Category: Alerts

Many Americans think that passing on their worldly goods is a simple proposition: they write out their final wishes, then, someone ensures that their wishes are carried out. Unfortunately, wills require probate, and in many states, there’s nothing simple about probate. It’s usually a highly technical, complicated and bureaucratic process that can drown your heirs in a sea of red tape. There are exceptions, however. In some states, small estates may be eligible for short-form probate. See your estate planning attorney to learn how your state’s probate rules will affect your estate.

HOW PROBATE WORKS

Roughly speaking, the process begins with the filing of your will and a petition to the courts to begin probate. The probate court will either approve your choice of executor (the person who will oversee the disposition of your estate) that you may have named in your will, or will appoint someone else to act as executor. Unless your estate is fairly simple, your executor may also hire an attorney to help with the process. (You may stipulate that your attorney also serves as your executor, for a modest savings in administration fees.)

At some point, your executor will have to present your will to the court and obtain its ruling on the validity of this document. Your executor must publish notification of your death and contact all your creditors so that they can submit their claims against your estate.

And we’re just getting started. Someone will have to inventory the valuables you’ve left behind, and appraisers may be called in to establish their value.

Depending on the state in which you lived, your heirs may be denied access to your assets until the final disposition of your estate. And in most states, a contest over the validity of your will virtually guarantees that your assets will be placed off limits until the will contest is decided.

Here is another aspect of probate that can cost your heirs dearly. Your executor must adhere to stringent rules governing your investments during the probate process. These rules limit your executor’s ability to buy, sell or take other action to preserve the value of fluctuating investments—such as stocks, bonds, and real estate in your portfolio. So, if in the midst of your probate, a bull market turns bearish, the bond market goes south, or the real estate market plunges, your heirs could be left with assets that have depreciated substantially.

At best, your heirs may be inconvenienced by their lack of access to and control over your assets during probate; at worst, they may endure financial hardship. So, if they breathe a sigh of relief as your probate begins to wind down, they may be in for a disappointment.

Before your heirs receive their full legacy from your estate, your creditors will be paid off, estate taxes will be paid, your executor and administrator will receive their fees for handling your probate, and all court fees will have to be settled. After these expenses have been paid, your heirs will divvy up what’s left—and it’s often considerably less after probate than before.

That’s a quick overview of the probate process. At best, it’s a bureaucratic nightmare. At worst, it exposes your heirs to the following problems:

IN THE PUBLIC EYE

Your probate proceedings will usually be published in a general circulation newspaper in your community. This unwelcomed publicity goes well beyond turning your life into an open book: it can also expose your loved ones to the abuse of opportunists. Con artists, creditors, overly aggressive sales people, and those eager to exploit any financial weaknesses in an estate, routinely avail themselves of probate records. They may simply be looking to buy your personal effects at a heavy discount, or they may wish to prey on your loved ones for more sinister reasons. Regardless of their motives, they pose a threat you’ll want to shelter your loved ones from. And you can’t do that if your estate goes through probate.

THE WAITING GAME

The good news is that probate usually ensures that your wishes for your loved ones probably will be carried out as you’ve directed. The bad news is that it will take time, and in the intervening months—or even years—your family may have precious little access to your assets.

The average length of time for probate varies from state to state. But in general, you can expect your probate can take 1 to 3 years , and that’s if your affairs are relatively straightforward. It isn’t uncommon for probate to take several years.

PAYING THE PIPER—AND THE REST OF THE BAND

It goes without saying that a process this bureaucratic and time-consuming, with such a large cast of characters, exacts a considerable price. Everyone gets paid: the attorney, your executor, the appraisers, the courts, the taxing authorities, and your creditors. Only after they’ve gotten their cut will your heirs be able to take their share out of what’s left. How much of your estate remains will vary considerably. If yours is a complex estate, or if there is litigation, such as a will contest, the expense of probate can seriously erode what’s left for your loved ones. But having a simple estate and a well-drafted will doesn’t protect you from probate’s expenses.

Whether they get paid a flat fee or fees based on a percentage of the value of your estate, the services of an attorney, executor and appraisers will reduce the assets your loved ones inherit. Probate fees vary from state to state, but here are the national averages: attorney’s fees alone will range from 2% to 4%   of the value of your estate, with a median of 3% ; your executor’s fees will range anywhere from 1% to 5%   (if your attorney also serves as your executor, the total fees likely will be reduced somewhat); add to their fees such expenses as the appraisers’ fees and court costs, and your estate’s value could be reduced by as much as 15%, or more .

If you are married and you and your spouse have based your estate planning on a Simple Will, in some states you can expect your estate to go through probate twice—once after the death of each spouse. So, you may have to double the impact of all probate’s expenses on the value of your estate.

TAXES AND OTHER PROBLEMS

The estate tax has been the subject of a great deal of fluctuation in the last 10-15 years. The amount that could be passed free of estate tax changed nearly every year. However, in search for ways to reduce the federal deficit, Congress will likely continue to make changes in the future. A married person can transfer an unlimited amount to their spouse through the use of the Unlimited Marital Deduction. However, the surviving spouse would have to pay tax on all the assets at their death. Unless “portability” was elected at the death of the first spouse, the surviving spouse would only have his or her own exclusion to use.

While “portability” simplifies things and can be useful in some circumstances, it does not necessitate an estate tax return to be filed at the first death, even if it would not be otherwise required. A Living Trust can be a great way to minimize estate taxes and other problems. There are many reasons that a couple might plan their Living Trust to have the first spouse leave their assets in a separate “Family” or “B” Trust for the benefit of the survivor and children, rather than relying on portability. A Family Trust not only locks in the deceased spouse’s exclusion amount, even growth of the trust would be excluded from the survivor’s estate. Further, the trust could be exempt from tax even in the estate of the children. Portability does not allow for this.

A separate Family Trust allows for many protections that portability does not provide. The trust can provide creditor protection, both in the event of the survivor’s remarriage and subsequent divorce, and even from other creditors. Also, a Family Trust can lock in the ultimate beneficiaries of the assets. This can be important, especially in blended families.

INVITING SPOILERS TO THE PARTY

Simply making out a will doesn’t mean things will go as you planned. Disgruntled family members, creditors, “predators,” and other would-be spoilers can throw a monkey wrench into the works.
Probate is a vulnerable time for your loved ones. Just about any disgruntled relative can contest a will, with potentially devastating consequences. Defending against a will contest is a costly process that can delay the disposition of your estate considerably. That’s why spoilers employ it. They know the threat of these additional expenses and delays is often enough to intimidate heirs into a settlement they may not be entitled to. Even if your heirs decide to fight a will contest and ultimately prevail in court, they may find they’ve won the battle and lost the war.

AVOIDING PROBATE

Is it any wonder the only fans of probate are probate lawyers? In contrast, most Americans who know what probate entails try to avoid it at all costs.
In case you’re thinking you can spare your heirs the hassles of probate by dying intestate, without a will, forget it. The creaky wheels of probate are set in motion whether you have a will or not. And if anything, probate becomes more complicated, not less so, when you die intestate.

So, if you’ve decided that probate is the last thing you want to bequeath your loved ones, how do you avoid it?

Instead, you could turn to a handful of strategies for circumventing the probate process. There’s no probate, for example, on assets such as IRAs, life insurance policies, and pension plans for which you name a beneficiary. Also, any assets you hold in “joint tenancy with rights of survivorship” pass immediately to your joint tenant. And, of course, you can simply give away your assets while living. While these methods avoid the pitfalls of probate, they have plenty of shortcomings of their own, and should be used carefully and only in certain circumstances. (For more information on joint tenancy, see our Academy Report titled, The Trouble with Joint Tenancy.)

THE SOLUTION: THE REVOCABLE LIVING TRUST

For many reasons—avoiding probate being just one of them—the Revocable Living Trust is widely considered the most effective and versatile estate planning tool. The first discovery you’ll make about the Living Trust is that it avoids probate. So, you’re immediately avoiding problems that come with it:

• Publicity
• Delays
• Expenses
• Opportunities for Spoilers

In contrast, with a Living Trust, you safeguard your privacy, dramatically expedite the disposition of your estate, significantly reduce costs, and greatly diminish opportunities for spoilers to upset your plans. Those advantages alone are enough to make Living Trusts the estate planning tool of choice for many Americans. But consider these additional benefits that Living Trusts provide as well:

• You can use a Living Trust to take care of your healthcare and financial needs should you become disabled. Considering that for most of our lives we face a much greater likelihood of becoming disabled than dying, a Living Trust can provide considerable peace of mind.
• A Living Trust can help you maximize estate tax planning.
• A Living Trust gives you maximum control over the disposition of your assets. For instance, if you have children from a previous marriage, you can ensure that your spouse and your children receive fair treatment.
• A Living Trust dramatically reduces the threat of “spoilers.” In most states, your trust can also include a ‘no-contest’ clause which deters greedy claimants from attacking your estate plan.
• As long as your Living Trust owns your assets, it protects them from your heirs’ creditors and “predators.” So, a daughter won’t see the legacy you’ve left her become the spoils of a divorce settlement. Or a son won’t find the assets you bequeathed him depleted by his creditors.
• A Living Trust will allow you to control your assets long after you’re gone. That’s especially important if you’ve left behind minor children or young adults who may need time to grow into their financial responsibilities.

HOW A LIVING TRUST WORKS

With a Living Trust, you own nothing, and your trust owns everything. But not to worry. Since you are your trust’s trustee and beneficiary, you retain complete control of your assets. You can derive income from your trust, sell assets, acquire new assets, and do anything you need to with the property in your trust. And rest assured, as its name implies, you can amend or revoke your trust at any time. In every practical sense, having a Living Trust is almost identical to owning all your property directly.

The difference occurs when you die. Since you technically owned nothing, there’s no property that needs to go through probate. Instead, your property is quickly distributed according to the precise instructions written into your trust. Carrying out your instructions is your handpicked agent—your successor trustee—who will follow your directions to the letter. There’s no need to obtain the approval of a court, no additional expenses, and no details of your Living Trust are made public.

These advantages are so important they bear repeating: with a Living Trust, your estate completely avoids the publicity, expense, delay, and other disadvantages of probate.

YOUR FIRST STEP IN DESIGNING YOUR LIVING TRUST

Creating a Living Trust tailored to your unique needs, reflecting the laws in your state, and delivering the greatest benefit to you and your family requires expert help—and that means an attorney, preferably one who concentrates his or her practice on estate planning.

But not just any estate planning attorney. If you go to one who has built a practice around probate, don’t be surprised if what you get is a will. In fact, many attorneys offer substantial discounts on will preparation, counting on the substantial fees they will earn when your estate goes through probate. Instead, look for an attorney who emphasizes Living Trusts.

Once a prospective attorney demonstrates sufficient expertise in Living Trusts, make sure he or she passes the next most important test: Does the attorney listen well? If not, move on to the next candidate. Why? Because no two clients have the same circumstances, financial profiles, and family situations. So listening carefully to you will be the only way your attorney can ensure he or she is providing you with a Living Trust that meets your needs.

Next, consider how well the attorney will be able to work with your family. It will be a great comfort to them to have on hand a professional who was not only familiar with your wishes, but who also has the expertise and people skills to help them through what may be an emotionally difficult time.

Finally, choose an attorney with whom you can feel comfortable sharing your hopes, dreams and fears. Creating a Living Trust is an intensely personal experience, during which we consider our own mortality, take a hard look at our life’s work, deal with family dynamics, and decide how we’ll provide for our loved ones. Your attorney should have the professionalism, tact, and humanity to help you explore all these issues, and resolve them in a way that leaves you feeling satisfied, with lasting peace of mind.

© American Academy of Estate Planning Attorneys, Inc.

If you own life insurance, congratulations. Many of us put off this critical element in our family’s financial planning, which may have devastating consequences on loved ones. You probably know why life insurance is so important. Young families need it to replace part of a breadwinner’s income. Mature Americans find it provides their heirs with a source of funds to pay estate taxes. Investors have discovered that innovative insurance products help them build cash value, tax deferred, for long-term goals like retirement. But remember, buying life insurance may be only part of the solution. Without proper planning, it can actually add to your estate tax bill.

The Mistake Thousands of Americans Make

Countless well-meaning parents, spouses and others make a simple but costly mistake when buying life insurance policies. They don’t think about who should own the policy. Unfortunately, that simple act could cost your heirs plenty. Here’s why.

Every American is entitled to an estate tax exclusion on the first part of his or her estate. You may need to take every precaution possible to reduce the value of your estate for estate tax purposes, and that includes life insurance planning.

While your beneficiaries will receive the death benefit income tax-free, the proceeds are not estate tax-free. Say, for example, that your home, retirement benefits, and other assets total $3.1 million. Your estate will pass to your heirs estate tax-free. But add in a life insurance policy with a death benefit increases the value of your estate over the estate tax exclusion. and subject to estate taxes. Estate taxes are levied at a higher rate after your exclusion, so your estate would owe a hefty estate tax.

The net result: your heirs will see part of your legacy lost needlessly to the government.

Preserving Your Legacy for Those You Love

There’s a simple solution that not only avoids the estate tax problem but also provides a host of other benefits. It’s called an Irrevocable Life Insurance Trust— or ILIT for short— and it allows you to protect your loved ones without adding to your estate taxes. Because your ILIT actually owns your policy, its death benefit won’t be taxable in your estate. Here’s how it works.

You set up your ILIT, and name a trustee other than yourself. Trustees are most often the beneficiaries of the trust or a financial advisor. (Obviously, if your beneficiaries are your minor children, you’ll want to name as trustee the person you’ve chosen to be their guardian or some other responsible adult.) The fact that you are not actively involved as a trustee should give you no cause for concern. Your trustee—or trustees—will have to precisely follow the instructions you provide in your trust documents.

After you create your trust, your trustee purchases a life insurance contract on your life with funds you provide. If you have an existing policy, you can assign ownership of it to the ILIT, but there are conditions imposed on these transactions that should be carefully considered before you do so. For instance, if you die within three years of the transfer, the life insurance contract will be included in your estate.

Annually, a taxpayer may give a pre-determined dollar amount (indexed for inflation) to another person gift tax-free. Married couples, therefore, can give a combined total of double that amount, gift tax-free to any one person. Other than this per-person rule, there’s no limit on the total amount you can give away.

By carefully following the IRS rules, you can employ this gift-tax exemption to make the policy’s premium payments. When you provide your trustee with the funds to pay your annual premium, your trustee must notify your beneficiaries in writing that a gift has been made in their names. Your beneficiaries will have the option of withdrawing these funds from your ILIT during a specified period, usually a minimum of 30 days. When they don’t exercise their option, your trustee will use the money to pay your insurance premium. This written notification of your gift to your beneficiaries is called the Crummey Letter, bearing the name of the taxpayer who won a court case against the IRS resulting in approval of this process. An annual Crummey Letter to your beneficiaries is an essential element of a successful ILIT.

Staying in Control—Today, Tomorrow and for Years to Come

Reducing your estate tax liability is a powerful incentive for considering the ILIT. But that’s just the beginning of the long list of benefits it provides.

The ILIT provides you control over how proceeds from your life insurance policy are spent. It is a mistake if you fail to control how the beneficiaries receive the policy’s proceeds. Even an adult with experience may find the large sum of money overwhelming. But when the beneficiaries are young adults who lack the maturity to handle such a windfall, the results can be devastating.

With the ILIT, you control who receives the proceeds, and how they receive it. Whatever distribution strategy makes most sense for you and your loved ones; the ILIT gives you the opportunity to put it into effect.

In many states, ILITs offer you the best—if not the only—way to protect the cash value of your policy from creditors. Over the years, your premiums and interest earnings can accumulate to considerable sums, making cash value policies a tantalizing target for creditors. They may be successful in such an action if you own the policy. When the policy is owned by the ILIT, however, it is generally out of your creditor’s reach.

A Short-Cut that Doesn’t Work

If you don’t want to implement an ILIT, you may be considering short cuts. One often-employed strategy is to make someone else the owner of your policy. It solves the estate-tax problem, but it also spawns a host of others, all involving your loss of control over the disposition of the policy. For example:

The policy’s owner can reassign it, pledge it as collateral, or expose it to threats from creditors. There’s nothing to keep the owner from spending your annual premiums on his or her own priorities, instead of keeping the policy in force. If the owner gets divorced, an ex-spouse can end up with a piece of your policy. You’ll have no option for controlling how your beneficiaries spend the policy’s proceeds.

© American Academy of Estate Planning Attorneys, Inc.

Americans are some of the most generous givers on the face of the planet. They reach into their pockets and take out their checkbooks on behalf of others more often than any other industrialized nation. Nationally, charitable contributions make a thunderous plunk in the collection plate. In 2015, American corporations gave a total of $18.46 billion. Individuals followed suit, contributing to charity a total of $373.25 billion. Charitable Remainder Trust is one of the most popular ways Americans can donate to their favorite cause while doing well for themselves and their families.

HOW THE CHARITABLE REMAINDER TRUST WORKS

Whether you are a budding philanthropist looking for the best way to contribute to society, or an investor looking for strategies to maximize income and tax breaks, the Charitable Remainder trust offers a powerful solution to your needs. It combines current charitable income tax deductions and future estate tax deductions with the opportunity to avoid capital gains tax on a highly appreciated asset. It then goes one step further to provide you with a new source of income.

A Charitable Remainder Trust delivers best results when benefactors have a highly appreciated asset—such as real estate or stocks—that provides little or no income.

Owning such an asset is a double-edged sword. You can’t sell the asset without experiencing the costly bite of state and federal capital gains taxes. On the other hand, if the asset is still in your estate when you die, it will increase your estate taxes.

Of course, you could donate the asset directly to charity and gain an immediate charitable income tax deduction. In one fell swoop, you’d reduce the value of your estate—and thus future estate taxes—as well as avoid capital gains taxes. But you’d miss out on an opportunity to maximize your income.

The Charitable Remainder Trust neatly overcomes these problems.

When you create your Charitable Remainder Trust, you transfer your highly appreciated asset to your trust. The asset is usually sold, with the proceeds used to buy income-producing investments. Then, each year for the rest of your life, you’ll receive income from your Charitable Remainder Trust. When you die, your designated charity will receive whatever remains in your trust. Hence the name: Charitable Remainder Trust.

The incentives for using the Charitable Remainder Trust include:

• An immediate charitable income tax deduction based upon the fair market value of the asset given away (reduced by your received interest—or future income and subject to normal percentage limitations applied to itemized deductions);
• An opportunity to put the full value of your appreciated asset to work for you and avoid the costly impact of capital gains taxes;
• A new source of income;
• And a charitable estate tax deduction on the full fair market value of the asset you’ve donated to the charity when you die.

It may sound like the Charitable Remainder Trust is a complex legal tool. But just the opposite is the case. Working with your estate planning attorney, you can set one up in fairly short order.

After deciding which charity you want to support, you then decide who will serve as trustee. The trustee can be you, a bank or trust company, or anyone else of your choosing. The trustee will assist in the valuation of the asset you contribute and will follow your precise directions laid down in your trust documents.

Next, you decide who will receive income from your Charitable Remainder Trust and for how long. This isn’t optional; it’s mandatory. According to the IRS, at least one beneficiary other than the charity must receive income each year. So, determine if you will be the only beneficiary, or if your spouse or children will receive income after you die. Lastly, you decide how you want to receive your income, and how much you will receive each year.

GIVE AND YOU WILL RECEIVE

Your answers to these last questions will prove critical in determining exactly what type of Charitable Remainder Trust you choose. Which one will depend on your temperament as an investor?
For instance, conservative investors who want a predictable income year after year may prefer the Charitable Remainder Annuity Trust—or CRAT for short. You may make only one contribution to your CRAT, which will provide you a fixed annual income, regardless of the investment performance of your asset. Because your tax deductions and income are based on the value of the asset as of the day it was transferred to the trust, the CRAT is probably better suited to assets you suspect will lose value in the years ahead.

Regardless of the economic winds, your income is guaranteed. So, if your asset doesn’t earn enough to pay your annual income, the principal will be used to make up the difference. On the other hand, if the markets turn bullish and your asset outperforms your expectations, the surplus will be added to the principal.

With a CRAT, you will be paid an annual income equal to at least 5%, and no more than 50%, of the asset’s fair market value, determined on the day it was transferred to your trust. So, if you donated a stock portfolio valued at $250,000 on the day it was transferred to your Charitable Remainder Trust, your annual income would be a minimum of $12,500. There’s an upper limit to how much you can receive each year, but it isn’t as simply stated. It has to do with your lifespan (as well as the life spans of any other beneficiaries) and other factors. Your estate planning attorney will help you determine exactly how much your annual income from a CRAT may be each year.

The chief drawback of the CRAT is also its strength; it protects the donor against swings in the financial markets. In a stagnant or declining market, the donor comes out ahead. But in a strong market experiencing investment growth, it’s the charity that will ultimately benefit the most. That’s why donors who hold more bullish views on investing will prefer the Charitable Remainder Unitrust.

The Charitable Remainder Unitrust (CRUT) offers a couple of advantages over the CRAT. First, unlike the CRAT, you may make as many contributions as you like to your CRUT. And for the sake of determining annual income, it is the asset’s current fair market value—not its value on the date it was transferred to the trust—which is used in the calculations.

As for its income opportunities, the CRUT allows the benefactor to ride the financial markets and enjoy the investment performance of the trust assets. That means, of course, that in some years you may receive less, other years more. When lean years keep you from receiving your full due, a “make-up provision” can allow for additional income in future years to make up for the shortfall.

The CRUT requires that the donor receive a minimum income of 5% of the asset’s current fair market value, and not more than 50%. You can also opt to receive your chosen percentage or the trust’s net income, whichever is less.

Clearly, donors who want income from their charitable contribution and who don’t mind riding the winds of economic change will find plenty of appeal in the CRUT.

WHAT ABOUT YOUR HEIRS?

So far we’ve focused on the ample benefits that the Charitable Remainder Trust offers you. But what about your heirs? After all, you’ve given away a piece of their legacy in order to gain income and tax advantages for yourself today.
One frequently employed solution is the Irrevocable Life Insurance Trust. When used in concert with the Charitable Remainder Trust, it provides your heirs with an income-tax-free legacy equal to the full value of the asset you donate to charity. Here’s how it works.

After you establish your Irrevocable Life Insurance Trust, your trustee then purchases a life insurance policy on your life with your heirs as beneficiaries. Usually, the death benefit of this policy is equal to the value of the asset you’ve given away. The cost of the policy can be offset by income generated by your Charitable Remainder Trust or the charitable income tax deduction you receive. Upon your death, your heirs will receive an income-tax-free death benefit.

Why do it this way, rather than just owning the policy outright? Because the proceeds of a policy owned in your name at your death will be included in the value of your estate for estate tax purposes. Considering that estate taxes kick in at a 40% rate, life insurance policy could expose your estate to a sizable tax bite. (For more information, see the Academy report, The Irrevocable Life Insurance Trust.)