money aside for a very specific purpose and you let it grow, and when you pull it out at some point down the road to cover all kinds of expenses that may be planned or unplanned, you don’t pay any tax on the growth and because you used it for the right purposes, you never pay any tax at all on that growth.”
However, “while the tax benefit is certainly very nice for those who anticipate long-term growth, that’s not the only driver. The fact that these funds are segregated away and don’t affect your SSI eligibility” is another driver, he said.
Another unanswered question is what kinds of investment options will be offered in 529A accounts, Canup said. Will they be a “savings account or a CD product,” or will they be “an array of mutual funds in a 529A wrapper?”
And what about housing? Is any housing for a disabled person a qualified expense, or only housing in an assisted living facility? “That’s one of the areas that IRS has asked for verification on,” Canup said. “I think the attempt in the proposed regs was to make it as broad as possible, but it’s not exactly clear at this time. The statute doesn’t specify a specific type of housing.”
The qualified expenses are extensive. According to the statute, qualified disability expenses are “any expenses related to the eligible individual’s blindness or disability which are made for the benefit of an eligible individual” and include “education, housing, transportation, employment training and support, assistive technology and personal support services, health, prevention and wellness, financial management and administrative services, legal fees, expenses for oversight and monitoring, funeral and burial expenses, and other expenses, which are approved by the Secretary under regulations and consistent with the purposes of this section.”
Canup stressed that he’s not trying to downplay the value the accounts could play in beneficiaries’ lives, it’s just that there are a lot of open-ended questions that have to be answered.
“I’m not trying to say the sky is falling,” he said. “How do we open these accounts? What kind of investments do we offer because we don’t know what the time horizon is? What are the expenses associated with opening these accounts? What’s the universe of potential accounts look like? How much money will people put in these accounts? Since it’s limited to one per disabled individual, how many accounts will there actually be, so what’s the economies of scale going to look like? What are the expenses associated with confirming that disbursements are for qualified expenses and who has the responsibility of determining that?”
He continued, “I think the proposed regs are a good start and I think the statute is intended to be very helpful to the individuals who need them. I’m disappointed by the amount of recordkeeping and reporting requirements that are put on the programs that want to establish these accounts. I think the Treasury was perhaps not as aware as we would like them to have been about the costs associated with some of these requirements.”
— Check out Social Security Is Here to Stay, and Advisors Are Studying Up on ThinkAdvisor.