ABLE: A tax planning tool for people with disabilities

With proposed “reliance” regulations (REG-102837-15) having been issued on the new qualified ABLE (Achieving a Better Life Experience) programs, these tax-advantaged accounts for eligible disabled taxpayers can soon begin providing tax savings for beneficiaries. ABLE programs were created as part of the Tax Increase Prevention Act of 2014, P.L. 113-295. They will be available for tax years beginning after Dec. 31, 2014, and can be established and maintained by the individual states (or their agencies or instrumentalities). As of mid-September, 31 states had enacted ABLE legislation.

While ABLE programs are new, the concepts behind them are not. An ABLE program allows a person to contribute cash to an account, invest the money how the account’s designated beneficiary chooses, and take tax-free distributions from the account if the distributions are used to pay qualified disability expenses.

The regulations strictly limit the frequency with which the beneficiary can change the investments in an ABLE account. According to Sec. 529A(b)(4), a program will not be treated as a qualified ABLE program unless it provides that any designated beneficiary under the program may direct the investment of any contributions to the program (or any earnings) no more than two times in any calendar year. Many other rules in the proposed regulations provide guidance on requirements to be eligible for an ABLE account, qualified disability expenses, limits on contributions and distributions, as well as other issues.

ELIGIBLE INDIVIDUALS

To be eligible for an ABLE account, an individual must be deemed disabled before the age of 26 in either of two ways: (1) The individual is entitled to benefits based on blindness or disability under Title II or XVI of the Social Security Act, or (2) the individual files a disability certification with the IRS for the tax year (Sec. 529A(e)(1)). The disability certification must state that the individual has a medically determinable physical or mental impairment that results in marked and severe functional limitations and that can be expected to result in death or have lasted for a continuous period of not less than 12 months, or is blind, and the disability or blindness occurred before the age of 26. An eligible individual can have only one ABLE account at any time, and he or she must be a resident of the state in which the account is maintained (or of a state contracting with that state). Eligibility must be redetermined annually.

Because eligible individuals often will not be able to set up their own accounts because of their disabilities, the rules allow a person with a power of attorney for the individual or the individual’s parent or guardian to set up the account.

QUALIFIED DISABILITY EXPENSES

The proposed regulations define qualified disability expenses relatively broadly as expenses that are related to the eligible individual’s blindness or disability and are made for the benefit of the eligible individual. The regulations provide examples, including expenses for education, housing, transportation, employment training and support, assistive technology and personal support services, health, prevention and wellness, financial management and administration services, legal fees, expenses for oversight and monitoring, funeral and burial costs, and other expenses the IRS approves.

CONTRIBUTIONS AND DISTRIBUTIONS

Contributions to an individual’s ABLE account are not excluded from the contributor’s gross income. Aggregate contributions from all sources to a single account for a particular year may not exceed the amount of the annual Sec. 2503(b) gift tax exclusion for that tax year. The exclusion is adjusted annually for inflation; for 2015, it is $14,000. The regulations specify that any amounts contributed in excess of the annual gift tax exclusion must be returned to the contributor, including any income associated with the excess contribution, on a last-in, first-out basis by the due date of the designated beneficiary’s tax return (including extensions) for the year in which the contributions were made. Excess contributions are subject to a 6% excise tax if they are not returned (Sec. 4973(a)(6)). In addition, accounts are subject to a cumulative aggregate contribution limit set by each state under Sec. 529(b)(6) (for purposes of qualified tuition programs). A state’s program must establish adequate safeguards to prevent excess contributions beyond this cumulative limit. If a program refuses to accept any additional contribution after the account balance reaches the limit, the program will be considered to have satisfied this requirement.

Distributions from an ABLE account are tax-free to the extent the money is used to pay for qualified disability expenses of the designated beneficiary of the account. Any amounts distributed in excess of qualified disability expenses must be included in the designated beneficiary’s taxable income, and a 10% penalty will be assessed on the excess distribution amount. The 10% penalty will not apply if the distribution is on or after the death of the qualified beneficiary.

TAX PLANNING OPPORTUNITIES

With the introduction of ABLE accounts available for use in the 2015 tax year, eligible individuals have additional tax planning opportunities to consider. The proposed regulations do not specify that contributions to ABLE accounts must be made from earned income. An eligible individual can therefore make contributions to an ABLE account using income from interest, dividends, capital gains, or other investments. In addition, similar to a Roth IRA, distributions of any income earned on money contributed to an ABLE account are tax-free to the extent the distributions are used for qualified disability expenses of the designated beneficiary. There are no limitations on how much investment income the ABLE account can earn. These benefits make it worthwhile to determine whether an individual qualifies for an ABLE account.

ABLE programs are a valuable new resource for individuals with disabilities. These programs create a tax-favored account with a generous contribution limit and tax-free distributions for qualifying disability expenses. They are also useful for individuals with disabilities because these accounts generally are not counted when determining these individuals’ qualification for needs-based federal programs. Eligible individuals (or their families or guardians) should consider taking advantage of them.

Editor’s note: A version of this column also appears as “Tax Clinic: New ABLE Programs Provide Significant Tax-Saving Opportunity for People With Disabilities” in the November 2015 issue of The Tax Adviser.

Jason Borkes is a senior accountant in the tax department at SingerLewak LLP in Irvine, Calif.

To comment on this article or to suggest an idea for another article, contact Paul Bonner, senior editor, at pbonner@aicpa.org or 919-402-4434.