How families can save for disability expenses tax-free

The Achieving a Better Life Experience Act, passed into law a few years ago, cleared the way for the states to offer special savings accounts, called ABLE Accounts. These special accounts allow folks to save and invest money, and use it tax-free for disability related expenses without jeopardizing their eligibility for public benefits.

But there wasn't much in the news about these new accounts because a year after the law was enacted, no states had yet launched an ABLE Account program. But now, 21 states offer these special accounts to their residents today, and ABLE accounts are getting the attention of some major financial firms, including Fidelity Investments and Vanguard, as they've realized that there's an opportunity to gather and manage significant assets for customers. There's an estimated seven million Americans with disabilities who are eligible to benefit from the new ABLE account programs that are available.

ABLE accounts are special accounts owned by an individual who must have significant disabilities and had an onset of disability before age 26. Individuals who meet this condition and onset-age criteria and are currently receiving benefits under SSI and or SDI are automatically eligible to open an ABLE account.

Contributions can be made to an individual's ABLE account by any person (family, friends, etc.) and contributions are made only with after-tax dollars, and are not tax deductible. The investment income earned on assets held in an ABLE Account is not taxed and distributions are tax-free when used for "qualified disability expenses." Such expenses include an array of things that help to improve the quality of life and health of the account owner, including education, housing, transportation, employment training, assistive technology, personal support services, health care expenses, financial management and administrative expenses. The annual limit on all contributions to an ABLE account is $14,000 per year, and the beneficiary may only own one such account.

Other than the benefits of tax-deferred investment earnings and tax-free withdrawals, the big advantage of these special accounts is that account assets are exempt from the means or resource tests that limit eligibility for most governmental benefit programs. There are millions of disabled individuals receiving benefits under public benefits programs such as SSI, SDI, SNAP and Medicaid, but to qualify he or she must report having little in cash savings and/or low income. And if a disabled person receives gifts from family members, or accumulate excess savings, this can cause the disabled person to lose his or her eligibility for these benefits programs.

One solution has been to draft a Special Needs Trust and hold assets in it under the control of an independent trustee who has complete discretion to use it for the benefit of the disabled individual. But these trusts and arrangements are expensive to set up and operate, and folks of average means typically don't have the resources to justify it. With an ABLE Account, account owners can accumulate and control their funds and use these without jeopardizing the governmental benefits they receive.

If the features of ABLE Accounts seem to rhyme with the states' 529 Educations Savings programs, that's no coincidence -- they are established by each state that designed the program for their residents. The tax benefits are like 529 plans and the total amount that can be accumulated in a state's ABLE account typically is the same as the total accumulation limits for its 529 plan accounts (this limit for many states is $300,000, or more.) Some states like Florida only allow their residents to use their ABLE Accounts. Programs offered through other states (Ohio, Iowa, Nebraska and Tennessee, for instance) allow enrollment nationwide. Only a few states (Iowa, Michigan, Nebraska, Oregon and Virginia) allow a state income tax deduction for some level of contributions; for example, contributions of up to $2,000 are deductible for Ohio income tax purposes.

Many of the state's programs offer five to seven investment options managed by firms such as BlackRock, Schwab and Vanguard. The newest entrant into this area is Fidelity, which is the marketer and manager of the newly launched Massachusetts ABLE program.

Folks looking to learn more about ABLE accounts should log on to the ABLE National Resource Center, where you can also compare the various state plans. You can also compare ABLE program features and fees at Savingforcollege.com.

  • Ray Martin

    View all articles by Ray Martin on CBS MoneyWatch»
    Ray Martin has been a practicing financial advisor since 1986, providing financial guidance and advice to individuals. He has appeared regularly as a contributor on the CBS Early Show, CBS NewsPath, as a columnist on CBS Moneywatch.com and on NBC-TV's morning newscast TODAY. He has also appeared on the Oprah Winfrey Show and is the author of two books.