Significant changes enable individuals to save more to help themselves.
The recent Tax Act of 2017 (the Act) made some sweeping changes to the Internal Revenue Code, including some important enhancements to the provisions regarding ABLE plans. The IRC created ABLE, which stands for “Achieving a Better Life Experience,” programs to help individuals and their families under new IRC Section 529A effective for tax years beginning after Dec. 31, 2014. These qualified ABLE programs were designed to permit an “eligible individual” to open an account to pay for his “qualified disability expenses” on a tax-favored basis.
If properly established, earnings in an ABLE account aren’t subject to tax while held in the account, and when the funds are withdrawn to pay for an eligible individual’s qualified disability expenses, the earnings on the account aren’t subject to federal income tax. In addition to the tax benefits, ABLE permits individuals with disabilities to open accounts to save for their disability-related expenses without jeopardizing Medicaid coverage and other federal benefits and, as long as the balance in the ABLE account doesn’t exceed $100,000, without risking eligibility for Supplemental Security Income (SSI) benefits.
Background
Like their Section 529 plan cousins, ABLE accounts must be “established and maintained” by a state, agency or instrumentality. An eligible individual may only have one ABLE account to which contributions must be in cash or cash equivalents.
However, until passage of the Act, annual contributions from all contributors to an ABLE account couldn’t exceed the annual gift tax exclusion amount, which in 2018 was increased to $15,000. For gift tax purposes, all contributions to an ABLE account are treated as a completed gift to the designated beneficiary and not a future interest in property.
Who’s Eligible?
To open an ABLE account, the account owner, who’s also the beneficiary of the account, must be an eligible individual. An individual must:
(1) be entitled to benefits based on blindness or disability under Title II or XVI of the Social Security Act and have a condition (blindness or disability) that occurred before the individual reached age 26, or
(2) have a disability certification that’s filed with the Secretary for the taxable year.
A disability certification is a certification by the individual or the parent or the guardian of the eligible individual that:
(1) certifies that—
(a) the individual: (1) has a medically determined physical or mental impairment, which results in marked and severe functional limitations and that can be expected to result in death or has lasted or can be expected to last for a continuous period of not less than 12 months, or (2) is blind, and
(b) the blindness or disability occurred before the date on which the individual attained age 26, and
(2) includes a copy of the individual’s diagnosis relating to the individual’s relevant impairment(s) signed by a certified physician.
Qualified Disability Expenses
“Qualified disability expenses” are defined as any expenses related to the eligible individual’s blindness or disability that are made for the benefit of an eligible individual who’s the designated beneficiary, including:
• 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 approved by the Secretary consistent with the purpose of the provision.
Proposed ABLE Treasury Regs
Proposed Treasury regulations (proposed regs) issued on June 22, 2015 provide a tremendous amount of clarifying language to help eligible individuals (and their families and advisors) make sense of the provisions included in Section 529A.
For example, the proposed regs define “qualified disability expenses” to include “any expenses incurred at a time when the designated beneficiary is an eligible individual that relate to the blindness or disability of the designated beneficiary of an ABLE account, including expenses that are for the benefit of the designated beneficiary in maintaining or improving his or her health, independence or quality of life” (emphasis added).
The proposed regs add that “qualified disability expenses include basic living expenses and aren’t limited to items for which there’s a medical necessity or which solely benefit a disabled individual.”
The language of the proposed regs, consistent with the impetus that led to the creation of ABLE, reflects that what constitutes qualified disability expenses is to be broadly and liberally interpreted. This makes sense because the needs of eligible individuals who have these expenses will change over time and as improvements in their ability to be full members of society take place.
In addition, regarding the requirement that the disability certification, if required, must be filed with the Secretary, the proposed regs provide that the certification will be deemed filed with the Secretary once the qualified ABLE program has received the disability certification or deems it to be received. Most ABLE programs will deem receipt of a disability certificate based on a statement under penalties of perjury that the individual has a qualifying certification, if required, from a qualified physician.
The proposed regs also require an ABLE program to provide that no contributions to an ABLE account will be accepted to the extent that the contribution, when added to all other contributions (whether by the designated beneficiary or any other persons) to that ABLE account during the taxable year, causes the total contribution to exceed the applicable annual gift tax exclusion amount (under IRC Section 2503).
Changes in the Act
Limitation on annual contributions increased. The Act made some important revisions to the ABLE statute. First, it increased the contribution limit to ABLE accounts under certain circumstances. After the annual contribution limit discussed above has been reached, a designated beneficiary may contribute additional amounts equal to the lesser of:
(1) compensation includible in the designated beneficiary’s gross income for the taxable year, or
(2) the poverty line for a one-person household, as determined for the preceding calendar year.
This provision is significant because it will permit some eligible individuals to fund their ABLE accounts with greater contributions than previously permitted, thereby allowing them to save more quickly for their future qualified disability expenses. In addition, earnings on greater balances in an ABLE account will grow more rapidly, which also provides for greater growth in an ABLE account.
The fact that eligible individuals are limited to only one ABLE account coupled with the previous limitation on annual contributions has, in addition, hamstrung the amount of assets under management and thus the growth of ABLE accounts. The hope is that this new loosening of the annual limitation will help ABLE account balances grow and thus reduce fees on these accounts rendering them as more attractive investment vehicles for all eligible individuals.
The revised section on the annual contribution limitation also provides that it’s the responsibility of the designated beneficiary (or person acting on behalf of the designated beneficiary) to maintain adequate records to show that the new annual limitation hasn’t been exceeded.
Saver’s credit. The saver’s credit is a nonrefundable tax credit for eligible taxpayers for qualified retirement savings contributions. The maximum annual contribution eligible for the saver’s credit equals $2,000 per individual, and the credit rate depends on the adjusted gross income of the individual. The Act permits a designated beneficiary to claim the saver’s credit for contributions made to an ABLE account. Thus, eligible individuals who qualify for the saver’s credit will be able to both make contributions to their ABLE account and reap the benefit of the saver’s credit.
Rollovers from 529 plans. Both Section 529 and Section 529A permit rollovers of account balances to another similar account for the same designated beneficiary or a member of the family of the designated beneficiary. These rollovers are generally tax free. However, rollovers out of a 529 plan to an ABLE plan weren’t permitted (and vice versa).
Because 529 plans were established 20 years earlier than ABLE plans, some 529 plan account owners with beneficiaries who qualify as eligible individuals for purposes of ABLE have wanted to rollover their 529 account funds to ABLE accounts.
The Act amends Section 529 to permit these rollovers out of a 529 plan account into an ABLE plan account on a tax-free basis. However, in addition to the requirement that the designated beneficiary must be an eligible individual for ABLE purposes, the amount of any rollover from a 529 plan account to an ABLE account can’t, when added to all other contributions made to the ABLE account for that year, exceed the ABLE annual contribution limitation discussed above.
Sunset. These new provisions added by the Act are subject to sunset. Unless Congress acts to change the law, these provisions will expire on Dec. 31, 2025.
A Step Forward
ABLE accounts provide qualifying disabled individuals with an opportunity to save for their qualified disability expenses on a tax-favored basis. Many disabled individuals face additional expenses associated with their day-to-day living not encountered by most individuals. In addition, the families of disabled individuals often seek a cost-efficient vehicle to provide for their loved ones’ future expenses. Special needs trusts can be expensive to establish and to maintain on an ongoing forward basis.
ABLE accounts provide an efficient and tax-favored vehicle to help disabled individuals and their families pay for those future expenses. In addition, the value to a disabled individual of owning an ABLE account is not just measured in dollars or tax-savings. It can be life changing.
The ABLE statute and these new revisions to ABLE provided by the Act are significant because they permit eligible individuals to save more to help themselves. Moreover, the Act improvements allow eligible individuals who qualify for the credit to take advantage of the saver’s credit for contributions made to their ABLE account. The opportunity to roll over funds from a 529 plan account to an ABLE account allows those eligible individuals to use their savings for the more expansive qualified disability expenses found in Section 529A.
Hopefully, additional changes to the ABLE statute will increase the universe of eligible individuals and remove or lessen the limitations on those who want to contribute to an ABLE account to save for their future qualified disability expenses.