Basic Estate Planning 101
THE PURPOSE AND GOALS OF ESTATE PLANNING
Estate planning can serve a myriad of needs, many of which may be unique to any given family. In addition to addressing those individual needs, there are a few universal issues estate planning seeks to address. A well-drafted plan will be uniquely created for the client, but will fundamentally seek to accomplish the following common objectives:
First, a proper estate plan will avoid probate. Probate is the court-supervised process of administering one's estate. The process can take years and could cost tens of thousands of dollars in court costs and legal fees. A properly-drafted estate plan will allow for a successful administration of your estate, while avoiding the costs and delays of probate.
Second, a proper estate plan will plan for the structured distribution of assets. When one dies with a will (or even without a will), the assets are inherited outright free of any sort of further oversight. For younger beneficiaries or beneficiaries with special circumstances, this could pose a significant problem. A well-drafted plan will allow you to structure distributions of your estate over time or include protection provisions should the beneficiary not be in a situation where inheriting assets would be prudent.
Third, a proper estate plan will name fiduciaries to act on your behalf and manage your affairs. The law is unforgiving in terms of the ability of a family member or loved one to manage your finances, medical decisions or other personal decisions without proper planning. A good plan will allow you to appoint whom you want to act in these capacities.
Fourth, a proper estate plan will minimize tax liability. U.S. Supreme Court Justice, Learned Hand wrote in 1934, "Any one may so arrange his affairs that his taxes shall be as low as possible; he is not bound to choose that pattern which will best pay the Treasury; there is not even a patriotic duty to increase one's taxes." Proper estate planning takes Justice Hand's commentary to heart and seeks to preserve one's estate by minimizing tax liability.
Last, a proper estate plan will blend into the background of your current life. A good plan will not be an encumbrance to you, and should blend into the background of your life. How you manage your finances, assets, and property should not be any different after you have a well-drafted estate plan. The purpose of the plan is to protect your interests should you be unable to do so yourself; in the meantime it should feel like it doesn't even exist.
DIFFERENT ESTATE PLANNING OPTIONS
A living trust is not the only option when it comes to estate planning; but, in almost every situation, it is the most preferred. However, in the interest of thoroughness below are some of the other estate planning options available, as well as their limitations.
Do Nothing. Inaction could be catastrophic: at a minimum your entire estate will go through probate, which will could cost your estate tens of thousands of dollars and lock things up in court for years. Also, when assets are distributed, they are distributed outright irrespective of any sort of special circumstances. Last, some of the most important decisions you can ever make (who your fiduciaries will be, and to whom your estate will be distributed) are left in the hands of a disinterested and uninformed court.
Rely on Beneficiary Designations. One of the more common do-it-yourself methods of estate planning is to simply rely on the beneficiary designations on accounts, life insurance policies, etc. Beginning in 2016, California property owners were also able to formally name a beneficiary on real estate title. Although using beneficiary designations to avoid probate is simple and easy, many of the other goals of estate planning are ignored (tax minimization, structured distribution, etc.). Furthermore, relying solely on beneficiary designations can prove to be catastrophic in situations where you are incapacitated, as there are no inherent means of transferring control without further planning.
Joint Ownership. Another common do-it-yourself estate planning strategy is to simply appoint another owner on your assets so they are able to take over ownership at your death. Although such a configuration does bypass probate, there are two major problems with doing such. First, with a joint owner you have immediately doubled or risk exposure; should the co-owner be subject to a lawsuit, bankruptcy, or divorce, your asset is unnecessarily at risk. Second, there is a double step-up tax opportunity that could result in tens of thousands of dollars of reduced tax liability, and is not available in joint ownership situations.
Create a Will. Many years ago, a will was traditionally the foundation of most estate plans. Over time, relying on a simple will has become less and less advantageous, until now, when it is simply imprudent. A will subjects the entire estate to probate, there is no mechanism to manage assets when incapacitated, and there is no way to structure or protect distribution.
Create a Living Trust-Based Estate Plan. A living trust has risen to the top spot as the preferred estate planning vehicle. A trust avoids probate, allows an appointed fiduciary to manage trust assets upon incapacitation, provides for a structured and protected distribution, and also provides numerous tax planning opportunities (including a double basis step-up).
A COMPREHENSIVE PLANNING APPROACH
As established above, in almost every situation creating an estate plan with a revocable living trust as the foundation is the preferred structure. However, to accomplish all of your goals and objectives, there are few other components to a plan to round everything out. Collectively these documents are referred to as a "Comprehensive Estate Planning Package." The Comprehensive Estate Planning Package is a complete set of documents needed to avoid probate, create a structured distribution of assets upon death, and appoint the necessary agents to act on one's behalf in instances of incapacity or death.
Although the types of documents included may differ from client to client, nearly all include a revocable living trust, power(s) of attorney, advance health care directive(s), and will(s). Other documents that may be included are: certificate of trust, declaration of trust, marital property agreement, assignment of personal property, quitclaim deed(s), etc.
Power of Attorney. A Power of Attorney is a legal document where one individual (the "principal") appoints another individual (the "agent") to act on his or her behalf. In an estate planning context, this usually occurs only during time of incapacity. While serving, the agent can act with as much authority as the principal has granted (typically very broad authority). It should be noted that an agent can never create or amend estate planning documents or make health care decisions (which is under the purview of an Advance Health Care Directive).
Advance Health Care Directive. An advance health care directive is a legal document where one individual (the "principal") appoints another individual (the "agent") to make medical decisions on his or her behalf. The agent only acts when the principal is unable to provide informed consent to their health care provider. The advance health care directive also allows the principal to make certain decisions ahead of time such as end-of-life decisions and organ donation.
Pourover Will. A will is a declaration of a deceased individual appointing the executor of their estate and dictating the ultimate distribution of their assets. When an individual dies, a will has to go through the lengthy and costly probate process in order to be administered. A "pourover will" functions much like a regular will, but the ultimate distribution of the estate goes to a revocable living trust created by the individual. If an estate plan is structured properly, the trust will own all of the assets of the individual, and nothing will exist for the will to distribute. Although the trust serves as the central component of the estate plan, the pourover will ensures that any assets that are not owned by the trust, ultimately are transferred into the trust (even if by probate). In this regard, the pourover will serves primarily as a safety net to the administration of a trust. A Pourover Will is also the document where one names the guardians of any minor children.
Other Corollary Documents. Although the four primary components of an estate plan are mentioned above, there are a few other documents which serve minor roles, but nevertheless round out a comprehensive plan: The certification of trust is an executive legal summary that can be used to transact trust business (and also preserve some privacy, a declaration of trust is another safety net that can be used before the pourover will, a marital property agreement clarifies a married couple's intent as it relates to marital assets and estate planning, an assignment of personal property legally transfers all personal property to the trust, and a quitclaim deed is the manner in which, and how you evidence transfer of real estate into your trust.
A comprehensive approach is widely regarded as the only real prudent way to create an estate plan. Of course, no single solution is perfect for everybody, so feel free to reach out to us to discuss your specific situation.