An estate plan is a necessary tool that allows you to protect, maintain and manage your property if you become ill or pass away. But more than that, it can also help people make sure their minor children are protected in the event of an emergency or minimize taxes paid on assets by beneficiaries.
With proper planning, probate can even be avoided so that your beneficiaries receive your assets in a way that’s controlled by you and not by attorneys, the government or the IRS.
Recently, I hosted an estate planning workshop and noticed a common issue with those that attended. A substantial portion were already in their mid-60s and several others were over the age of 80. That’s alarming considering some of their comments, including misconceptions and reasons for delaying.
So, why do so many hardworking people fail to take the time and effort to build an estate plan and preserve their hard-earned assets?
Misconceptions in Estate Planning
To begin with, a common misconception most people have is that estate planning is for those who are older or possess substantial wealth. Many people also assume that the process will be complex, time intensive and pricey. But some — if not all — of the problems mentioned aren’t true the majority of the time.
Here are a few steps you can take to begin thinking about your estate plan:
- Gather important documents, and make sure that key family members know where they are.
- Gather a list of all the things you own, noting any liabilities (like your mortgage) as well. Record the value of each asset (properties, collectibles, jewelry, etc.). Print copies of your most recent statements from your relevant accounts. Note the values and benefits from insurance policies.
- Consider and write down your objectives for your estate plan. Who should get which assets? Who should get them if something should happen to your beneficiaries? Do you have minors who need care if something were to happen right now? Who should handle your assets if you become unable to make decisions about them? And so forth.
- Review your will, if you have one in place.
- Review and update the beneficiaries of your retirement accounts or insurance policies.
- Review and update powers of attorney for matters of health care or other affairs.
- Consider if you want to establish a trust, and prepare to talk to an attorney and experienced financial adviser about it.
By using a will or trust to legally ensure that you will not only protect the things you worked hard to achieve, you will have the final say about those assets — taking care of the people you love when you’re no longer here. That means not leaving such decisions to attorneys, the government or the IRS.
In some instances, it may be as simple as meeting with an attorney and preparing your documents, such as a will, power of attorney and trust. However, depending on if there are more complex assets, such as a business interests, different investments, retirement accounts or real estate, you may need more guidance on the appropriate strategies, including charitable giving, life insurance for business succession, and either living or irrevocable trusts.
An estate planning attorney would then make sure what you decide to do is complete to the full extent of the law and that you aren't missing any important documents, so that everything will go through according to your wishes.
Revocable vs. Irrevocable Trusts
Trusts are a powerful and beneficial tool when properly used. There are two types of trusts: a revocable living trust and an irrevocable trust. Some other terms associated with trusts include “grantor” and “non-grantor” — which are the parties creating the trust.
With a revocable living trust, you still control the assets, can change the trustee at any time, or sell your assets while you’re living, because the grantor — the person who created the trust — is normally the trustee as well. The only benefit a revocable living trust provides is to ensure your assets bypass probate. It does not provide any immediate tax benefits. In fact, income from a revocable living trust is taxed to the grantor.
An irrevocable trust is completely different. It can be used when “gifting” assets in order to reduce a grantor’s taxable estate. Be aware that once you transfer assets to an irrevocable trust, changes are permanent and cannot be undone — or at best — can only be made through a lengthy process. You no longer have any control to sell investments inside the trust and will have to ask your trustee — typically your children or grandchildren — to do so. Since you don’t legally own the assets any longer, they’re either taxed at trust income tax rates or your beneficiaries’ tax rates.
Also, within the irrevocable trust family, there are two types — simple and complex — which will determine how taxes will be paid. With a simple trust, any interest or income earned will have to be distributed to the beneficiaries and taxed according to their income tax rates. On the other hand, a complex trust is multifaceted where it can either retain or distribute interest or income earned to the beneficiaries. If it’s retained, the trust will pay tax according to trust income tax rates.
The key to creating a trust is to help your heirs avoid probate when asset distribution occurs. Probate is the process of legitimizing your will and ensuring that proper procedures are conducted during your asset distribution under the appropriate representative, all decidedthrough a series of legal proceedings and intermediation if conflict arises among heirs. The problem is that the probate process can be lengthy (months to years) and can delay your heirs from receiving their inheritances. It can also have a lot of associated fees and costs (sometimes 5% to 10% of your estate), and the proceedings are public record, which gives little privacy to families.
Since the federal government will require payment for your estate tax bill in cash within nine months of something happening to you, avoiding estate taxes is the compelling reason for establishing an irrevocable trust. As of 2020, the estate tax exemption is $11.58 million per person and, according to the Tax Policy Center, an estimated 1,900 estates owed estate tax in 2018.
Sometimes beneficiaries are required to undergo complicated processes in paying the estate tax bill. For instance, they may need to borrow cash, which will require repayment with interest, liquidate assets at a fraction of their original value, or use life insurance proceeds.
Keeping Your Estate Plan Current
Once finished, you should review and update your estate plan after every birth, death, marriage or divorce involving the members of your plan. You should also review your plan every time a significant increase or decrease in your finances occurs or if any laws change that are directlyrelated to your estate plan.
While it may feel somewhat morbid to plan ahead for something that hasn't happened to you yet, remember that you do not want attorneys, the government or tax agencies to make decisions about the care of your loved ones and the assets you worked hard to obtain. Go through the additional (and minimal) time and effort to have the peace of mind that you and your family deserve.
Carlos Dias Jr. is a financial adviser, public speaker and president of Dias Wealth LLC, in the Orlando, Florida, area, offering strategic financial planning services to business owners, executives, retirees and professional athletes. Carlos is a nationally syndicated columnist for Kiplinger and has contributed, been featured or quoted in over 100 publications, including Forbes, MarketWatch, Bloomberg, CNBC, The Wall Street Journal, U.S. News & World Report, USA Today and several others. He's also been interviewed on various radio and television stations. Carlos is trilingual, fluent in both Portuguese and Spanish.
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