If you’re married, not all of the property may go to your spouse (depending on state law). It may not go to your registered domestic partner, either.Wills and Trusts—For Everything You Can’t Take with You
The three immutable facts: You own stuff.
You will die. Someone will get that stuff.
Please write a will. I’m on my knees. Just do it, please. Your family will praise your sainted memory. It will settle their minds and settle the arguments (or most of them). The people you care about will think of you as someone loving and fair. (A sense of fairness trumps all when an inheritance hangs in the balance.)
If you don’t write a will or set up your property so that it passes directly to its proper new owner, the result may not be fair. You’ll have lost your right to choose. Instead your state will distribute your property, following rules already written into law. Your state means well, but it’s not too clever, brooks no appeal, and makes no exceptions. Various relatives will get pieces of your property, but no one else—and no one will get more than the state-allotted share, even if it’s unfair. Depending on the state, a spouse can get the short end of the stick.
You don’t want this to happen—or I hope you don’t. Yet many people who know better don’t write wills or living trusts and are not moved by the risk of leaving a mess behind. Maybe they don’t intend to die. Neither do I, but I have a will anyway, just in case.
While I’m here on my soapbox, let me also nag at those of you whose wills or trusts are out of date. Old wills, written before your income went up, before family members married, divorced, or died, or before laws changed, can wreak just as much havoc as no will at all.
Making a will is so engrossing that it beats me why anyone has to be dragged to it. As you assign your computers to Barbara and your antique table to Jeff, you imagine their gratitude. You feel like God; you arrange everything.
I’ve heard plenty of excuses for not writing a will. To answer some of them: You can write a will even though your financial affairs are a mess. You don’t have to have your property appraised. Neither the witnesses to the will nor the beneficiaries have any right to know what is in it. Your property isn’t locked up in any way. You can change things as often as you want. You won’t suddenly drop dead.
If you’re married, not all of the property may go to your spouse (depending on state law). It may not go to your registered domestic partner, either.
If you have children, or no children but a living parent, they may inherit some of your money, leaving your spouse with too little to live on. Grown children will receive their money directly. The money inherited by younger children will be guarded by a court-appointed conservator. If your spouse is conservator, he or she will be able to use it only for the children’s support. The court will have to approve certain expenditures and may require an annual accounting.
A court will choose the conservator of your minor children’s property. Your spouse will be named, if he or she is alive and competent. If not, some other relative will step in—maybe not the one you love best.
If the child will inherit money, a fight might break out among your relatives over who should care for the child and control his or her inheritance.
There probably won’t be a trust to take care of your young children’s inheritance. Trusts are useful because they let you decide, among other things, when the child should receive the money: for example, at age 25 or later. Without a trust—just a state-appointed conservator—the children gain control of their money at 18 (sometimes 21, depending on state law). If they’re not ready for the responsibility, too bad.
Adopted children might get nothing.
Stepchildren get nothing, even if they’re close to you.
Neither do your friends or your partner.
Your grown children might battle in the courts. They might also fight with a second spouse or the second spouse’s children.
Part of the family might be cut off from the family business.
A closely held business might have to be sold fast if the estate isn’t permitted to run it.
You can’t leave your favorite things to your favorite people.
You can’t leave a contribution to a church or charity.
Your disabled child might inherit money, disqualifying him or her from government aid.
Everyone will be sore at you.
If you’re married, wills sometimes seem to be beside the point. You simply put all the property into joint names so that your spouse will inherit. But what if you die together in an accident? Who gets the property then, and how will any children be taken care of? You wouldn’t go out at night and leave your youngsters without a babysitter. Why would you go out forever and leave them without a guardian? If you have no children and the wife dies five days before the husband, everything may pass to his relatives, leaving hers out, or vice versa
If you’re |
And die without a will, your property will go |
Unmarried, no children, parents living |
To your parents. In some states, they have to split it with your brothers and sisters. |
Unmarried, no children, parents dead |
To your brothers and sisters. If you were an only child, to your next of kin. |
Unmarried, with children |
To your children, but probably not to stepchildren. The court appoints a guardian for your minor children and their funds. |
Unmarried, no relatives |
To the state. |
Married, with children |
Depending on the state and the size of the estate, all to the surviving spouse or part to the spouse and part to the children. The spouse may get one-third to one-half of your separately owned property, part or all of the community property, and all of the joint property you held together. |
Married, without children |
Depending on the state and the size of the estate, all to the surviving spouse or part to the spouse, part to your parents, and perhaps even part to your siblings. The spouse may get one-half of your separately owned property, part of all of the community property, and all of the joint property. |
Registered domestic partner |
The same intestacy rights as a married person in most but not all of the states that permit this legal arrangement. |
Single or married |
Any property jointly held with another person, with right of survivorship, goes to that person. Property with a named benefciary, such as an insurance policy, pay-on-death account, or IRA goes to that benefciary. |
(the exact number of days depends on state law or what it says in the will). If you die together and are worth more than the estate tax exemption as a couple (page 120), your estates will owe federal taxes that could have been avoided if you’d drawn a will with the proper trust.
Single people may not care that everything goes to their parents. But it takes a will (or living trust—page 130) to include a friend, a partner, a roommate, a church or charity, or, in most states, a sibling. A will is especially important for live-in couples, straight or gay. If your parents hate your way of life or aren’t fond of your partner, they may vent their anger on the survivor, seizing property he or she ought to have. They might take it even if they like your partner, because they got greedy. People surprise you when money is at stake.
Innocents think that even without a will, property passes to the person who most ought to own it. How mistaken they are! What’s “right” under state law may be all wrong for your family and friends. Laws vary, but the following table gives you a general idea of what could happen if you die intestate (without a will). For your state’s specific rules, see www.mystatewill.com.
For many of us, surprisingly little passes by will nowadays. Here is what happens to some of your major assets, whether you have a will or not:
All joint property with rights of survivorship goes to the other owner or owners. This includes a home in joint names.
Property with a named beneficiary goes to the person named. This includes your life insurance, U.S. Savings Bonds, Individual Retirement Accounts, tax-deferred annuities, and bank accounts held in trust for others. Employer plans such as 401(k)s go to your spouse unless he or she waives that right—in which case, the money goes to whomever you name.
Property disposed of by contract goes to the person named. For example, you might state in writing that your house goes to a daughter or son who takes care or you in your old age. To make it binding, your son or daughter should sign it. Unsigned, it amounts to no more than a handwritten will, which your state may or may not accept.
Property put into a revocable living trust goes to the beneficiaries of the trust.
The usual sort of personal property that we all own—the clock, the sugar bowl, the TV set—is usually divided by private agreement without a will, assuming that no one in the family lodges a formal protest. Many states even let you transfer title to an automobile without cranking up the probate machine.
What property does pass by will? Any asset that you own individually (including your half of community property and property held as tenants in common—page 86) and does not have a named beneficiary. If everything is held jointly or goes to a named beneficiary, there may be nothing left to pass by will. If there are just trivial amounts, no probate will probably be required. But remember: you may own property you know nothing about, such as a big legal settlement paid if you died in an accident. Your will directs where that will go.
This happens all the time and can be a tragedy for heirs. You may assume that your will takes care of everything. But it does not apply to joint property or property with named beneficiaries. If the names on those properties don’t harmonize with the intent expressed in your will, tough luck. The people in your will lose out.
It’s oh, so easy to make mistakes. For example, you might say in your will, “Divide my estate equally between my beloved children, Patty and Bob.” Later you put Patty’s name on your bank account so that she can help you pay your bills. When you die, the account will probably go to Patty. Too bad for Bob. To avoid this, give Patty your power of attorney. That frees her to write checks for you without being on the account. On your death the remaining money will still be split between Patty and Bob, as you intended. Another option is a convenience account, if your bank offers them. Patty can write checks, but any money left in the account will be divided according to the terms of your will.
Here’s another mistake that could devastate your heirs: you might leave your Individual Retirement Account to the wrong person. For example, say that your will leaves the IRA to your spouse. But years ago, before you married, you named your sister as beneficiary of the IRA and never got around to changing it. If you die, your sister gets the money; your spouse is cut out. (When you married, you should have told the IRA trustee—the bank, mutual fund group, brokerage firm, or insurance company—to send you a change-of-beneficiary form by the speediest mail.)
And again: your will might set up an estate tax–saving trust for the benefit of your children, to hold, say, $3.5 million of your assets. But your major asset is your mansion, which you keep in joint names with your spouse. You also have a life insurance policy naming your spouse as beneficiary. When you die, your spouse gets the mansion and the life insurance. There may not be enough in your probate estate to fund the children’s trust. Several thousand dollars’ worth of estate planning will have gone down the drain, along with the tax savings you’d hoped for. (You should have kept at least $3.5 million in your separate name or named your estate the beneficiary of your life insurance.)
And yet again: if you open a new brokerage account, the broker may advise you to name a “pay on death” beneficiary in order to avoid probate. All the money in that account would go to the person named, regardless of what it says in your will. This too could wreck a lot of careful planning.
The lawyer who prepares your will should quiz you about all the assets you own to see how they’re held, what they’re worth, and whether you have named beneficiaries. You may be advised to change the beneficiaries of insurance policies and retirement plans to make the will work the way you want. If you write your own will (see page 103), these complicated ownership questions will be entirely in your hands. If you slip up, you may leave some family members less than you intended. That could sour relations among your children for many years.
Several reasons:
To name a personal guardian for your minor children and a conservator for any money they inherit.
To name a trustee to protect your children’s inheritances until they can manage their own affairs.
To dispose of property you didn’t expect to own. This especially affects married couples. Say that a husband with no will inherits from his wife. If he himself dies soon thereafter (perhaps because they were both in the same auto accident), the property and the children will be left in the arms of the state.
To dispose of any property you get after your death. You actually can get rich posthumously. For example, if you die in an accident, a jury might bring in a big judgment payable to your estate.
To avoid fierce family arguments over who gets the beloved painting of Uncle Carll.
To dispose of your half of jointly owned property if both you and the other owner die in the same accident.
To make sure that your probate-avoiding tactics work. If you set up a living trust, you need a pour-over will. It guarantees that any property you forgot, or that comes to you after your death, will be added to your trust.
This is the basic will for married couples. You each leave everything to each other and, if you both should die, in trust for the kids. Simple, clean, and cheap. Complications arise only if you have kids from an earlier marriage who may need protection; you have kids with special needs; or you’re wealthy enough to owe estate taxes.
An I-love-you will for singles leaves everything to a partner or to a few other named beneficiaries. It couldn’t be easier.
Strictly speaking, no. You can draw up your own will. But a lawyer who represents himself is said to have a fool for a client. I think the same about people who, having assets to leave behind, still handwrite their wills and stick them in desk drawers.
Centuries of tradition and legal precedent stand behind the formalities of wills. The words are precise (if often legalistic) to avoid ambiguity. The procedures are as orderly as a ballet, to make it irrefutably plain that these indeed are your intentions. Homemade documents, which are clear to you, may be so vague to others that your heirs (if they squabble) have to get a reading in court. The will may even be thrown out and your property distributed according to state law. Books and computer programs exist that guide you through writing a valid will, but they take a lot of time and study. A lawyer should charge a modest fee for a simple I-love-you will (plus a living will, health care proxy, and durable power of attorney), although you can pay in the thousands for a document that is complex. The first meeting, to discuss objectives and fees, ought to be free—so make that phone call! You have nothing to lose.
Here’s why you need an attorney:
To Say Exactly What You Mean. If you leave money to “Ada and her children,” do you mean “Ada, if living, and if not, to her children”? Or do you mean “divided in equal parts among Ada and her children”? Or “one-half to Ada and one-half to her children”? Who knows? Depending on the state, Ada and her children may become joint owners, Ada may get the income from the property for life, or Ada may be able to occupy the land for life, with the children inheriting it after her death.
To Advise You on How to Hold Your Property: Jointly? Individually? In trust?
To See That the Names on the Property Agree with Legacies in Your Will. I’ve said it before, and it’s so important that I’ll say it again. Here’s where many estates get fouled up. Your will says one thing, but the names on your property say another. For example, take a will that divides the property equally among three children. For help with money management, however, the parents put one child’s name on the securities account. That child will inherit the whole account plus one-third of everything else. The other children will be shortchanged. Lawyers watch out for this.
To Clue You In on Your State’s Weird Inheritance Laws. For example, if you leave someone a house with a mortgage on it, your estate might have to pay off the loan unless you specifically indicate it shouldn’t. Your spouse may be entitled to the family home unless he or she waives that right. If one of your children witnesses the will, he or she may not be able to inherit.
To Reduce Estate Taxes If Your Estate Is Larger than the Federal Estate Tax Exemption (page 120). Even smaller estates may be subject to taxes at the state level.
To Provide for “Advancements.” Say that you’re leaving your money to all your children equally. But one child needs financial help to pay for his own children’s college or to buy a house. You can treat the money as an advance against his inheritance, if the will so provides. You attach a schedule to your will, showing how much that child received. When you die, that amount is subtracted from his or her inheritance, preserving your original goal of giving all your kids the same amount.
To See That Your Heirs Are Not Robbed of Their Share of Your Closely Held Business. Unless someone agrees in writing to buy out your interest, the business may be worthless to the family you leave behind.
To Ask Questions That Might Not Occur to You. For example, do you want your executor to post a bond to ensure that he or she won’t misappropriate the assets? If you chose a family member as executor, you probably won’t want him or her to have to pay. But your will must specify that no bond is needed.
Another example: If one of your adult children dies before you do, who should inherit his or her share of your property? Do you want it to go to your child’s children (your grandchildren)? Do you want it to go to your late child’s spouse? If your will simply leaves your property to your “surviving children,” and one child dies before you do, the money will go to your other children, cutting your deceased child’s children out.
To Deal with the Questions Surrounding Assisted Reproduction. For example, if you’ve stored frozen embryos, do you want the surviving parent to be able to produce a child after your death? If you served as a surrogate womb for an infertile woman and your will leaves your money to “all my children,” does that include the child you bore for someone else? What about a child born of a donor’s sperm? If a large trust is involved, a swarm of children with the right DNA might show up—none of whom you meant to share in your property. Betcha hadn’t thought of complications like these! In 2008, the Uniform Law Commission established rules for sorting out these claims but it will take time for the states to adopt them. In the meantime, state courts are struggling with some weird cases. You can head off potential trouble in your will.
To Suggest Smart Strategies for Doing Right by Your Heirs. Tell your lawyer everything; your feelings about your family, what worries you about your kids, whether you expect quarrels among your heirs (sibling quarrels, or fights with a second spouse and stepchildren), and what you hope to accomplish with the money you leave behind. Disclose all your assets, debts, and any income you expect to leave behind. Your lawyer will have good ideas about how to mobilize your money to leave your heirs well supported and, if possible, at peace.
To Make Your Will Challenge-Proof. All the formalities have to be followed. You need the right number of witnesses, all of whom can testify—if required—that you knew you were signing your will, that you were competent to do so, and that the signature on the will is yours. Where there’s no contest, your will is self-proving. It’s admitted to probate without any testimony from witnesses.
You don’t believe me. You think you’re smarter than a lawyer and don’t see why you should pay him or her to complicate your life. So …
You Handwrite a Will, Sign It, Date It, Leave It Unwitnessed, and Put It in Your Desk Drawer. Is it valid? Yes, in about 30 states; no, in the rest. The bad news for lawyerphobes is that you have to ask a lawyer what your state allows. Some require that every word be handwritten; others might accept your handwriting on preprinted will forms; others will throw out an unwitnessed will.
Even if the will is good, its terms may be fuzzy. That won’t matter as long as your heirs agree on where you wanted your money to go. But if they disagree, your “will” could set off a terrible fight. People who boast that they’ve done their own wills wouldn’t be so smug if they saw what could happen later.
You Type a Will, Sign It, Date It, and Put It in Your Desk Drawer. At this writing, it’s invalid in all but three states (Montana, South Dakota, and Colorado), and it’s not even foolproof there. It is not considered a handwritten will. To validate it, you need the signatures of the right number of witnesses. And both you and the witnesses have to follow certain procedures, required by your state, for creating a valid will.
You Get Witnesses. You must be sure to follow the rules. The witnesses may have to see you sign or hear you acknowledge your signature to them. You may have to tell the witnesses that this is your will. You may have to see the witnesses sign, or they may have to sign in the presence of one another. Some states and courts will accept a will with minor technical flaws as long as no one challenges it (the “harmless error” rule). But others won’t, and there’s no way you can tell in advance. Who witnesses the will may also be critical. Many states put limits on what a witness can inherit. A few states don’t let a witness inherit anything.
You Type a Will, Sign It, Date It, and Get It Notarized. This way of legalizing a will was approved by the Uniform Law Commission in 2008. Your state has to adopt it, however, for it to become effective.
You Fill In the Standard Do-It-Yourself Will Form That a Few States Provide or That You Find Online. These forms are fine, in theory, for simple wills (“everything to my spouse” or “everything to my children”). But they don’t allow for many choices. Like a typed will, they need witnesses. If you misinterpret the instructions and make a mistake in getting the will witnessed, it probably won’t be valid.
You Tell People Orally What You Want. Not accepted in many states. In others it’s a valid will only if you’re in imminent danger of death, not much property is involved, and several witnesses hear you. Some states allow only soldiers in combat to have oral wills. If you survive longer than a certain period, your oral will evaporates.
You Videotape Yourself Reciting Your Bequests. You do not have a will. A tape generally has no formal standing in law, although a court might recognize a particular set of bequests as valid. A videotape of you signing the will, however, can prevent unhappy relatives from charging that you were too woolly-headed to make decisions.
You Prepare Your Will Online, Providing a Digital Signature. At this writing, electronic wills are legal only in Nevada, and you have to jump through hoops to be sure that the will can’t be hacked. Consult a Web-savvy lawyer.
You Get a Book on How to Write Your Own Will and Follow the Instructions. If you’re patient, and read the directions carefully, there aren’t too many mistakes in the book, and your affairs are truly simple, maybe it will work. Daredevils might consider Quicken WillMaker Plus by Nolo, the leading publisher of do-it-yourself legal materials. It covers both wills and living trusts. Order online (www.nolo.com) or by phone (800-728-3555). You might also try LegalZoom (www.legalzoom.com). You fill in a form online and receive a will in the mail.
But even with guidance, you’re better off not writing your own. In simple situations, the cost of a lawyer is surprisingly small and worth every penny. If your situation is more complex, look for a lawyer who specializes in wills and estates. The more a lawyer sees of what can happen in a family after a death, the more sensitive he or she becomes to how exact a will has to be.
A joint will is a single will for two people, usually a husband and wife. They might each leave all the property to the other, and to the children equally when the second spouse dies.
I believe in sharing secrets, sharing beds, and sharing property—but not in sharing wills. Don’t do it. A joint will can be hard to change without the consent of your spouse. The surviving spouse might not be able to change it after the first spouse dies. And it might not qualify for the marital deduction—the provision in the tax code that normally lets you leave everything to a spouse, free of estate tax. That would be a disaster for people wealthy enough to owe estate taxes.
The executor—known in many states as the personal representative—sees that your will is carried out. It’s a tiresome, detailed, time-consuming, thankless job. You’re doing no favors for the person you name. All the property has to be tracked down and assembled (no easy job if you didn’t keep good records). Creditors notified. Heirs dealt with tactfully. Arguments settled. Bills and taxes paid. Property appraised and distributed or sold. Investments managed until they can be distributed to their new owners. Final accounting to be made to the heirs and, perhaps, to the courts.
The executor usually works with a lawyer who handles the technical details, so you don’t need an expert in estate law or high finance. You need virtues that are much harder to find. An executor has to be willing, reliable, well organized, honest, responsible about money, fair minded, and sensitive to the worries of the heirs. The usual practice is to ask an able heir (or friend) to do the job. If you name a professional executor—a bank or a lawyer—include a family member as coexecutor, just to keep things moving along. Get permission before putting down someone’s name. If money is misspent or errors made, the executor can be held personally responsible.
Friends or family members usually don’t ask for compensation. But you should specify this in the will; otherwise they may claim the commission allowed by law, even though you expected them to serve for nothing.
When banks or attorneys are executors, however, they may charge, and charge, and charge—sometimes by the hour, sometimes a fixed fee, sometimes a percentage of the assets in the estate that goes to probate. Your estate will pay less if you keep the executorship at home and let your family hire a lawyer by the hour or by the job. Executors should shop for lawyers, asking more than one what they’ll charge. Like any other businesspeople, lawyers cut fees for jobs they want and that they know are up for bid.
In a state with simplified probate laws (page 129), legal fees will be lower because there are fewer court procedures. Your family may not even need an attorney. The job might be easy enough to do themselves. Most states now have instructions online. Alternatively, your executor can go to the courthouse and ask the clerk of the probate court what’s involved or have a onetime conference with a knowledgeable lawyer. Very small estates might not have to go through probate at all.
“How nice. Mommy Dearest left me a nice, round one million dollars—but what did you say? Sandy took the andirons? They were supposed to be mine! I’ll sue!”
And so it goes. Personal property usually goes to a surviving spouse. If there is none, it’s often divided equally among your heirs, leaving it to them to decide exactly who gets what. If your heirs fall out, money may not be the issue. They’re more likely to fight about all the things that can’t be split: the music box, the opal earrings, the antique pool table.
To avoid this, talk with your kids about which of your personal items matter to them the most. You may be surprised. They might not value the furniture you inherited from your own mother but love sentimental items of lesser monetary worth. When two people want the same thing, discuss it with them and broker a trade-off (Sue gets the Oriental rug, but Diane gets the bracelet and the brooch).
Once the main items are settled, make named bequests; the andirons to Sandy, the feather boa to Sarah. The easiest way is to put your desires in a separate letter attached to your will. You can then change your mind about the andirons without having to reexecute the will itself. In some states this letter has the force of law if your will states that you’ll leave a letter and if the letter is properly written. For example, it should be signed and dated, and say specifically that you want these particular people to get these particular items. In other states, you’re simply depending on your family and executor to cooperate.
The letter might also tell your heirs which items are of special value. Identify paintings, prints, and craft items picked up on your travels. If you collect Batman comics or Japanese netsuke, leave the name of a dealer who might buy them back. Guns should be left to a person who can possess them lawfully.
For all the items not worth naming individually, suggest to your kids that they do a round-robin, each picking something in turn. You might name a third party to distribute items the kids can’t agree on.
Leave some information about items of sentimental value. “I bought that wonderful green silk pillow in Thailand on our twenty-fifth anniversary trip.” And the history of family heirlooms: “The dried flowers in the brass and glass paperweight came from your great-grandmother’s wedding bouquet.” Your kids will be glad for the notes, to help them remember the provenance.
Blended families need to be especially sensitive to deep feelings of ownership. Take a family where the mother died and the father remarried a woman who had children of her own. On her death, the kids from the first marriage will probably want to inherit china or other items that their biological mother owned. So consider which side of each family the property came from when distributing even ordinary goods.
Talk with your children about other ways of distributing the personal property.
If you carry insurance on special items, such as a gun collection or an antique car, ask your insurer to make it available to an heir for a certain period. Then state in your will that the policy follows the gift. This protects the valuables from the time you die to the time the heir collects them and gets insurance of his or her own.
Pets (or “heirdales,” as rich dogs are called by Lawrence Waggoner of the University of Michigan Law School) are not allowed to inherit money. In a majority of states, you can leave a trust for their upkeep as long as the trustee is willing to carry out its terms. But the trust might not be enforceable if the trustee you name doesn’t want to bother. You might also leave a friend a bequest on condition that he or she adopt your pet. Either way, confirm with your trustee or friend in advance.
Unequal shares, to people who feel that they ought to be equals, become an eternal thorn in the side. Aunt Emily’s last revenge on an irritating nephew is to leave him only $1,000, while his brother gets $2,000.
For the sake of family relations, equal shares are politic, with a few exceptions. If you’ve already put two kids through college and have one to go, that child deserves something extra for his education. He shouldn’t have to spend his inheritance on a college degree that, for everyone else, was financed out of family funds (see page 118 for a trust that can help with this problem). If one daughter married in lace and pearls, the other should be able to afford the same. If one adult child is rich and the other poor, you might all agree to help the one who really needs it (although beware of divorce; a rich child may be suddenly poor if his or her marriage breaks up).
When one child is treated differently from the others, you’re setting up a potential will challenge. Angry, the snubbed one may claim that the other siblings influenced you unduly. So leave a letter with your will, explaining why you made the choice you did. Even better, tell the whole family in advance.
Don’t keep your kids in the dark about the will. Explain the provisions, by letter or e-mail, especially if you’re leaving them unequal shares. (It’s important to say it in writing; they might forget or misinterpret a mere conversation.) Clarify how much you’re leaving to charity or to people outside the family. Matters get especially touchy when stepparents and stepchildren are involved. If one of your heirs feels left out, he or she might challenge the will—in which case the lawyers will “inherit” the estate. So talk, explain, listen, adjust, and talk again. It’s the unexpected that sends families into a tailspin, making enemies of steps and siblings who might otherwise have gotten along. As long as they all understand what you’re doing and why, they’ll probably accept it, happy or not. And if you can make them happy with just a few changes, all the talk-talk was time well spent.
One caveat: There’s no need to tell your kids how much they might inherit. They’ll start spending that money, mentally, and feel cheated if the bucks aren’t as big as they expected. Instead, tell them that the ultimate size of your estate depends on a lot of things—how long you live, whether you’ll need long-term care, how well your investments do, how much you’ll spend in your retirement years, and circumstances unforeseen. Warn them that, in the end, there might not be a lot left to parcel out. Your “sunshine policy” has to do only with the fairness of the shares everybody gets.
If you and your spouse both die, who better than Grandma to look after the minor children? The answer to that question is: practically anyone you can think of. Grandma paid her dues. She shouldn’t have to gear up for child rearing all over again. Furthermore, if your parents are named guardians, you are setting up your children to lose a mom and dad all over again.
A brother or sister is a better choice. So is an older, married child, a cousin, or a close friend who shares your values and way of life. Of course, the guardian should be willing to undertake the job. If you name a friend instead of a family member, spell out your reasons in your will. The family might challenge your choice, and you want the court to understand your thinking.
If your children are old enough to understand the question, ask them where they’d like to live if anything happened to you—and let them in on what you decide. Don’t be afraid to raise the issue. Children are often better able to cope with thoughts of dying than adults, maybe because to them death seems so remote. The older the child, the more important that he or she be part of the decision. Guardians raise the child, decide where he or she lives and goes to school, give medical consents, and influence the child’s values and decisions.
Besides a personal guardian for your children, you need a “property guardian,” or conservator, to manage their inheritance. That would be a trustee, if you’ve left the money in trust, or a custodian, if it’s left to the kids directly.
Consider whether you want the same person to exercise both the personal and financial functions. If your loving brother offers the perfect home but is an airhead about money, pick someone else to look after the child’s property. You don’t need a financial genius, just a conscientious person with common sense who is financially well organized and knows how to get good investment advice. He or she also has to get along with the child’s personal guardian. The guardian will need a regular allowance to help support the child, plus expenses for special items such as summer camp. You don’t want quarrels. It’s important that the child not be a financial burden on the guardian.
If you’re divorced, the personal guardianship of the children normally goes to your ex-spouse, as long as he or she wants it. A court will step in only if the parent is clearly unfit (say, a drug addict) or has legally abandoned the child. If you don’t think your ex-spouse is interested, name someone else and explain in your will why you made that choice. Your ex-spouse still gets first crack. But your candidate should come in ahead of all other contenders. You don’t have to name your ex-spouse the protector of the child’s money if you think he or she is financially irresponsible. But the keeper of the money should be able to get along with your ex and willingly pay out the funds the children need.
If you’re putting off naming a personal and financial guardian, consider this sad story. A few years ago, four people battled for the guardianship of a toddler whose parents were killed in a boat explosion. The contenders: an uncle, an aunt, a cousin, and a friend. What made the child so popular? A potential multimillion-dollar wrongful death settlement from the boat company. Too bad the parents hadn’t picked the guardians themselves.
1. Use the Uniform Transfers to Minors Act (UTMA). UTMA accounts accept gifts left to the child in your will as well as gifts during your lifetime. The funds are left to an adult, who acts as custodian for the child. The law determines how the money can be spent and invested. The funds go to the child when he or she reaches 18 or 21 (higher, in some states). UTMA works well when the legacies are small.
2. Use the Uniform Gifts to Minors Act (UGMA), if your state doesn’t offer UTMA. Under UGMA, you may have to make the gift during your lifetime rather than by will. The custodian manages the funds until the child reaches 18 or 21.
3. Leave the money in a trust that your will establishes (a testamentary trust). This is the best solution for sums over $100,000 or so. It’s also best for property that starts small but will grow substantially over the years. Your trustee—a relative, friend, or bank—manages the inheritance and pays it to the child according to your instructions. He or she can dole out income and principal as needed for the child’s education and living expenses. The remainder is turned over to the child at the age you set. You can provide that the child gets the money all at once or in installments—say, at ages 25, 30, 35, and 40. You might make the child cotrustee at, say, age 23. That allows him or her to share in investment decisions without yet having to handle the money alone.
A trustee can be told to withhold payments if it seems to be in the child’s best interest. I think of this as the “crisis clause.” Do you want the child to have the money if he or she has just joined a religious cult and will give it every penny? If he’s mired in a nasty divorce? If she’s abusing drugs or alcohol? Maybe the child has a gambling habit or has proven to be a spendthrift. The crisis clause protects children from themselves.
Most parents set up a single trust for all the children. If one child has big medical bills or hasn’t been to college, those expenses can be paid out of common funds—just as they would have been if you had lived. Typically, the trust document will provide for all the money to stay in trust until the youngest child reaches, say, age 25. Then the trust dissolves, and everyone gets his or her appointed share. (At your death, however, a nominal payment might be made to the older children. If some children are quite a bit older, they might get a larger disbursement).
4. Name a legal conservator for the children’s funds. This is the option for people who don’t use UTMAs, UGMAs, or testamentary trusts. It the least flexible. State law determines what can be spent on the children and what investments can be made. The conservator makes an annual accounting to the court. When the child comes of age—at 18 or 21, depending on your state—he or she gets the money.
Since families may mistrust these relationships—especially gay and lesbian ones—the loving couple can’t be too careful. After the death of one, his or her parents might make a strong effort to carry everything away. If you want your mate to get your money, you need a will. And spell out specifically why you chose your partner to inherit rather than your family: “Mickey, who has lived with me faithfully for seven years …”
Federal tax laws don’t recognize registered domestic partnerships, civil unions, or same-sex marriages. Neither do the laws governing Social Security or the inheritance of retirement plans. You’re in the same boat as any other pair of lovers.
But you generally do get equal treatment under the laws of the states that permit your union. Most of them let you inherit from a registered partner who died without a will. If your partner did leave a will but you weren’t mentioned in it, you may be able to inherit one-third or one-half of the probate estate, just like any other spouse. At this writing, states with domestic partnership, civil union, or similar laws include California, Colorado, the District of Columbia, Hawaii, Maryland, Nevada, New Jersey, Oregon, and Washington. Same-sex marriage is legal in Connecticut, Iowa, Maine, Massachusetts, New Hampshire, and Vermont (although the Maine law faces a voter challenge).
Redo your estate plan if you move to another state. Your new state generally won’t recognize same-sex unions contracted elsewhere. If you registered as a domestic partner in Oregon, you’ll have to do it again in New Jersey. At this writing, only New York and the District of Columbia recognize same-sex marriages performed in other states. Rhode Island recognizes Massachusetts marriages.
Divorce gets even more complicated. If a same-sex couple marries in Massachusetts, then moves to Florida and splits up, their relationship is in limbo. You can’t get divorced in Florida because it doesn’t recognize your marriage. And you can’t get divorced in Massachusetts because you don’t live there. Eventually, states will recognize each other’s laws, but for now, you need a lawyer who specializes in same-sex estate planning and has some creative ideas.
Your nieces Kathy and Martha love your antique grandfather clock, so you leave it to both of them. Your 1957 red Thunderbird with tailfins goes to your two grandsons. Three of your children inherit the beach house.
Is this generosity? Will it bring the new owners together in an orgy of sharing? Not likely. You may have created a monster that will eat your family up. Your nieces, once in perfect sympathy, may well fall out over whose turn it is to have the clock.
Few people can reach perfect accord over what to do with mutually owned property. Their personal and financial situations are different. So are their attitudes. If Martha moves to a distant state and takes the clock with her, how will Kathy get her share back? If your older grandson is a demon driver and wrecks the car, can the younger one force him to put it back into prime condition? What if the beach house needs a new roof but one of the owners can’t afford to pay? What if one owner wants to sell?
Anything that can’t be divided cleanly should either be left to one person or sold and the proceeds split.
Execute only one copy of your will. If you sign more, the court will hold up probate until they’re all found. For extras, make photocopies.
Have your will checked when you move to a new state. A properly signed and witnessed will is usually valid everywhere. But ownership rights differ from state to state, which might make a difference to how your property is held.
Two ways to cancel a will: (1) The only sure way is to make a new one, specifically revoking all wills and codicils (legal additions to wills) that have come before. (2) You can tear up your old will or mark it “revoked and canceled,” with the date and your signature. But do so in the presence of several witnesses (young witnesses, who aren’t likely to die before you do) and say specifically that this will is no longer valid. Otherwise an heir might argue successfully that your executed will is merely missing. A photocopy in the lawyer’s keeping might then be accepted as a valid will, even though you meant to revoke it.
You should keep old wills, even if they have been canceled. If questions arise about the new one, the old will gives your heirs some guidance about your original intent. Even more important, if the new will is ruled invalid, the prior will comes back into effect. In general, it’s better to have a prior will rule the disposition of your property than to become subject to your state’s intestacy laws. So mark your old will “superseded” and keep it in your file.
The only way to make a small change in a will is to execute a formal codicil, amending it. Don’t ink out an old provision or insert a new one. In a few states and with some provisions, that might work; in most, it doesn’t. Any change should be signed, dated, and witnessed according to your state’s procedures. Otherwise the court will ignore the change or revoke the entire provision. Extensive changes might invalidate the entire will.
Say you leave your spouse money, get divorced, and die before you change your will. Does the ex-spouse collect? Generally, no. The rest of the will is usually valid, but your ex-spouse will be cut out. However, exceptions exist, so change your will as soon as the divorce negotiations get under way. If you don’t change your will and die when you’re legally separated but not divorced, your spouse will collect. Even if you do change your will, your spouse will collect his or her legal share (page 114) if you haven’t yet divorced.
If you’re getting divorced, immediately drop your spouse as beneficiary on your life insurance policy, employee benefits plan, IRAs, Keogh, 401(k), and revocable trust. If you don’t and die, most states allow your ex-spouse to collect even if you have married again.
If you’re in a registered domestic partnership or civil union, your partner may have the same rights to your property as a spouse. For example, registered partners may have “spousal” rights if you die without a will.
Say you leave half of your property to “my dear children, Justin and Matthew” without adding “any future children.” Then Heather is born, but you die before changing your will. Has she been disinherited? No, but how much she gets will depend on your state. She might get exactly what the other children do. Or she might be given what she’d have received if you had died without a will—which could be more or less than the other children inherit. The same is true for an adopted child. Unless specifically mentioned, a stepchild is out.
Say you get married but your will still leaves everything to your pals. Is your spouse disinherited? No. State law dictates that he or she get at least something from your estate. But it may not be as much as you want. Moral: execute a new will while the “I dos” are still on your lips.
Say you get married and regret it. Your will leaves nothing to your spouse. Tough luck. Your spouse will still collect something. His or her minimal inheritance depends on state law. For a short marriage, it might be $50,000; for a long one, half of all of the marital assets. Or one-third to one-half of the late spouse’s assets, regardless of the length of the marriage. Or the deceased spouse’s own share of the community property. The spouse is taken care of first. The bequests to the rest of the heirs are reduced proportionately.
A spouse won’t inherit, however, if you both sign a valid prenuptial contract to that effect, disclosing all assets in advance. You can write a postnuptial contract, too (page 149).
When leaving money to charity, check that you have the legal name and address. Many charities have similar names and might mount a fight over the bequest. Name an alternative charity in case the first one is out of business or no longer qualifies as a tax-deductible recipient.
If your estate will owe taxes, consider directing that the people who will receive small cash gifts and items of personal property inherit them free of tax. All the taxes will then be paid from the balance of the estate.
If you own homes in more than one state, establish one of them as your legal residence by voting there, paying taxes there, listing that address on your credit cards, getting a driver’s license in that state, and so on. Otherwise both states might try to tax your estate. Real estate, such as a vacation home, is taxed in the state where it’s located.
You can disinherit a child in every state except Louisiana. Your will should state specifically that you are leaving that child no money or property, or leaving a nominal sum such as one dollar.
Small bequests are usually stated in dollar amounts, such as “$1,000 for my friend Susan, if she survives me.” But it’s generally better to state major bequests in percentage terms rather than in dollar amounts. Consider what might happen if you leave $30,000 to each of three nieces and the remainder to charity, expecting the charity to get a large share. If the stock market crashes and your estate winds up with only $90,000, your nieces will get theirs and the charity will get nothing. So instead say “40 percent for the charity and 20 percent for each of my three nieces.” Alternatively, provide that cash gifts be reduced proportionately if they exceed a certain percentage of the estate.
Your will can forgive debts. In a community property state, however, you may be able to forgive only half of the debt. Your spouse would have to forgive the other half.
Some reasons to change your will: (1) a big rise or fall in your net worth; (2) a new child, by birth, adoption, or marriage; (3) marriage, separation, or divorce; (4) a child’s marriage, separation, or divorce; (5) a child’s college graduation; (6) the death or disability of an heir; (7) an illness in the family that may go on for life; (8) changing financial circumstances in your family or a child’s family; (9) a change in the state of a family business; (10) a change in the property or inheritance laws.
Are you holding investment real estate? If your heirs aren’t capable of managing real estate, leave a letter for the executor giving all the details about the investment, what it should be worth, and who is most qualified to sell it.
If estate taxes will be due and your estate is made up mostly of illiquid real estate, leave enough life insurance to cover the bill. When considering how large a policy to buy, remember that the policy itself may increase the value of the estate (although there are ways of getting it out of your estate—see page 121).
Does your net worth depend on a closely held business? Get buyout agreements with your partners, enough life insurance to cover estate taxes, and agreements to protect your family’s interests. Otherwise the business might prosper while your heirs get nary a penny.
All of your property doesn’t have to be distributed right away. You can set up trusts in your will and instruct the trustee to hold the property until your children are older, distribute just the trust income, or distribute property to some beneficiaries and not to others. Whatever you want.
Five grounds for challenging a will: (1) a procedural flaw such as an unwitnessed change in the text; (2) age (the will was made when the person was still a minor); (3) undue influence or duress (the will was signed under pressure); (4) fraud (the person thought he or she was signing a letter or contract rather than a will); (5) mental incapacity (the person was too senile to have made or changed his or her will). But you have to raise your objection quickly. If you miss the deadline set by your state, you won’t be allowed to make your case.
It lingers on. Fathers may leave less to their daughters than to their sons. Daughters may be shut out of the family business. Wives may not be consulted. Money for a wife or daughter may be left in trust, forcing them to live on a trustee’s dole for the rest of their lives. The wife might even have agreed to the trust because she took no interest in investing while her husband was alive. But when a wife becomes a widow, things change. She often discovers the lovely little secret that conservative money management isn’t hard. She may come to resent her dependency on a trustee or bank trust department.
In the case of a longtime marriage, especially a first marriage, all questions about what happens to the money when the husband dies should be resolved on the side of the widow’s freedom to act. The husband should add a trust to his will only to minimize estate taxes, not to “protect” his wife from making her own decisions about her money. If she decides that she’d rather not, she can give it to a bank trust department herself. But the issues may be different with second marriages, especially second marriages later in life. Each spouse may want to leave money in trust for the children of a former marriage.
Sexism affects males too. The will might leave all the jewelry to daughters. But a son might like some too, to give to his spouse or to his own daughter, eventually. The same might be true of china and other household goods.
As soon as you separate, consider changing your will, living trust, health care proxy and power of attorney. At this point, you probably don’t want your spouse or registered domestic partner (or any of their relatives) involved in your affairs. Your new will should limit the amount that your spouse or partner can inherit to the minimal share required by the state. After the divorce, your ex can be removed from the will entirely. Also change the beneficiaries of your life insurance and Individual Retirement Account. The eventual divorce agreement may require that you continue a certain amount of insurance or divide your IRA, but you can make changes at that time. You cannot change your 401(k) until you’re actually divorced. Until then your spouse will inherit unless he or she formally waived those rights.
If you don’t take your ex-spouse (or ex–registered domestic partner) off these accounts and die, what happens? That depends on state law. In general, here are the rules.
Your will. Most states automatically remove an ex-spouse from an old will. If you still want your ex to inherit, write a new will saying so. Ex-partners are removed too, as long as you’ve been through your state’s legal “divorce” process.
In a few states, however, your ex can inherit from an old will that you failed to change. A new spouse could collect up to one-third or one-half of the money that passes under your will, but your ex would get the rest.
Your life insurance. Most states automatically remove an ex-spouse or official ex-partner from an old life insurance policy. But again, some don’t.
Your 401(k). It will go to your ex unless you change the beneficiary form or remarry. If you’ve remarried, it automatically goes to the new spouse. If you want someone else to inherit, the new spouse will have to waive his or her inheritance rights. (Domestic partners and married same-sex couples don’t have the same rights as heterosexual couples. That’s because 401(k)s are ruled by federal law, which doesn’t recognize these relationships.)
Your living trust. A few states automatically take your ex-spouse or partner off your trust. But a majority let him or her inherit, if you haven’t changed its terms. A new spouse or official domestic partner may be entitled to one-third or one-half of the trust assets, depending on the state.
Your Individual Retirement Account. It usually goes to the named beneficiary. If that’s your ex-spouse, there’s usually no way around it, even if your spouse waived all rights to your property as part of the separation agreement.
Your power of attorney and health care proxy. Hospitals, doctors, and financial institutions probably won’t accept the decisions of an ex if the rest of the family objects. But better to be safe than sorry.
Your trustees. An ex may or may not be automatically removed, depending on state law. But it may be harder for your heirs to remove a member of your ex’s family if you didn’t do so yourself and he tries to hang on to his position.
Moral: Change your beneficiaries, proxies, and trustees! You’ll leave a superunhappy family if you don’t.
A testamentary trust is set up by your will. Instead of leaving money directly to the beneficiary, you leave it in trust, to be managed by a trustee. Funds can be paid out for various purposes. At some point, the trust dissolves and the money is distributed. This differs from a living trust (page 130), which holds property during your lifetime. A testamentary trust doesn’t come into existence until you die. Some of the uses of a testamentary trust:
The Trust Can Hold Money Until a Child Grows Up (page 110). You might want to maintain the trust into adulthood, to protect it from a spendthrift child, keep the inheritance in the family, ensure that the money is professionally managed, or for other reasons. But don’t be a dead hand from the grave, holding on to the child’s inheritance for years. By the time they’re 30 or 35, the children should be able to get the money and take their chances. You can give the trustee the right to withhold the money in unusual circumstances, such as drug addiction, mental or financial incompetence, or a pending divorce. In that case, design the trust to give the child at least some input into decisions about investments and distributions.
The Trust Can Equalize Inheritances. Say that you’ve put two children through college, and there’s one still to go. Their joint inheritance can go into a group trust. The trustee manages the money and pays the youngest child’s tuition. When that child is 23 or 24 (plenty of time to get an undergraduate degree), the trust can terminate, with the money disbursed to all three children equally.
The Trust Can Save Estate Taxes. If your net worth exceeds the federal estate tax exemption, talk to a lawyer about how to cut the tax. There may be state taxes due on even smaller sums. Trusts are just one solution. Often, you can cut taxes without using a trust (page 120).
The Trust Can Manage Money Left to a Spouse. A trustee runs the money. The spouse receives the income and, if needed, payments out of principal. When the spouse dies, the remaining money goes to whomever is named.
The spouse can serve as his or her own trustee, with a backup trustee who takes over if there’s a need. He or she might also be cotrustee with a family member, bank, lawyer, or investment adviser. In some cases, the bank or family member might be sole trustee.
The spouse should be able to change trustees if the relationship isn’t working. But don’t lock up all of a widow’s money in trust. Maybe she didn’t take much interest in investing while her husband was alive, but in widowhood she might turn into a demon money manager. I’ve seen it happen. Name her as cotrustee or leave her free to run at least part of her funds as she pleases.
The Trust Can Provide for Mentally or Physically Disabled Children. State and federal programs cover basic medical and residential care for children who need it, but only if the child has almost no money. This presents parents with a dilemma: Money left to the disabled child will be consumed by the institution. But without that money, the child will get only bare-bones support.
Middle-income parents may feel that they have little choice. They leave their modest assets to their healthy children and let the handicapped one get government aid. In this case, you should specifically disinherit the disabled child (and tell your relatives to do likewise). Your healthy children should be willing to provide any extra comforts that their institutionalized sibling needs.
Higher-income parents, however, might set up a trust, often funded by life insurance. The disabled child, who possesses little or no money, can qualify for government aid, while the trust supplies extra maintenance and support. But the wording is critical to ensure that the government can’t break the trust (words such as health, welfare, and support are usually no-nos). Some states have their own “special needs trust” laws. For advice on getting a well-drafted trust, call your local Arc of the United States (find it at www.thearc.org or 800-433-5255). Ask for the names of lawyers experienced in your state’s public assistance laws. The Web site also links you to its “Family Resource Guide” series, published for about half the states, explaining the benefits available there.
The Trust Can Ensure That the Children of a Prior Marriage Will Inherit. If you leave all your money to a second spouse, he or she can do absolutely anything with it. For example, your spouse can leave it all to charity or to his or her own children from a prior marriage, cutting your children out. A trust prevents this. You can give your second spouse an income for life while guaranteeing that your children will ultimately inherit the principal.
Whatever you do, don’t lock your heirs into an estate planner’s prison. It’s not worth saving the taxes if your trust will completely inhibit your family’s freedom to act.
The average trust does just fine with an individual trustee—a spouse, family member, friend, lawyer, accountant, or business associate. His or her powers are outlined in your will or in the trust document. Fundamentally, you want the trustee to do what you would have done had you been alive, including hiring investment services. So you really have to believe in this person’s morals and motives—and the morals and motives of a successor, if he or she should die.
Give your trustee wide latitude. You don’t know what’s going to happen 10 or 20 years hence and shouldn’t try to guess. Write a letter to all the trustees (including successor trustees), with copies to all beneficiaries, explaining what you want the trust to accomplish and what the money can be distributed for. That way everyone understands exactly what you have in mind.
Your risk is that the trustee will slip. His or her judgment may go. The trustee may steal, or disapprove of one of your children and deny that child funds, or decide not to follow the terms of the trust when distributing the property, or grow senile, or become disabled. Trustees don’t have to account to a court for their actions, as is required of the executor of a will. It’s difficult to curb a willful trustee or one who plays favorites in the family. Your will or trust document should provide for a substitute if the family demands it or when the trustee passes a certain age.
If your spouse is trustee, he or she will need a cotrustee. Your spouse can take up to $5,000 or 5 percent of the estate each year (whichever is larger), but that’s normally the limit. Only a cotrustee can make larger distributions. State laws vary on a spouse’s powers, but your lawyer will know the rules. Assuming that you trust your spouse, he or she should be given the power to change the cotrustee.
The alternative to having a friend or relative as trustee is naming a bank or trust company. There you get a professional money manager and experienced estate administrator who won’t move away and won’t steal. If your family hates its trust officer, it can ask the bank for another one. But this choice has some drawbacks too. The bank charges money. It takes only larger trusts for personal management (generally $250,000 to $500,000 and up). It is often too busy to take an interest in the family, although this can be solved by naming your spouse or another relative cotrustee.
Always put an escape clause in the document so that your heirs (or their guardian, if they’re minors) have the option of moving the trust to another bank or trust company. The new trustee shouldn’t be related or beholden to any person with the power of removing him or her.
Require your trustee to make an annual, audited accounting to your family and other heirs. That allays suspicions, helps trustees avoid temptation, and can catch something fishy that might be going on.
The value of your property at death is called your estate. The federal government collects a tax on large estates but not on midsize or small ones.
At this writing (summer 2009), the amount of the estate tax is up in the air. A law signed by President George W. Bush abolished the tax for 2010, then reinstated it for 2011 and later, at a much higher cost to families of midsize wealth. Almost certainly that nonsense will not prevail, but I had to ship off this manuscript before I found out what happened.
One rule hasn’t changed: you can leave any amount of money to your spouse, estate-tax free. My best guess for your other heirs: they’ll inherit under something similar to the 2009 rules. That gives them up to $3.5 million free of federal tax. (Some states tax smaller amounts.)
If your net worth isn’t likely to exceed $3.5 million (or whatever exemption is set for 2010 and beyond), a simple “I love you” will is all you need. But if you’re over that limit, stay close to your lawyer for the next couple of years to be sure that your will or trust is always up to date. With good legal advice, you can cut the tax bill without mishap. Among the attorneys’ bag of tricks:
1. Make gifts while you’re alive. Up to $13,000 a year can go to each of as many people as you like, tax free. (That sum includes small gifts such as $50 at Christmas.) If your spouse joins in the gift, you can give up to $26,000, even if it’s all your money.
You can also give as much as $60,000 to a 529 college savings plan ($120,000 if you and your spouse both give—see page 667 for details).
Larger gifts will eat into your federal estate tax exemption; they may even trigger gift taxes during your lifetime if you give away more than $1 million. But in most cases, no payment is due until after you die. The rule is: a gift is taxable only if its value, when added to the value of your estate at death, turns out to exceed the current estate tax exemption. Even if the gift will lead to taxes, the cost may be worth it. If you give, say, $30,000 in cash to a son who’ll buy stocks, the gains will accumulate in his name instead of yours—saving you income taxes and maybe estate taxes too.
2. Give away your life insurance policy. Give it to your spouse, your child, or an irrevocable trust. That takes the proceeds out of your estate unless you die within three years of making the gift; then the proceeds, and taxes, come back. You can even continue paying the premiums, although if you do, they could become a taxable gift to the new owner. (To minimize the gift, use what’s called a Crummey power. I’ll leave it to your lawyer to explain that one.) As an alternative, the new owner can pay the premiums.
The new owner can change the beneficiary, withdraw the cash value, or even cancel the policy. If you give the policy to your spouse and then divorce, tough luck.
If your spouse owns the policy, his or her will should leave it to the children or another beneficiary. Otherwise, if your spouse dies first, the policy might come right back into your estate. If your spouse leaves the policy to your children in trust and you’re the trustee, it could also be taxed in your estate. (You see why I told you to consult a lawyer.)
If your spouse owns the policy, he or she should be named beneficiary. If you make the children the beneficiaries and you die, the IRS may say that your spouse made the children a taxable gift of the insurance proceeds.
To give away an individual policy, ask the insurance company for an assignment form. You can also give away a group policy that you hold through your employer. Term policies, in particular, make terrific gifts because there’s no cash value, so no gift tax can be imposed.
3. Marry. No estate tax is levied on property given or bequeathed to a spouse. When the spouse dies, any money exceeding the estate tax exemption can be taxed in the spouse’s estate when he or she dies—unless, of course, the spouse remarries and passes the tax deferral on.
4. Create a bypass trust. Married couples can avoid a tax when the surviving spouse dies by creating his-and-her trusts (sometimes known as credit shelter trusts or bypass trusts, because they bypass estate taxes). These trusts can each hold assets worth up to the current estate tax exemption. That money generally goes to the children, although the spouse can have some or all of the income from the trust and access to the principal for life. The children can also be given some or all of the income. Here’s how this strategy usually plays out if the husband dies first and the law exempts $3.5 million from tax (reverse it if the wife dies first):
a. The husband dies.
b. Up to $3.5 million of his assets goes into a bypass trust for the children and the wife. This money passes estate tax–free because it’s protected by the husband’s federal estate tax credit.
c. The wife gets the income from the trust for life, plus the right to receive funds directly from the principal if needed. That’s a key point. She always has access to all of the money. It’s never locked away from her.
Additionally, the trust can allow her to take out $5,000 or 5 percent of the value of the trust each year (whichever is larger), without asking the trustee and without paying any tax. If she wants even more of the principal, the trustee has to agree. But that shouldn’t be a problem as long as the husband names a sympathetic trustee and makes it clear that his wife should be given whatever she wants. In some states, the husband can name the wife trustee. The trust document should broadly provide that the money be used for her happiness and general welfare.
d. After benefiting from the trust for many years, the wife dies. All the remaining money in trust is distributed to the children, tax free.
e. The wife leaves the children another $3.5 million, sheltered by her own estate tax credit.
f. A total of $7 million (or more, if the value of the first trust has grown) has been left to the kids free of federal estate taxes. That’s at least twice the amount that the kids could otherwise get untaxed.
For this to work, each spouse has to have enough assets to fund a trust—held in his or her separate name, in both names as community property, or as tenants in common without rights of survivorship. If you own everything jointly, your tax-saving trust won’t work. If your house is a substantial part of your net worth, consider owning it as tenants in common (see page 86). Your half of the house (or the spouse’s half) can then become part of the trust.
Take special care if you’re putting Individual Retirement Accounts or other tax-deferred retirement savings into a bypass trust. Such a trust must be drafted in a particular way. If it’s not, your spouse loses the right to stretch out the payments from the retirement fund over his or her lifetime. Instead the money would have to be received—and taxed—all at once.
What if you’re worth just a little over $3.5 million and don’t want to decide in advance whether to put money into a trust? Your spouse can assess the situation after your death and, if it seems smart, disclaim (refuse) any part of the inheritance. Your will can provide that any disclaimed money would go into a trust. A beneficiary has a limited period of time within which to disclaim: nine months from the date of death for federal tax purposes; longer, in some states, if you want to disclaim for reasons other than saving tax.
What if you’re in a second marriage and your spouse is about the same age as your children? Give them some money when you die. Otherwise they may never see it.
Warning: Older wills often tell executors to put the maximum amount of money allowed by law into the trust. But the new maximum is so high that it might take most or all of your assets. That would leave your surviving spouse completely dependent on trust income for his or her support. Also, that old language might trigger an unnecessary state tax. Instead, name a dollar figure for the trust or use flexible language allowing the executor to decide the amount.
Further warning: Some states levy taxes on estates worth less than $3.5 million. Bypass trusts can still work, but the drafting becomes more complicated.
5. Disclaim. Let’s say that your uncle Bill died and left you some money. But you’re well off, and your son in college is next in line to inherit. You can say no to the bequest, letting it go directly to your son. That saves your estate from paying taxes on that money when you die. A spouse might want to disclaim a payout from a late spouse’s 401(k) plan and let the money go directly to the children if they’re the alternate beneficiaries.
6. Give money to charity. Money given—or left—to charity reduces your estate, hence your estate tax. See page 141 for information about charitable trusts.
7. Start a family limited partnership. This arrangement lets parents and children, as well as other relatives, own assets together. Over time you gradually raise the children’s stake in the assets. The earlier they possess them, the more of the assets’ capital appreciation will be moved out of the parents’ estates. That will lower their tax. Typically, the parents are the general partners, which gives them the right to make decisions about the assets. The children are limited partners with no voice in management. They sign buy-sell agreements so that the other partners can buy them out if they want to quit. (Those shares are the children’s, by the way. The parents can’t take the assets back.) Family limited partnerships are usually used to hold business interests and real estate. A couple needn’t go to this trouble, however, if their joint estate will probably be worth less than the federal estate tax exemption. Also note: Future changes in tax laws might make these arrangements less attractive.
It isn’t graven in stone that you have to avoid estate taxes for the sake of your heirs. You come first. Don’t give away so much property or put so much in trust that you or your spouse will become dependent on others, even if they’re your own children. They’re lucky to be getting anything from you at all and have no right to grumble if extra estate taxes are due.
Whatever you decide, don’t undertake your own tax planning. To explain all these concepts, I have made a meadow out of what is actually a briar patch. Only an experienced estate-planning attorney can walk you through unscratched.
Probate can go quickly when your lawyer hustles, the courts are efficient, there aren’t a lot of distant heirs to notify, and no one challenges the will. A will might be admitted to probate anywhere within a couple of days to a couple of months after the death and declared valid almost immediately. A surviving spouse can generally start taking reasonable sums from the estate right away in order to meet living expenses. Life insurance is paid out pronto. So is jointly owned property, in most cases. If months pass and nothing happens, it probably means that your lawyer or executors aren’t paying attention, not that the property is somehow “stuck in probate.”
Some executors start distributing the property without delay. Others distribute part of it but hold on to the rest of the assets for four to twelve months, which is the time generally allowed for creditors to file claims against the estate. Stocks, cars, and bank accounts can be distributed as quickly as you can get a new name on the title. Other property—real estate, for example—takes longer to transfer because of the paperwork or the need to sell at a reasonable price. Valuable personal property often can’t be divided until it’s appraised, unless all the beneficiaries agree on who gets what.
Executors usually hold back a little money until the final tax return is accepted (if there’s a deficiency, the executor is personally responsible). The average estate might be fully distributed in six months to a year and a half. Large estates can take several years—not because probate delays things but because the property is complex. It would take just as long to distribute it from a living trust with no probate involved. In some states, trustees as well as executors are liable for unpaid bills and taxes, so they’re careful to get these obligations paid before distributing all the money to heirs.
Everyone needs a backup, a person to act for you if you’re away, if you’re sick, if you get hit by a car and can’t function for a while, or if you grow senile. That means giving someone—a spouse, mate, parent, adult child, or trusted friend—your power of attorney. A lawyer can get this document together in a jiffy. It’s probably in his or her word processor and just needs printing out. Young people need a power of attorney as well as the old. Your agent is known as your attorney-in-fact.
Limited powers of attorney grant narrow rights, such as “Christopher can write checks on my bank account to pay my bills while I’m out of the country for six months.” Ordinary powers of attorney give broader powers over your finances. But both limited and ordinary powers expire if you become mentally disabled, which is exactly when you’ll need the help the most.
So protect yourself against doomsday by asking a lawyer to draw up a durable power of attorney. It lets someone act for you if you’re judged senile or mentally disabled, if you fall into a coma, or if illness or accident damages your brain. As long as you are mentally capable, you can revoke a durable power whenever you like.
The person who holds your power of attorney could, theoretically, exercise it at any time, even if you’re healthy. He or she could sell your investments and clean out your bank account. But that’s not as easy as it sounds. Banks and brokers normally check on what has happened to you before accepting a power of attorney. Besides, you wouldn’t give the power to someone you didn’t trust.
Be sure to execute copies of the durable power—maybe even three or more. Most institutions want to see an original, although they’ll make photocopies for their files. (But don’t sign too many; they may be hard to retrieve if you want to revoke them or change a name.)
In some states, you have to execute new durable powers every four or five years to show that your intention holds. Insurance companies and financial institutions probably won’t honor an old power. A few won’t honor any power more than six months old or any power not written on their own forms, unless a lawyer leans on them. In my view, that’s harassment, but they sometimes do it, and you might be stuck. Always ask your bank, broker, or insurance company what its policy is, so you’ll know for sure that the power you’ve signed is going to work. If they dig in their heels when you’re too senile to make decisions, your attorney-in-fact will have to apply to the court for a guardianship. No institution can refuse to obey a court-appointed guardian, but it’s outrageous that any should push the issue this far. Fortunately, few do. Some states have laws requiring financial institutions to accept valid powers of attorney.
If you’d rather not trust anyone until you absolutely have to, write a springing power of attorney. It doesn’t take effect unless you become mentally incapacitated and the document defines exactly what that means. For example: “I shall be deemed to be disabled when two physicians licensed to practice medicine in my state sign a paper stating that I am disabled and unable to handle my financial affairs.” The same language can be used to determine when your disability has passed. Springing powers are cumbersome, however, and an extra complication for financial institutions.
How do you cancel a durable power of attorney? Tell the person holding it that he or she is out; get all signed copies of the power back; destroy the copies, preferably in front of witnesses; where there are duplicates, write to the institutions holding your money telling them not to accept that person as your agent.
How do you maintain your family’s trust in your agent? Require that he or she make an annual accounting of what’s being done with your money. That relieves suspicion and protects the agent too.
Anyone who has seen a dying or permanently comatose person hooked up fruitlessly—sometimes painfully—to life support machines understands the issue of the right to die. As long as you’re conscious, you can make your own medical decisions, including the decision to refuse treatment. The problems arise when you’re unable to speak for yourself. Many of the patients attached to respirators and food-and-water tubes without hope of recovery have been forced to it by state law or custom. If they could speak, they’d say stop, but no one is authorized to pull the plug. Life “support,” in these cases, is merely delaying death rather than truly sustaining life. In several states, there’s a movement to require artificial feeding unless the patient—specifically and in writing— said no.
Your best hope of avoiding this fate yourself is to sign an advance directive. It includes a living will dictating the kind of treatment you want if you’re terminally ill and cannot speak for yourself. You also need a health care agent or proxy or durable health care power of attorney. They name an agent to do two things: (1) See that your end-of-life decisions are carried out. (2) Make medical choices for you when you’re not dying but are in no condition to make them yourself. Lawyers advise that you name two stand-ins to act for you in case one isn’t around at the critical moment. To avoid inaction or delay, either one should be able to act alone.
All the states recommend specific living-will language. For free forms, go to Caring Connections (www.caringinfo.org) or Legaldocs (www.legaldocs.com), Be sure to specify your exact wishes, especially as to withholding or withdrawing treatment, tubes for delivering food and water, and a respirator. If you spend time in more than one state, write an advance directive for each. They may have different rules. In some right-to-life states, it can be hard for your proxy to withdraw food and water unless your directive conforms exactly to the wording in state law.
Even with a living will, your wishes might not be carried out without court enforcement. A son might say, “I don’t care what my father thought he wanted; go ahead and treat him,” and the doctor probably would. Your best hope of avoiding this is to talk with everyone in a position to influence your treatment: spouse, children, siblings, doctors, and the person or people named in your health care proxy. Discuss exactly what you’d expect, under varying medical circumstances. Let them ask you hypothetical questions about your end-of-life care. For a good guide to these discussions, read the “Consumer’s Tool Kit for Health Care Advance Planning” on the Web site of the American Bar Association (www.abanet.org/aging).
What happens if you suffer a situation—permanent coma, brain-crushing accident, terminal illness that takes your reason first—and have no living will? In 39 states and Washington, D.C., written legislation permits family members or a legal guardian to “stand in the patient’s shoes” to make the life-or-death decision that the patient would probably make were he or she able to do so. Case-by-case court decisions or sympathetic doctors may lead to the same result in other states, although you can’t count on it. The issue might have to go to a hospital ethics committee, which could put families through a difficult question-and-answer session. The problem is that family members might not agree, as in the famous Terri Schiavo case, in which her husband fought with her parents over removing life support. In New York, no surrogate decisions are supposed to be accepted unless there’s “clear and convincing” evidence that the patient—while still functioning—expressed a wish not to be kept alive artificially. That’s a high standard that theoretically can’t be met unless you leave a written document, although some doctors quietly fudge the rule. California, Michigan, and Wisconsin apply a “clear and convincing” standard in cases where helpless patients do not have a terminal illness and are not in a permanent vegetative state.
An advance directive is the clearest expression of your intent. The lawyer who drafts your regular will or living trust will include it as part of the package.
You may feel that you want to be kept alive regardless of the terminal state of your disease, any pain that additional treatment might cause, or the risk of living in a comatose state for many years. The National Right to Life Committee (www.nrlc.org) has free state-by-state “Will to Live” forms, telling your doctor to resuscitate you if your heart stops, provide all life-preserving treatments, and prescribe and maintain artificial feeding and hydration. Many doctors would be reluctant to provide all treatments to someone who’s comatose or unconscious and terminally ill, so, again, you’d need someone to insist. Will to Live forms also leave a space for you to say that treatment can be ended if your death is imminent.
Sign a letter giving your health care agent the right to talk to your medical providers about treatments and billings. Otherwise your agent may be denied critical information, due to the workings of the federal privacy law. If you want your adult children or any others to have access to your medical records, sign separate letters for them.
We think about guardians for our children. But who will take care of us if our mental powers decline? If you haven’t prepared, your children or other relatives might have to go to court to have you declared incompetent. An adult with money could even be the target of a custody suit, as various relatives vie to get you and your checkbook under their control.
To keep this from happening, draw up a Nomination of Guardian or Nomination of Conservator form, permitted in many states. In it, you name the person or people you want to be the guardian of your person, your property, or both, if you become incompetent. Specify what “incompetence” means—for example, if two doctors agree that you can no longer handle your affairs. Be sure that the guardian is willing to take the job. The document can be handwritten, but your signature has to be notarized.
Alternatively, you might choose a living trust, if it makes sense to have one for other reasons. The trustee you name can start making decisions for you under specified conditions—for example, if two doctors say that you’re unable to handle your affairs—without a court proceeding.
A huge industry exists in America peddling the false idea that everyone needs a living trust. Trusts are flogged via seminars and cold-call telemarketing by lawyers, insurance agents, and financial planners, all of whom will make a few bucks (in fact, more than a few) if you set one up. Deceptive selling is widespread. Many people believe, for example, that only living trusts will lower your estate taxes, when, in fact, you get exactly the same savings from wills. Many more people believe that probate means disaster, which isn’t true either. So before I talk about trusts, let me talk about probate.
“Avoiding probate” is one of the big reasons that people give for investing in living trusts. They hear tales that probate leaves you poor. Your property gets stuck in the courts. Lawyers bleed the estate. In the old days, this was sometimes true, but it’s not anymore. Bad probate is the exception, not the rule.
Probate means “prove.” It’s the system that ensures that your will is valid and that your property passes to the person who is supposed to get it. Nowadays, most of the states offer simplified probate,* especially for small estates or estates in which everything goes to the spouse. There may also be speedy procedures for estates that aren’t contested—meaning most of them. Odds and ends of personal property, including a car, rarely have to go through probate. They’re divided as your will directs or by private agreement among your heirs. Families can even handle the paperwork themselves; just go to the probate court and let the clerk tell you what to do. Or a lawyer can handle it for you. With simplified procedures—meaning little or no court oversight—the lawyer shouldn’t charge too much (show the lawyer this sentence!). In fact, it shouldn’t be any more than he or she would charge to help you handle a living trust when the owner dies.
Many of the stories you hear about being “tied up in probate” involve disputed property, delays by banks and brokers in getting the title changed, or disputes with insurance companies over old policies—none of which has anything to do with the courts. It may also have taken a lot of time to find all the property if the deceased didn’t keep good records. You’d face exactly the same problems and delays if the assets were in living trusts (especially because people may forget to transfer all their assets to the trust). Sometimes the probate courts are indeed the baddies, but usually they’re not. The trustee of a living trust can sometimes be a baddie too. So can some of the lawyers who promote living trusts. I’ve heard them tell older people, “If your estate winds up in probate, your lawyer can’t go to the bathroom without court approval.” Not true. Simply not true.
This is not to say that you shouldn’t consider a living trust. They have their uses. It’s just that avoiding probate for reasons of cost and complexity usually isn’t one of them.
The trust transfers property ownership from you as an individual to you as trustee. You no longer own it; it’s owned by the trustee, who happens to be you. (It’s like a fun house mirror where you see yourself in every glass.) Some states require at least one other trustee. You and your spouse or partner can be cotrustees, or you can name an outside trustee.
As trustee, you run the money just as if you still owned it in the old-fashioned way. You can invest it as you like, use income and principal, leave the money to whomever you want, change beneficiaries at will, even revoke the trust altogether. In short, you have the same control as you’d have if you were leaving your property by will.
You name one or more successor trustees to manage the money if you become incapable and to distribute the assets when you die. These can be changed, too. If someone other than you is trustee and he or she won’t follow orders, you can fire that person and install someone else if the trust document allows it. As long as you’re competent, you’re completely in charge. Because you can change or cancel the trust at any time, it is also called a revocable trust.
For the trust to be effective, it has to hold all of your property that would otherwise go through probate. You will no longer own your home directly; instead you’ll hold it as “Eric F. Jordan, trustee of the Jordan Family Trust dated February 5, 2009.” Ditto for your securities, business interests, cars, and most other assets. From a paperwork point of view, it’s like going through probate before you die. (Note that transferring real estate into a trust terminates your title insurance in most states; talk to your insurer about how to keep the coverage going.)
When you buy additional property, such as a new house or more mutual fund shares, they also have to be bought in the name of the trust. Checks for these purchases have to be signed “Eric F. Jordan trustee [etc.]” and be issued from the trust’s bank account. You report your trust’s taxable income on your regular Form 1040. Los Angeles attorney Charles A. Collier, Jr., suggests that you set up a bank account outside your trust for routine bills and transfer money to it as needed. An outside account lets you pay bills without involving your trust. It also saves you from having to disclose the language of your trust to banks or other sources of credit. An outside account won’t trigger probate as long as it contains a small amount of money or is held jointly with a spouse or another co-owner.
Only the property held in trust can be distributed by your successor trustee after you die. The document should include an assignment of all property to the trust.
Many people start a trust on a salesperson’s say-so but never deed their property to it or set up a trust bank account. If that happens to you, you’ll have wasted your money on the legal documents. You effectively have no trust at all. Or you have some property in trust and some outside it, meaning that you have to go through both probate and trust administration!
Property not held in trust is handled under the terms of your will and usually goes through probate. To simplify matters, your successor trustee and the executor of your will should be the same person.
1. To avoid probate, if that matters to you. When property is to be distributed according to the terms of a will, the will goes first to probate court. The court certifies the will as valid and empowers the executor to distribute the property. Certification can take a few days to a couple of months. By contrast, property held in a living trust goes to the beneficiaries when you die, without pausing in the probate court. A trustee can start distributing property right away. Still, distribution can be delayed for reasons other than probate. Deeds have to change hands, assets valued, and tax forms filled in. The trustee will want to collect and pay all debts. With larger estates, the trustee may want to hold back some or all of the assets until he or she settles income tax and estate tax questions with Uncle Sam. In short, it may take the same amount of time to clear the estate, whether the property passes by trust or by will.
2. To have someone on tap to handle your money if you’re incapacitated. You might be ill. You might have grown permanently vague. The cheapest and easiest way around this problem is to give someone a durable power of attorney, to manage your property when you can’t. A financial institution will want to check the power’s authenticity before your agent can act. It might make your agent jump through hoops if the power is many years old. It also might not let your agent do risky or unusual things with your money, such as buy derivatives or invest in stocks on margin.
Trustees have more latitude. Institutions can’t refuse someone who succeeds you as trustee of your living trust (although, again, it will take the time to check). And the trustee can do whatever he or she wants with your money as long as it’s covered by the language of the trust. So pay attention to the powers you’re giving.
The trust should specify when your trustee is allowed to take over your affairs. Give yourself a lot of latitude, so that the trustee doesn’t step in too soon. You should be free to throw money at a gigolo, retreat to an ashram, or hunt for gold in Alaska if that’s what appeals to you. The law lets you waste your assets however you like as long as you know that you may be doing something dumb. Only when your mental capacity goes, as determined by independent doctors, should your trustee be empowered to take over the money.
3. To handle real properties out of state. Your will has to be probated in every state where you hold real estate unless you hold it in joint names or in trust.
4. To handle closely held business interests, rental real estate, large stock portfolios, or other complex properties. A knowledgeable trustee can keep all your business interests functioning smoothly until they’re sold or otherwise disposed of. The trustee can also manage the property if you’re disabled or on vacation for an extended period of time.
5. To test the ability of a professional money manager. If you intend to leave money managed in trust for heirs, it makes sense to give the managers a trial run. You turn over the trust to a bank trust department or investment-management firm, while you remain trustee. They will also manage your money independently of a trust. The advantage of the trust would be to have the arrangement in place in case you died or became mentally disabled.
Banks take almost any sum of money. Small amounts (and large ones too) can go into pooled accounts that work like mutual funds. Amounts exceeding $200,000 to $300,000 can usually be managed individually if that’s what you want. Make sure that you’re able to switch to a different money manager if you don’t like the personal treatment you get or the investment results.
6. To defend against relatives who might challenge your will. Trusts can be challenged too—for example, if you can be shown to have been senile when you dictated a new beneficiary. But they’re generally harder to break than wills. All the relatives don’t even have to be notified of the terms of the trust. Some states let you use living trusts to disinherit a spouse, who would normally be entitled to a substantial portion of your estate. Disinheriting a spouse is contrary to public policy, not to mention dad-gum mean, but it’s done.
7. To keep matters private. Wills are public documents, and therefore, in many states, so is the inventory of your estate. Trusts are normally private.
8. To try to avoid creditors. In some states, funds in a living trust that haven’t been pledged to secure a debt might not be available to pay your creditors after your death. But this common-law protection is crumbling. For the best protection against the creditors of a deceased spouse, use tenancy by the entirety (see page 87).
9. To simplify the process of leaving money to young children. Your will can set up a testamentary trust for your minor children, but it’s under the supervision of a court. Living trusts escape that scrutiny (although you have to trust the trustee).
10. To try to minimize family fights. If your family doesn’t get along and you plan to leave less (or nothing) to relatives who won’t take it lightly, a trust might make it easier to get your wishes done. Disgruntled relatives can challenge a trust just as they can challenge a will, but it costs them more to do so. Also, trustees generally have more discretion than executors, and trusts are harder to break.
They’re not unique vehicles for cutting your income taxes or estate taxes. Many people erroneously believe they are, because a living-trust salesperson told them so. But as long as you control the property, it will be income-taxed to you and treated as part of your taxable estate. Your living trust can contain other trusts that reduce or eliminate estate taxes. But those tax-avoiding trusts can also be put into a will. In short, living trusts have no significant tax advantages. If you buy one for tax reasons, you’ve been steered wrong.
No, in jurisdictions with reformed and speedy probate procedures, such as those under the Uniform Probate Code (see page 129). Typically, trusts cost more than wills up front because of all the legal work. Probate may cost more after death, for the same reason. The total bill may not be much different in either case. If you choose a trust, you’ll still need a will to handle any property that accidentally—now or in the future—gets left out of the trust. You’ll also need a will to name a guardian for your young children. That’s something a trust can’t do.
Yes, in jurisdictions where the probate courts deserve to be shot. There, legal fees are high. Happily, most of these states have made reforms. A lawyer who’s a friend can tell you about the local courts. Or call or visit the court clerk and ask: (1) Are there simplified probate procedures? (2) What are they? (3) To what kinds of estates do they apply? You may also find this information on your state’s Web site. Even a state plagued with delays may have some streamlined jurisdictions.
In states that set maximums on how much a probate lawyer can charge, some lawyers try to treat the maximum as a fixed price. But many of their competitors charge less and advertise that they do. You can often negotiate a lower fee.
Each state has its own rules and taxes affecting trusts, so see a lawyer if you move. Your trust document should specifically allow for a change of state so the laws that govern the trust can change too. Otherwise the laws (and taxes) of your former state apply unless you get a court order allowing a change.
There’s a lot of legwork involved in transferring property into a trust. Your lawyer will prepare the new deed for your real property, as well as transfer letters for assets held by your bank, broker, and other financial connections. But you’ll have to follow up or else pay your lawyer to do it. Be sure to check with your title insurance company before transferring real estate into the trust. If you don’t, the insurance may lapse.
Don’t make the trust the beneficiary of your 401(k) or Individual Retirement Account. If you died, that whole sum of money might go into the trust and be taxed right away. By contrast, a spouse or other individual beneficiary can roll the 401(k) into an inherited IRA and take payments over many years (page 181). That spreads the taxes out. Some 401(k)s include a special provision allowing a direct transfer to an inherited IRA for the benefit of a trust. But the plan could change its rules at any time, so relying on this angle is generally not a good strategy.
You can name the living trust as the beneficiary of your life insurance policy. The proceeds would then go into the trust to be distributed as you directed. Before doing this, however, married people should ensure that a surviving spouse will have plenty of ready cash in case there’s a delay in getting the trust paid out.
Your trustee can take over your financial affairs if you become disabled, so the trust should specify what “disabled” means. For example: “I shall be deemed to be disabled when two physicians licensed to practice medicine in my state sign a paper stating that I am disabled and unable to handle my financial affairs.” The same language can be used to determine when your disability has passed and you can handle your money again.
To change the terms of a living trust, you prepare a written amendment. Don’t scratch in the changes on the trust document; they won’t be accepted. In some states, the amendment has to be signed and, maybe, witnessed just like a will. But in most states, a notarized signature will do.
A married couple should ask an experienced estate-planning lawyer (not a lawyer or insurance agent who’s hard-selling trusts) whether they need one trust or two.
In community property states, it’s common to have a single trust document for all the property. Each spouse’s separate property interests are segregated within the trust. At the death of the first spouse, the trust divides into multiple trusts.
In other states, dual trusts are more common, so that each of you has more freedom to act. With a single trust, you both may have to agree on changing the beneficiaries or other terms of the trust unless the document specifically permits only one of you to do so. Ditto with investment decisions. Ditto the decision to withdraw your property from the trust or revoke it if you split. In some cases, joint trusts create strange tax consequences that you need an expert to expound. It’s best that each of you has his or her own trust.
To revoke a living trust, you have to retitle all the trust property in some other name. It’s legwork, legwork all over again.
If a couple’s joint trust is revoked, the assets might be distributed 50–50 unless the trust document provides for a specific uneven split. If one of you puts in 70 percent of the assets and the other puts in 30 percent, you might want to provide for a 70/30 split in case of dissolution.
If you have an individual trust naming your spouse as beneficiary and you separate or divorce, remove the spouse’s name immediately. If you die, a separated spouse can inherit; in some states, so can a divorced spouse. (By contrast, a divorced spouse generally cannot inherit under your will, even if he or she is still named as beneficiary.)
You normally need a will to appoint a guardian of your minor children. State law might allow you to use some other document, but check with a lawyer to see if a living trust will meet the requirements. It may not.
If your trust owns a certificate of deposit and it matures, the payment must be made into a bank account opened in the name of the trust. Ditto for any proceeds from the sale of real estate or securities.
A successor trustee who takes over from you must distribute the income and principal as the trust requires. You can give your trustee the discretion to distribute unequally among the named beneficiaries if that seems like the right thing to do.
All the trust’s property doesn’t have to be distributed right away. You can instruct the trustee to hold property until your children are older, or distribute just the income, or distribute property to some beneficiaries and not to others. Whatever you want.
Check “More Will Facts” on page 112. Many of those rules apply to trusts, too.
For a discussion of wills versus living trusts, see page 139.
If you go for a living trust, your toughest decision will be choosing a trustee who’ll step in if you or your spouse can no longer serve. Trustees don’t have to account to a court for their actions, as do the executors of a will. They might ignore your wishes. If there’s a dispute, it’s harder to take a trustee to court. So it’s superimportant to find someone who’s reliable.
A dependable grown child will see to your welfare but might have bad financial or investment judgment. An undependable grown child might loot your assets.
A business associate or lawyer might be good at managing your money but help himself or herself to it.
A bank or brokerage house has investment experience, won’t skip out or steal, and will handle the paperwork. But institutional trustees are expensive and may not knock themselves out to keep you happy.
Cotrustees often work well—a family member and a bank or investment adviser. But again, you pay.
In the end, you can only go for integrity and intelligence and keep your fingers crossed. Make your wishes crystal clear, so that the trustee—and everyone affected by the trust—knows what’s allowed. And, of course, provide a method for kicking out a trustee whom the family doesn’t like.
Don’t Try to Save Money by Setting Up a Trust Without Using an Experienced lawyer. Books with tear-out forms for doing trusts or do-it-yourself computer programs are not your friends. You might misunderstand the instructions, which are complicated and often incomplete. You might fill in ambiguous forms ambiguously. Without your knowing it, the forms may be unsuited to your purpose. You might miss an important angle that specifically affects your family. You might be working with a defective or out-of-date do-it-yourself book. You might think you’ve put property into trust when you haven’t because you didn’t transfer the title to yourself as trustee, or you might not understand which assets need to be retitled. You risk making the same kinds of errors with bequests that are made with homemade wills (page 103). I beg you to see an experienced tax- and estate-planning lawyer. I am down on my knees. If it’s worth having a trust, it’s worth doing the job right.
If you insist on doing the job, consider the Quicken WillMaker by Nolo, the leading publisher of do-it-yourself legal materials. It covers both wills and living trusts. Cost at this writing: software on CD, $49.99; downloadable software, $39.99. Order online (www.nolo.com) or by phone (800-728-3555). Helpful as these are, however, I wouldn’t touch them myself. I’d rather have an experienced lawyer do it.
Here’s how to get the advantages of a living trust without actually setting one up:
1. To ensure that there’s someone to manage your affairs if you become incapable: Give a trusted relative or friend your durable power of attorney (page 125). But check with all the institutions you do business with—bank, broker, mutual fund group, insurance company. Some will want the power written on their own form or will have other antiquated rules.
2. To make it easier for your surrogate to manage complicated property: Set up a standby living trust containing only a token amount of property. If you ever become mentally incompetent, the person holding your durable power of attorney could activate the trust, put the rest of your property into it (if the durable power so authorized), and arrange for it to be properly managed. At your death, it would go to the heirs you designate.
3. To pass important assets to heirs without going through probate: Put property into joint names with right of survivorship. Name specific beneficiaries for your insurance policies, Individual Retirement Accounts, 401(k)s, real estate, and investment accounts. Just make sure that the named beneficiaries match the beneficiaries named in your will.
4. To pass bank accounts to heirs without going through probate or naming a joint owner: Set up accounts “in trust for” or “payable on death” to one or more beneficiaries. In many states, you can do the same with stockbrokerage accounts, mutual fund shares, and deeds (those accounts are referred to as transferable on death). In all cases, control stays with you—to change the investments, change the beneficiary, even cancel the account by taking every penny out. You haven’t made a gift, so the income is still taxable to you. The beneficiary can’t touch the money until you die. But at death, the account passes directly to the beneficiary without going through probate. One possible drawback: when you die, the beneficiary gets the money immediately, ready or not.
1. A joint owner might take your money and run or die a week after you do, leaving the assets to be probated in his or her estate. A child named as joint owner, to help you manage your money, may feel entitled to some of the assets on the side.
2. Naming individual beneficiaries for each of your assets might leave one of your children with less money than another. Even if they have equal amounts at the start, changes in the investments’ value or withdrawals from one account but not another could disadvantage one of your children in the end. If you leave everything by will, it’s easier to divide the estate evenly.
3. A do-it-yourself living trust might not work out if it wasn’t properly set up and managed. Lawyer-drawn trusts need, well, a lawyer.
4. Even with a trust, it can take a year or more to settle an estate. That’s because actual probate—the court procedure—usually isn’t the problem. The delays arise when you try to get property appraised, get ownership transferred into new names, and pay all the income and estate taxes—all of which have to be done whether there’s a trust or not.
Squadrons of insurance agents are knocking on doors all over the country, using high-pressure tactics to sell one-size-fits-all living trusts, at too high a price, to people who often do not need them. Battalions of lawyers are holding seminars, especially in retirement areas, claiming that trusts will solve all life’s problems, up to curing the common cold. They’re telling you lies. Typically, they lead you to think that probate costs tens of thousands of dollars more than trusts (in fact, probate can be cheaper than the trusts these phonies sell); that only trusts can lower your estate taxes (not true; there’s no tax advantage to trusts over wills); that probate will tie up your estate for years (not true, as long as your family isn’t fighting over the remains); and that if you become incompetent, only a trust
(continued on page 141)
| Table 2. | ||
WHICH TO CHOOSE: A WILL OR A LIVING TRUST? |
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On balance, most people will do fine, and save money, with just a will. Living trusts are suitable only in a minority of cases. Here’s a checklist to help you decide which is the best for your particular circumstances. Read the footnotes carefully. The answers you seek aren’t simple ones. |
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Objective |
Will |
Living Trust |
Save estate taxes |
Yes |
Yes |
Save income taxes |
Barely1 |
No1 |
Make charitable gifts, directly or in trust |
Yes |
Yes |
Make annual tax-free gifts |
Yes |
Usually2 |
Save money up front |
Yes |
No3 |
Save costs at death |
No4 |
Usually |
Clear the way for speedy distribution of property after death |
Often5 |
Yes |
Actual speedy distribution of property |
Sometimes6 |
Sometimes6 |
Keep your affairs private |
Sometimes7 |
Usually8 |
Provide for continuous management of small-business interests |
No9 |
Yes |
Provide for continuous money management after your death |
No9 |
Yes |
Duck your creditors |
No |
Sometimes10 |
Provide for your money to be managed if you become incapable |
Usually11 |
Yes |
Provide for personal matters to be handled if you become incapable |
Yes11 |
No12 |
Stop a challenge to your bequests |
No13 |
No14 |
Avoid out-of-state probate |
No15 |
Yes |
Avoid paperwork |
No15 |
No16 |
1 Probate estates get a $600 income tax exemption, can choose a fiscal year that defers taxes, and can deduct income set aside for future distribution to a charity. A living trust gets only a $100 income tax exemption, must use a calendar year, and gets the charitable deduction only when the gift is made. It offers no income tax benefits that can’t be matched by a will. |
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2 Gifts made from trusts within three years of death might be included in your estate unless you use so-called Crummey powers (for these, see a lawyer). |
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3 It costs more to set up a living trust than to prepare a will—maybe by $1,000 or more. A trust requires a backup will plus the paperwork for transferring property into the trust and setting up the trust’s books. Also, you still need a durable power of attorney. |
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4 Probate usually costs more because of court expenses, but not necessarily a lot more—perhaps just a few hundred dollars. In a few states, money-grubbing lawyers and antique court practices do indeed run up the fee. Your defense is to use an attorney who bases his or her fee on the work involved rather than a flat percentage of the value of the probate assets. In many other states, however, especially those that have adopted the Uniform Probate Code, streamlined probate procedures let the family settle many estates with zero legal costs. If you consult a lawyer about transferring property into new names and preparing tax forms, it shouldn’t matter whether the property is in trust or in an estate: your bill should be the same. |
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5 Executors of wills have to wait until their formal appointment, which takes anywhere from three days to three weeks or more, depending on the court. After that, distributions can begin. Trustees don’t have to wait at all if their names are already listed on the trust document. |
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6 Executors usually wait until the debts are assessed, bills paid, and taxes wound up, although adequate amounts may be distributed promptly to a spouse or a child needing cash. It’s the same for trustees in states where trusts are liable for debts. In other states, trustees may act more quickly; that is, they may try. To get property into the names of new owners takes the same length of time, whether it’s being distributed from a trust or a probate estate. When people speak of being tied up in probate, they often mean that it’s taking forever to get title to what they’ve inherited. That’s the fault of the bank or broker responsible for making the name change or of a dilatory executor, not of the probate court. A trustee can be dilatory too. |
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7 With probate estates, many states require that an inventory of the assets and debts be filed with the court. Others don’t. Few of us have to worry about nosy neighbors running down to the courthouse. But this may be an issue for people in the limelight or business owners who don’t want their competitors to know their true financial position. Trusts normally don’t have to file an inventory. If it does have to be provided, you can request that it not be a matter of public record. |
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8 Unless the trust is contested. If real property is added to a trust, the title company might require the trust instrument to be publicly recorded. |
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9 Trusts set up in wills can handle or distribute business interests and provide continuous money management for such purposes as dispensing income to spouses or disabled children. But the trustee has to be appointed by the will and then get geared up to act (unless he or she has already been handling your affairs via a durable power of attorney). In the meantime, your executor usually has the authority to handle your business interests. Trustees of living trusts may already be on the job, although they too will have to get geared up unless they’ve been acting for you already. |
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10 This is a pretty inglorious intent, but in some states, unpaid creditors can’t attach the assets in a living trust. In other states, they can. They can definitely go after assets in a probate estate and in some states may be able to file against the trust if the probate assets aren’t sufficient. The executor can be personally responsible for unpaid bills. One reason for delay in distributing probate assets is that the executor wants to be sure that all the estate’s bills are paid. |
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11 The will itself doesn’t do this, but it’s no hindrance. Your lawyer usually arranges for money management as part of the will-writing process. You’ll sign a durable power of attorney, naming someone to act for you (your attorney-in-fact) if you’re too sick or senile to act for yourself. Some banks, insurers, mutual fund companies, and brokerage houses are a pain about powers of attorney. They won’t recognize them unless they’re written on the institution’s forms (or on forms legislated by the state). Trustees, by contrast, can’t be denied. One wrinkle is that, with a living trust, incapacity has to be confirmed (maybe by a doctor; the trust will specify the rules). Attorneys-in-fact are empowered to act without this step. Assured continuity of management is especially important for people with no family member to handle their affairs. |
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12 A trustee can’t deal with questions involving Medicare, Medicaid, retirement plan transactions, family matters, and tax matters, and can’t go into the safe-deposit box unless his or her name is on the signature card. All these things can be done, however, by an attorney-in-fact under the durable power of attorney prepared with wills. Neither attorneys-in-fact nor trustees can normally make gifts of your property unless the documents specifically allow it. In some states, the attorney-in-fact can make annual gifts if you previously established the pattern. |
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13 Wills are broken for technical errors or because you’re shown to have been too gaga to know what you were doing. But you can include a no-contest clause, removing a bequest from anyone who challenges your will. |
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14 Technical errors in trusts rarely sink them completely. And because living trusts are typically in effect for some time before your death, it’s hard to prove you were incompetent when you set them up. In some states, you can include a no-contest clause, removing a bequest from anyone who challenges your trust. The legal period for filing claims against a trust may be longer than for a will. |
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15 Property you own in another state will undergo probate there unless it’s jointly owned or in trust. |
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16 It will take a lot of personal effort to get your assets transferred into your living trust (unless you have your lawyer do it, which runs up your fees). Banks, brokers, and other institutions may demand a copy of the trust to be sure they’re dealing with a legitimate representative. (You shouldn’t have to produce the whole trust; your lawyer will normally prepare an abstract showing the first page of the trust, the signature page, and the pages that list the trustees and enumerate their powers.) You’ll have to transact business in the trust’s name, which sometimes gets complicated. At death, both trustee and executor must, among other things, gather information about the assets, get real property appraised, value closely held business interests, round up and pay all outstanding bills, decide whether assets should be sold, transfer assets into new names, decide when assets should be distributed, make a final accounting to beneficiaries, and file final tax returns. Executors face the extra step of filing the will with the court and complying with any other court rules. |
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can save your family from a troubling court procedure to appoint a guardian (you can prepare for this with a durable power of attorney instead of a trust).
For a true comparison of wills and trusts, see the table above. If you decide that you do want a trust, don’t buy it from one of these slick salespeople. You’re likely to get a shoddy product that doesn’t meet your family’s particular needs—and you’ll be overcharged to boot. Go to a lawyer experienced in both wills and trusts who’ll examine all your assets, question you closely about your family’s needs, and draw up the best document to serve them.
If the tax code didn’t exist, America’s charities would have to invent it. Generous donors start with a personal sense of mission, but it doesn’t hurt that gifts for good works are, within limits, written off on your tax return.
Planned giving is especially appealing. It’s a six-step program for making gifts and strengthening your retirement income too. Here’s how it works: (1) You donate cash savings to the charity, or stocks or land that have appreciated in value. (2) You win substantial tax breaks. (3) The charity invests your money for growth. (4) Now or in the future, the charity starts paying you (and perhaps your spouse or another person) a lifetime income. (5) When the last beneficiary dies, the charity gets the remaining money. (6) If you want, you can replace some of the money you gave away by using your tax savings to help buy life insurance to leave to your heirs.
These gifts are irrevocable. You cannot get your principal back. But you’ll enjoy the following tax savings:
You sidestep the capital gains tax on appreciated property. Say, for example, that you made a huge profit in stocks or land but now want to switch to a more conservative income investment. If you sell, the federal tax forceps will extract a portion of the gain. But if you give the asset to a charitable trust and the trust sells, it generally pays no tax. It can reinvest all the money and use it to pay you an income for life.
You create an immediate tax write-off. The size of this deduction depends, among other things, on your age and the amount of income you want to receive.
You lower your estate taxes. A charitable gift reduces the size of your estate, saving federal taxes if your net worth exceeds the federal estate tax exemption.
A complex estate requires the expensive services of lawyers, accountants, trust companies, money managers, and expert insurance planners. But for gifts on a more modest scale, the charity can do most of the work and will usually absorb the expense. When you cast your bread upon the waters, here are the ways to guarantee that you’ll get some of it back:
The Charity’s Pooled-Income Fund, for donors seeking conservative growth. It’s similar to a mutual fund and pays you a pro rata share of its earnings. Your income will rise or fall depending on investment performance. Minimum investment: usually around $5,000 to $10,000.
A Gift Annuity, favored by older retirees. It pays a fixed income, guaranteed for life and partly tax free. The size of your payout depends on your age. The older you are, the bigger your check. Warning: If the charity’s investments fare poorly, your promised income might not materialize.
A Deferred Gift Annuity, favored by younger and middle-aged donors. The gift grows in value for several years before the fixed payments start.
A Charitable Remainder Annuity Trust also pays a fixed income. Minimum investment: usually $50,000. Payouts can be higher than with gift annuities. But if the trust runs out of money, your income stops, whereas gift annuities always pay.
A Charitable Remainder Unitrust, the chief object of affection of inventive lawyers and donors alike. Minimum: usually $50,000. Your income varies, depending on how the investment grows. Payout rates are based on the trust’s entire market value, running from 5 to about 8 percent. Savvy investors choose the lower number. It gives them the largest tax write-off plus bigger payouts over time because more money stays in the trust to grow.
A Spigot Trust, the star of the show. Minimum: usually $50,000, invested in a tax-deferred variable annuity. This unitrust lets you turn your income on and off. For example, you might forgo payments in the early years while the trust’s investments build. Later on, you can withdraw extra money to make up for the years you missed. By law, the trust pays out only income, not principal. But in most states, your trust can define income broadly to include your capital gains. Spigots can help fund a wedding, add to a retirement plan, or pay future income to a child.
One warning about a unitrust, including the Spigot: Your actual payout depends on its annual investment performance. Take a $10,000 unitrust with a 5 percent payout to the donor, invested in Standard & Poor’s 500-stock index. If the market rises 20 percent in the following year, you’ll get $6,000. If it falls 20 percent, you’ll get $4,000. As the poet said, everything depends. All that’s certain are your tax savings and the pleasure gained from your charitable act. For a true giver, just the latter is enough.
A Charitable Lead Trust, for people who want to leave their money to their children. The charity uses the income while you’re alive. At your death, the principal goes to your heirs.
Donor-Advised Funds. You give to a charitable fund and get the tax benefits right away. The fund invests your money, which can grow for years. When you’re ready, you tell the fund to make gifts to various charities of your choice. Funds are run by some 650 community foundations that advise on gifts to local charities; find them at Community Foundations (www.communityfoundations.net). Four popular commercial funds: Fidelity Charitable Gift Fund ($5,000 minimum), Schwab Charitable Fund ($10,000 minimum), T. Rowe Price Program for Charitable Giving ($10,000 minimum), and Vanguard Charitable Endowment Program ($25,000 minimum).
Writers are licensed only by the First Amendment. We can be as pigheaded and opinionated as the vocabulary allows, but we don’t practice law. This chapter should give you a general understanding of wills, living trusts, and estate planning. But in practice, the field is pocked with traps that you’ve never heard of and wouldn’t believe if you did. So when I write, “See a lawyer,” I really mean see a lawyer. That’s the only way to do this right.