Year after year, surveys reflect that nine out of ten people have never made a will, trust, or other arrangements to ensure that their estate will be taken care of as they wish in the event of their incapacity during lifetime (due to serious illness or accident), or at death. Most people have heard of “living trusts,” wills and âliving willsâ (for life support system decisions, and in California called Advance Health Care Directives), but estate planning remains one of those critically important matters that too often takes a back seat to the rest of life. Unfortunately, lack of estate planning ends up being very costly and inconvenient in many ways, for everyone involved, especially if minor children are involved or the estate is worth over $2 million.
This “Introduction To Estate Planning” seeks to take some of the mystery out of the process called âestate planning,â and help you understand what wills, trust, powers of attorney, and other commonly used documents accomplish, what the vocabulary means, and what the advantages and disadvantages are of alternative ways of handling your affairs. As you read through these pages, you may spot problems with the way your affairs are (or are not) set up now. You determine what steps you need to take to make sure that your family and affairs are taken care of as you really want, and in the best way possible.
What is “Estate Planning?â
Your “estate” includes all those things you own or control, like your home, other real estate, personal belongings, bank, savings, IRAs, mutual funds, retirement and other accounts, stocks, bonds, ownership of a business, interests in partnerships, and life insurance policies.
âEstate Planningâ is the process of deciding how your estate will be handled during lifetime if you are incapacitated by illness or accident, and planning to whom, and when, your estate will pass on your death. Documents like wills, trust, powers of attorney, and advance health care directives (âliving willsâ) are prepared, usually by an attorney, and are signed by you, usually in the presence of a notary, to ensure that your decisions (which legally must be in writing) will be carried out.
Objectives in Estate Planning Documenting your estate plan with a will, a trust, and other documents is important in order to minimize the cost and time involved in the management and distribution of your estate; to avoid probate; maximize the flexibilityof management of your estate during your lifetime; upon your death control how your estate will be distributed and appoint people of your choice to manage it until fully distributed; and minimize federal estate taxes and eliminate probate costs. Estate planning also includes consideration of health care issues, such as life-support, and long-term health care needs, including long-term insurance.
By âminimizing costsâ we mean reducing or eliminating probate fees, which will be about 5% of your gross estate passing through probate; minimizing federal estate taxes, which can take 34%-50% of your estate (including life insurance proceeds) in excess of $1,500,000 in 2005 per person without careful tax planning; and eliminating the need for and cost of a conservator during your life in the event of incapacity. âMinimizing timeâ means avoiding the 9-24 months or more that probate typically takes through the court system after your death, during which time your family and other heirs will get little or nothing from your estate. âMaximizing flexibilityâ means executing a will, a trust and other documents to manage your estate in the event of incapacity during lifetime so you can avoid court-appointed conservators and on your death avoiding probate and controlling who gets what, and when, according to your carefully documented instructions.
Issues to consider:
When planning your estate with these objectives in mind, you will also want to consider the following issues:
A. Control: Who will control (invest, spend, manage and distribute) your property during your lifetime, if you are unable to manage your affairs yourself? If you do not name individuals in a power of attorney, trust, or in other legal ways, then court action (conservatorship) and supervision will be required, which is costly, time-consuming and cumbersome. Who will manage the investment and distribution of your estate when you pass away? For just long enough to pay the last bills and distribute to family, or for several more years until minor children or grandchildren reach age 18, or 21, or finish college, or longer?
B. Management:How will your estate be managed (invested, spent, distributed) if you are incapacitated, and what documents will give a person the legal right to handle your accounts for you in a way that protects you and your estate from abuse and misappropriation of your assets?
C. Cost Containment: How can you minimize or avoid probate and attorneys fees (assuming that you want to avoid probate?) If your estate is subject to federal estate tax (estate valued in excess of $1,000,000, including life insurance), how can you minimize or eliminate that tax, or provide for payment without a forced sale of your house, vacation home, stocks or business (in 2002) to pay the tax?
D. Uniformity of Distribution: Most people want their estate to be divided and distributed in equal shares to children, siblings, and others, perhaps with some specific gifts of specified dollar amounts or percentages to a few other people and charities. How can you ensure a uniform handling of all of your estate, so that your heirs donât have to deal with different assets in different ways, with unequal shares going to different people? This is a concern when the deed to your house reads one way, your IRAs and pension fund beneficiary statements read a different way, your life insurance policy beneficiary designations read a different way yet, and so on.
UPON YOUR DEATH, WHAT HAPPENS TO YOUR ESTATE?
The Basic Rule: When you pass away, your estate–all property you own in your name and with others–is subject to probate. “Probate” is a legal process where the probate court takes control over all of your property that is subject to probate, to ensure that your debts are paid and your estate is divided and given to those you have named in your will or, if you do not have a will, as the Probate Code determines, when the court says the estate is ready to be distributed. Your estate will be subject to this court process, unless:
1. You have a surviving spouse, all of your estate is community property, and you have a will which leaves all to your spouse; or
2. Property is held in joint tenancy, and the joint tenant out-lives you (this is a very poor way to hold real property with your spouse for tax purposes, however); or
3. Life insurance policy proceeds which are payable to beneficiaries who are alive at your death and over age 18; or
4. Proceeds from qualified retirement plans or IRAs which are payable to beneficiaries who are living at your death and over age 18; or
5. Assets are owned by your living trust; or
6. Assets are held in a charitable trust; or
7. Your estate is worth less than $100,000 and you own no real estate.
Probate costs about 5% of the gross value of your estate passing through probate ($25,000 for a $500,000 house passing through probate), and takes 9-24 months.
In addition to probate costs (if your estate is subject to probate) a Federal estate tax must be paid on the gross value of a deceased personâs estate over $2 Million in 2008, further increasing in subsequent years, at a 35% to 45% tax rate, unless certain tax planning is provided for in a will or trust. The federal government just amended the estate tax laws to eliminate the estate tax altogether in the year 2010, but it is highly likely that the laws will be changed again before then. In 2011 the tax returns. Planning for federal estate tax avoidance or minimization in these next ten years will be complicated and require the careful examination by, and planning with, an experienced estate planning attorney.
Remember, also that avoidance of probate does not avoid (nor have anything whatsoever to do with) Federal estate tax, and your taxable estate for Federal estate tax purposes may be much greater than your probate estate because many assets, like life insurance, IRA and retirement plan proceeds, typically do not go through probate due to beneficiary designations or being held in separate trusts. Federal estate tax is a totally separate issue from probate: the two are unrelated. California has no inheritance tax, but assets held in other states may be subject to those statesâ inheritance tax (and probate) laws.
Advantages of Probate: The court insures that the people named in your Will (if you have one) receive the property you specify, or, if you have no Will, as the Probate Code provides. If you expect family members to disagree over the division of your estate, or to file lawsuits to get what they want or stop another family member from getting a share, you should definitely consider putting your property in a trust with a clear, strong âno contestâ clause, because trusts are much more difficult to contest (âbustâ) than a will, or just let everything go into probate and let the court sort it out (with a will which also has a strong âno contestâ clause).
Disadvantages of Probate: Probate (the court process) generally takes twelve to twenty-four months or more to complete, with or without a will, and will cost about 5% of your gross estate or more. No one gets anything from the estate until the court authorizes it–usually at the end of the process, unless spouse of minor children have particular needs and the court permits small âallowancesâ to be paid, after a formal hearing. Probate is a cumbersome process, particularly if there is real estate that has to be sold or managed. Probate matters are also part of the public record, so the âworldâ can learn what you are worth, what you had, what your Will says, what you owed, and who got what.
WHAT IS A WILL?
A will is a document that you sign, in the presence of two witnesses, that states who will inherit the property you own upon your death; how your estate should be handled, who the executor will be who oversees the management and distribution of your estate, and who will be the guardian of your minor children, if any. If you have a surviving spouse, and all property is community property (acquired during marriage in California, or separate funds commingled over time with community assets), or is held in joint tenancy with your spouse, your estate will pass to your surviving spouse without probate, even if you do not have a will (except as to certain out-of-state property). Property from a prior marriage typically remains separate property after remarriage, and would be subject to probate (unless owned by a trust) even if your spouse survives you.
If you are widowed, divorced or single at the time of your death, then upon your death your estate willbe subject to probate, whether or not you have a will, unless certain other exceptions apply (listed on page 3).
Note: if bank or other financial accounts, or other properties, are held in joint tenancy, your Will has no effect over that property, and the joint tenancy property will pass to the joint tenant (if alive) at your death, not to persons named in your Will. The surviving joint tenant does not have to give any of that property to brothers, sisters or others, even if your Will says several people are to share, and the surviving joint tenant cannot legally be made to give any share to others. If the joint tenant dies before you, the property will have to be probated.
Note Also: life insurance, retirement plans and IRA account proceeds all go to the person(s) named as beneficiaries on the “beneficiary statements” for those policies and accounts, and not to the persons named in your Will. These pass free of probate, assuming a named beneficiary is living at your death.
It is very important, therefore, to make sure that title and beneficiary designations on your various properties, insurance policies, IRA accounts, etc. are consistent with the plan described in your Will, or the Will may not be of much value if much of your estate is not governed by your Will.
Advantages of a Will: In a will you specify who gets your estate, in what shares, and when, including charitable gifts, gifts of specific property. You can give burial instructions, include testimonial paragraphs, appoint guardians for minor children, set up trusts for property going to minor children or grandchildren; give instructions and power for the executor to operate or sell a business and so forth.
Disadvantages of Having a Will: None, except cost to obtain, unless you write it yourself (assuming you know how to legally write and sign one), or use the California “statutory will.” A statutory will is a printed form that “should” be easy to use, but is seldom filled out correctly, or seldom covers “all the bases,” and is therefore often invalid or incomplete.
Disadvantages of Not Having Will: Your estate is subject to the time and expense of probate, and you have no control over who gets your estate, who will raise your children (unless the other parent survives you), and so forth.
WHAT IS JOINT TENANCY?
Real estate, partnership interests, bank accounts, brokerage firm “street” accounts, stocks, bonds, C.D.’s and other properties are frequently held as “John and/or Mary Doe, as joint tenants with right of survivorship,” or “John Doe and Daughter Jones, as joint tenants with right of survivorship,â or “John and/or Mary, JTWROS.”
Advantages: The joint tenant has access to the funds in accounts, presumably to spend on your behalf if you are unable to manage your affairs. On your death, the joint tenant takes full ownership FREE OF PROBATE AND FREE OF THE CLAIMS OF OTHER HEIRS.
Disadvantages: The joint tenant can take all or some of the funds for their own benefit at any time, completely legally. What you meant to enable an adult child to help you if you are incapacitated, could be taken by the child for him or herself. As to real property, there are significant negative income tax consequences to a surviving spouse; and property held in joint tenancy does NOT pass according to the terms of your Will or trust, but ONLY to the other joint tenant (or through probate if no joint tenant is living at your death). The joint tenant cannot give some of that property to others without incurring a gift tax if the amount of the gift is above certain limits, and real property can be difficult to sell or refinance if the joint tenant does not want to cooperate.
Further, the joint tenant can break the joint tenancy to real estate by recording a new deed, thus becoming a tenant in common who owns an undivided one half interest in the property. In that event their half goes to their heirs on their death, not to you, which would have happened had the property remained in joint tenancy and they died first. This, obviously, can be a very troublesome problem when families believed they had agreed otherwise when originally setting title as joint tenants. Selling or refinancing real property held in joint tenancy with a non-spouse can also be troublesome, if the joint tenant is out-of-state, or unwilling to cooperate.
California has recently created a new way of holding title, called âcommunity property with right of survivorship,â which affords you the tax benefit of community property noted above, while also enjoying the legal effect of joint tenancy (no probate). However, the other non-tax disadvantages of joint tenancy remain, and holding property in joint tenancy is generally not a good planning tool for most estates (perhaps only for some bank accounts).
Bank Trust Accounts
A bank trust account is an account held in your name “in trust” for someone else (the “beneficiary”), usually a child or other family member. The account avoids probate, and will pass to the beneficiary on your death, without restrictions.
Advantage: The account passes to the beneficiary your name, upon your death, free of probate.
Disadvantage: The terms of your Will or living trust do not apply to these accounts, and the beneficiary cannot control the account for your benefit during your lifetime, if you are incapacitated. Also, if the beneficiary is a minor or younger than you wanted at the date of your death, they get all the money right then, without any restrictions on how or when the money is spent.
WHAT IS A DURABLE POWER OF ATTORNEY?
The law permits you to execute a document by which you give another person the legal right to handle your financial affairs for you, in the event you are unable to do so for yourself. This document has nothing to do with your medical care and life support, which must be dealt with in different documents. âDurableâ means that the power of attorney is effective during a period of mental and/or physical incapacity.
Advantages: In the event of a disabling accident or illness, another person (usually spouse or family member) is able to deposit funds and write checks on your accounts to provide for your care; sell, lease, rent, or borrow against, real estate; invest or reinvest funds, and otherwise take care of your financial affairs for you when you can’t. Many bank and other financial institutions require a person to have a durable power of attorney for another who is incapacitated, even though a living trust may give the well person full authority to act on the ill person’s behalf. For that reason, we always recommend that you execute a durable power of attorney with a trust. In addition, you may wish to have the person you name as your attorney-in-fact also execute the bank’s own special form of power of attorney, because many banks have their own rules that require their own signature cards to be used.
Disadvantages: The person with the power may use that power for their own benefit also, defeating the intentions expressed in your Will or living trust for the distribution of your estate on your death, and depleting resources that were available for you. Also, the power terminates on your death and assets are then subject to probate, unless owned by a trust or exempt from probate for some other reason.
WHAT ABOUT LIFETIME GIFTS?
If you have substantial, income-producing property, or valuable property that someone (or a charity) could use profitably, you can gift the property to him or her irrevocably (you cannot take it back), and retain the right to a defined income for your life (a âGRATâ or âGrantor Retained Annuity Trustâ). Or you can sell the property to someone and take the proceeds from the sale on a long-term promissory note, giving you an income over a long period.
Charitable Remainder Trusts (CRTs) are often used as an important tax-planning tool. You transfer highly appreciated property (from which you would incur significant capital gains taxes if you sold it yourself) to a charity, in an irrevocable trust. You (and your spouse, if married) retain an income interest for life, receive a significant charitable income tax deduction carried over a number of years, thus substantially reducing your income taxes (therefore increasing net spendable income); your estate is reduced by a significant amount of the gift given, thus reducing federal estate taxes; and the charity or charities of your choice receive the remainder upon your death to use for the organizationâs charitable purposes.
Advantages: You may receive significant income tax benefits if the asset is given to charity. Estate tax benefits will be available because a significant asset in your estate is irrevocably given away and no longer part of your estate (excepting the income interest retained), for tax purposes.
Disadvantages: If you make an irrevocable gift of property, you could find that later in life you need or want the property you gave, because of unanticipated needs that have arisen, or other changes in plans. However, the gift to the charity or in a GRAT is irrevocable, and you cannot set the property back. Occasionally there is the risk that the charity mismanages its affairs or even goes out of business, and you lose the income you expected. The careful selection of a reputable charity with a long history of excellent financial management usually protects you from this risk, however.
You can also set up tax-deferred educational trusts for children or grandchildren; bank accounts for minors under the Uniform Transfers to Minors Act; and other forms of giving.
Another tax-saving tool is the âQualified Personal Residence Trust,â which is an irrevocable trust you establish and irrevocably transfer your home to; you retain the right to live in the home rent-free for your lifetime, and on your death the property passes to your heirs designated in the Trust. This trust is common, accepted by the IRS, and can have significant, positive estate tax savings advantages, but there are a number of important tax considerations that must be discussed carefully, thought through and well understood before implementing such a trust.
WHAT IS A LIVING TRUST?
A trust is an entity that is considered separate and distinct from you as an individual, much like corporations and partnerships are separate and distinct legal entities apart from their shareholders or partners. Signing a document called a âDeclaration of Trustâ creates a trust. A “living” trust is a trust you establish to exist during your lifetime, whereas a testamentary trust is described by the terms of your Will and comes into existence only upon your death.
A trust has “trustors,” (sometimes called âsettlersâ or âgrantorsâ), who are the individual(s) who set up the trust, and who own and transfer property in their individual name(s) to the trust (such as real property, savings accounts, C.D.’s, partnership interests, stocks, bonds, and so forth). The “trustee(s)” of the trust is/are the person(s) who have the responsibility for managing the property owned by the trust for the benefit of the beneficiaries. The “beneficiaries” are the individuals or others (like your children, other relatives, a church, school or other organization) who or which have the right to receive the income and principal of the property owned by the trust, according to terms set out in the Declaration of Trust.
In the typical living trust, you (husband and wife, if married) are the trustor(s). You now own title to all of your property, bank accounts, investment accounts and so forth in your individual name(s). When you sign a living trust, you transfer title to most of those assets to yourself as trustee(s) of your trust. You serve as the trustee(s) of your living trust. You manage the assets, invest, reinvest, buy, sell, spend, and so forth, as trustee(s), just as you do on a day-to-day basis now in your individual name(s), all for your own benefit. The Declaration of Trust clearly spells out that your rights and powers as trustee(s) are as broad as anything you can do now with your property outside of a trust. You can also revoke, amend, and change the terms of the trust at any time by signing an amendment to the trust. The trust has no significant impact or change on the way you handle your affairs, or the decisions you make about your assets, or way you spend or invest your money, on a day-to-day basis. You lose no control over your property.
On your death, your surviving spouse (if you were married), continues as the sole Trustee, for the survivor’s sole benefit. If a husband and wife’s combined estate is worth more than $2 million in 2006, going up to $4 million in 2007 (then zero in 2010, for just one year), then you will want special tax savings provisions to be included in the trust to reduce or minimize federal estate taxes which might otherwise be due on the death of the second spouse. Up to $2 million per person can be passed to your heirs free of federal estate tax in 2006, and more if other tax planning, charitable planning, and/or other trusts, or lifetime gifts (within certain limits) are involved. If you are single when you pass away, you will have named a successor trustee to take over, and the trust will be distributed to those you have designated.
On the death of the second spouse, or your death if you are single, the Declaration of Trust sets out clearly that the alternate trustee you have named to take your place as trustee on your death, will either hold some or all of the trust estate for the benefit of your children or grandchildren, if any, who are under 18, because they cannot legally inherit outright until 18 (or older, if you specify), and distribute outright and free of trust the rest (or all) of the trust estate to individuals (usually children, or grandchildren) and others, such as your church, missionary organizations, hospitals, college or other charities you wish to make gifts to.
Advantages of a Living Trust
A. No Probate on Assets Owned By the Trust. Trust assets (your house, other real estate, financial accounts, business interests, personal property) pass free of probate (avoids time, expense and attorneys fees) because you are not considered the owner of the property, the trust is, even though you control everything.
B. Management of Your Financial Affairs if You are Unable to Do So for Yourself. If you are physically or mentally unable to care for yourself, a conservator will have to be appointed to manage your affairs, under the supervision by the probate court, unless you have a living trust that provides for an alternate trustee you have named (usually your spouse, or an adult child, but can be a friend, other relative, or bank trust department) to take over as trustee and manage the trust estate, solely for your benefit, during that period of incapacity, according to specific directions you set forth in the trust. While joint tenancy accounts or a durable power of attorney can accomplish the same thing, there is the risk that the joint tenant or attorney-in-fact will use the funds for his or her personal purposes also, against your wishes, without accountability to beneficiaries.
Also, a joint tenancy designation on property and accounts may defeat the estate plan of your trust, as discussed above. The power of attorney lapses at your death, subjecting your estate to probate (unless an exception applies), whereas the trust continues, âuninterruptedâ by your deaths.
Your living trust, as the title holder of most of what you own, largely prevents a trustee form misusing the assets for his or her benefit, because the trustee is accountable to the beneficiaries, who will take court action against the trustee for mismanagement, misappropriation or failing to provide beneficiaries with accountings. A joint tenant is NOT generally accountable to anyone, because they have the absolute legal right, as joint tenant, to use those assets as they want. (Exceptions to this statement are expensive to litigate!)
C. Avoidance or Reduction of Federal Estate Tax. If your estate is worth more than $1,500,000 (in 2005; increasing to $4 million by 2007 and zero in 2010, then back to $1 million in 2011), including the face amount of any life insurance and value of all retirement plan benefits, then a living trust can include provisions which set up “sub-trusts” within the living trust, that, upon the death of the first spouse to die, can reduce or eliminate altogether a federal estate tax on the death of the second spouse to die. Federal estate tax is a tax on the value of all property you control at your death (whether in a living trust or not), and taxes all property above $1,000,000 ($2 million for a husband and wife if tax provisions are incorporated into a trust) at a 35%-50% tax rate. If you are not a United States citizen, the unlimited marital deduction available for gifts on the death of the first to die to his or her spouse is not available unless a special form of irrevocable trust is created and used on the death of the first spouse. If you or your spouse (if any) is not a U.S. citizen, please be sure to make this known to your attorney.
D. Cost of a Living Trust. Fees to set up a trust vary among attorneys, and will vary depending upon the degree of difficulty in planning your estate, the number of office conferences involved, the tax and other issues involved, and numbers of assets for which you need the attorney’s assistance in transferring to your trust. Fees for an “estate planning package,” which typically includes a living trust, wills, powers of attorney, and advance health care directives, will typically run from $1,250.00 to $3,500.00 or more, depending upon the complexity of the tax-planning and distribution plans, and attorney time assisting you in transferring your property to your trust. Additional planning and documents, such as life insurance trusts, separate educational trusts for children, charitable remainder trusts, qualified personal residence trusts, other special planning provisions, and extended conference times to discuss, determine, document and sign special or more detailed plans, will result in higher fees. Some attorneys only charge by the hour, others only by flat fee, and others by both methods depending upon your particular situation.
LIFE INSURANCE PLANNING
A basic understanding of life insurance products and their uses is very important in the estate planning process. Families in the 20-50 year-old range, raising children through the college ages, seldom have adequate resources to finance the family’s living expenses and college education if one or both spouses pass away prematurely. You may never, without the “forced savings” and tax-free build-up of income which life insurance provides, be able to accumulate enough discretionary income to finance college educations. Only life insurance can provide adequate resources to cover these needs, absent a substantial inheritance, in the event of an untimely death. Individuals who own their own business often use the business to purchase life insurance in tax-advantaged ways. Whole life (“permanent” insurance) policies permit significant cash-value build up, tax free (only an IRA or other retirement plan can do that, but with expensive tax penalties for withdrawals before age 58 or 70 1/2), and allow you to borrow out that cash value, tax free, for college or other expenses down the road.
If your estate will have federal estate taxes to pay, there are often only two ways to pay the tax, assuming that cash is not available without termination of retirement plans at great penalty tax cost: first, sell assets to raise the cash, or from life insurance policies. Many parents’ children sadly have to sell the family home, favorite vacation house or business to raise the money to pay the tax. Second-to-die life insurance policies are popular for married couples to fund the anticipated tax. While the recent changes in the estate tax laws may, in the coming years, eliminate most peopleâs liability for federal estate tax, a change in the laws in the years to come (very likely), or a substantial increase in the value of your estate, coupled with a decrease in your health (making insurability questionable, or the affordability of insurance more difficult), make a discussion about life insurance for estate tax funding very important.
Notwithstanding great strides made in women’s employment opportunities and pay in recent years, the fact still remains that a great many women, particularly those who have chosen to raise families and not be employed outside the home for years, cannot earn nearly what her deceased spouse earned. The result then, on a male spouse’s premature death, without adequate life insurance to “fill in the gap,” is often a significant downward shift in lifestyle, including a sale of the house for a smaller house or apartment in a different neighborhood, different schools, friends and church, and a now-working, or working twice as hard outside-the-house mother. Life insurance on the husband is therefore crucial, to provide income and principal in sums sufficient to permit the surviving spouse and children to maintain approximately the same lifestyle with a minimum of financial disruption, provide for college, and so on.
Insurance also plays an important role in buying the interest of a partner/shareholder of a business, when the partner dies, in order to keep the business interest “in the family.”
Disability insurance is also important to consider, covering monthly living expenses if the primary breadwinner is disabled for two months or more. Often called “income protection” insurance, it can be expensive, but so is the loss of all income but State unemployment or workers compensation insurance if you sick or injured and can’t work for a long period of time.
Trying to understand the many varied types of insurance products can be difficult and frustrating, but is important to gain some understanding of the basic uses and purposes for life insurance, and understand how important it can be to a well-rounded estate plan.
Life Insurance Trusts. Owning a life insurance policy in an irrevocable trust gets the death benefit of the policy out of your estate for federal estate tax purposes, but the death benefit can still be used to fund estate tax liabilities or pay off last illness or other debts. The remainder goes to your spouse, children, others or charities, as you specify in the trust.
Advantage: Your gross estate does not include the death benefit for estate tax purposes, so all of the insurance proceeds are available to pay taxes or go to your family.
Disadvantage: Because this trust must be irrevocable, you lose control over the policy, because you cannot be the trustee or beneficiary, nor can you change any term of the trust after it has been signed. You will also pay about $1200-1500 or more for this specialized trust.
Special Needs Trust . If you have a child who is disabled and eligible (or may in the future become eligible) for public funding for special education, other assistance, SSI (disability income), public housing for the disabled, and other programs, you may wish to create a special needs trust into which you contribute sums that may be used to supplement government assistance but will not disqualify your child for those benefits. If you have a child with serious disabilities, please discuss this with your attorney so that he can educate you on the possible planning opportunities available to you.
HEALTH CARE/LIFE SUPPORT SYSTEM MANAGEMENT
California law permits you to sign a document called an âAdvance Health Care Directive,â that can be signed at any time prior to becoming incapacitated. You grant another person (typically spouse, adult child, brother or sister) the authority to make health care decisions for you, including when to authorize the use of life support systems, and for how long, or when not to use, or to stop using life support systems, and to make other health care decisions concerning tests, CPR, operations, tests and other procedures.
The directive cannot give another person authority to manage your financial affairs, just as joint tenancy, trust accounts, wills, living trusts, a power of attorney cannot legally grant another person the authority to make life support decisions for you (except for health care decisions which are only economicâthat is, who is going to take responsibility to pay). The same person can be given powers in both areas only by having appropriate separate documents. Without an Advance Health Care Directive, a doctor may (if not in a hospital), take your direction and remove or not start life support systems in a terminal case, but he has no obligation to do so, and may risk criminal and civil liability if he does discontinue life support.
Executing an Advance Health Care Directive is the only way to ensure that your wishes are followed concerning sustaining your life by life support measures, the conduct of tests, CPR and other measures when none of these will prolong the duration or quality of your life.
You can buy printed forms at office supply stores for several dollars, fill in blanks, check boxes, and sign in front of two disinterested witnesses. These forms, however, do not include many important provisions that the law permits you to add, which allow you to control who has what legal rights to challenge the powers given, and who does not. The forms also do not spell out all the choices you can make about operations, tests, CPR, and so forth. You can hand-write in these directions, but experience has shown that the majority of the documents on which people have handwritten special provisions are considered invalid due to various problems, including uncertainty over whether you are the one who actually wrote the handwritten provisions. Thus, the printed form is NOT recommended, unless you want a least-cost ($2) alternative or need one immediately and have no time to call your attorney.
It is strongly recommended that an Advance Health Care Directive be executed if you have any concern or strong feelings about, or against, the use of life support systems and methods of sustaining or prolonging your life.
Under Federal and State laws governing the payment by the government of medical costs for the indigent, particularly the cost convalescent, board and care, residential care, skilled-care, or other residential facilities for the ill, the “well” spouse is able keep his or her residence, about $92,000.00, an auto, and household furnishings, and receive about $2,800.00 per month in income. If there are no other assets or income, Medi-Cal then pays for the skilled care and other medical expenses up to certain limits. Your private insurance will not cover residential care unless you have prepaid for a special plan to do so. For a single person, only $2000 (not $92,000) may be kept (besides the house). These amounts increase each year by a cost-of-living adjustment, so check with your attorney or Medi Cal administrator for the actual amounts in any given year.
A residence that is exempt from the reaches of Medi-Cal during the lifetime of the ill person may be subject to the recording of a lien by the state, which will allow the state to recover up to the amount it paid for the ill person’s medical and skilled nursing facility expenses. A well spouse will be able to live in the residence for life, after the death of the ill spouse, but the property will remain subject to the lien.
A living trust will NOT protect your house or other assets from the claims of Medi-Cal for reimbursement. Gifts of assets made within three years from the date of applying for Medi-Cal, or five years if the transfer was made from a trust, are included in your assets for purposes of determining whether you qualify for Medi-Cal or not. Thus, you cannot try to reduce your estate to qualify for Medi-Cal by making gifts of your estate right before trying to qualify, but must plan a long time ahead of applying for Medi Cal, which is a very difficult (and unpleasant) matter to predict with any degree of certainty.
Medi-Cal planning is important for preserving the maximum resources permitted by law for a well spouse to live on, when it is anticipated that, due to Alzheimerâs disease, dementia or other anticipated ill health in one’s later years, one’s spouse will need resources to live that will otherwise be totally depleted by the ill spouse’s medical needs, which are far beyond the size of one’s estate unless careful Medi-Cal planning is done well in advance of the problem arising.
For the single, elderly, ill individual or parent with a family home as the sole substantial asset, the use of a home maintenance agreement (sometimes called an occupancy agreement) coupled with an outright gift by deed from parent to children (exempt from California Prop. 13 property tax reassessment if deeded to a child) can be formulated to put the family home sufficiently beyond Medi-Cal’s estate-recovery and lien powers, avoid probate, and qualify for favorable federal income tax stepped-up-basis capital-gain treatment upon resale. Under this plan, the parent makes a gift of the home during his or her lifetime (but 36 months or more before applying for Medi-Cal) to the adult children, with the children acknowledging a moral obligation based on love and affection to allow the parent to continue to live in the house for life, including intermittent periods or after release from a nursing home. The parent retains something less than a life estate, but a sufficient right of “possession or enjoyment” to fall within case precedent for stepped-up basis treatment when the parent passes away.
Once the parent becomes institutionalized, the children must hold the house for an extended period of time, largely unused (except perhaps for family members’ residence), or risk breaking existing tax-law precedent for the favorable tax treatment.
Where the client has substantial assets beyond the equity in the family home to protect, a delayed irrevocable trust with a retained limited power of appointment exercisable by will or trust can be used to avoid probate and obtain a stepped-up basis for the children’s inherited assets. The 1993 Medi-Cal legislation did not include irrevocable trusts in the list of probate-avoidance devices subject to Medi-Cal recovery (typical family living trusts are subject to Medi-Cal recovery). Coupled with a durable power of attorney (financial), it can be made palatable by delaying placing most assets into the trust until the parent is older or ill and Medi-Cal needs are more probably just beyond the horizon.
Under this plan, the parent does not lose practical or legal control until illness or aging sets in, at which time the children can use the durable power of attorney to transfer assets to the pre-existing irrevocable trust. While the assets are held in the trust, the income of those assets must be reported as the income of the trustee/beneficiary children, but the additional cost will be minuscule compared to the Medi-Cal cost potential.
It is reasonable to ask that an individual, to the extent possible, pay for his or her medical care before asking the estate to do so, and it is considered unethical by some to plan one’s estate in such a way that heirs (even if one’s children or grandchildren) get substantially all one’s estate while the state (all other taxpayers) pick up one’s medical bills during prolonged illness. However, few would argue that planning so that one’s spouse or surviving parent can live in a reasonable manner for the rest of his or her life, and not be destitute after caring for the ill spouse or parent until his or her death, is entirely appropriate.
Medi Cal and Medicare issues are changing all the time, so the information above is very general, and cannot be relied upon to precisely state what the applicable amounts are or law is at the time you are reading this summary.
CHARITABLE TAX PLANNING; ALTERNATIVE WAYS TO GIVE
Substantial income and estate tax benefits are available through carefully planned charitable giving, and net income from a charitable remainder trust giving may be greater than the income you could earn by investing yourself without the benefit of the charitable deductions.
Lifetime Gifts: Gifts of appreciated property to a nonprofit, tax-exempt “501(c)(3)” organization can generally be deducted from gross income, up to 50% thereof, depending upon the type of property given and the âexcessâ gift carried over to later yearsâ tax return.
Bequests: Gifts can be made to your church, alma mater or other charities by will or in a living trust, and are transferred to the charity at death.
Insurance Policies: A charity can be made the owner and beneficiary of an insurance policy on your life. A relatively small periodic investment (premium payments) results in a substantial gift at death to the charity. A trust can be established naming several charities as beneficiaries of one policy.
Life Income Charitable Trusts: Irrevocable gifts of property (cash, securities, appreciated real property) can be made to a charity, where you receive a guaranteed income for life. Significant income and estate tax savings are enjoyed.
A. Charitable Gift Annuity: Insurance contract owned by the charity, buying income for you for a fixed term or your life.
B. Charitable Remainder Annuity Trust: You give certain assets to charity and receive a fixed payment each year.
C. Charitable Remainder Unitrust: You give certain assets to charity and receive a fixed percent of the net asset value, as determined annually (income can fluctuate). Can add to trust principal at any time.
D. Pooled Income Funds: Like investing in a mutual fund, only a charity is the owner of the assets.
E. Life Estate Agreements: An agreement where you retain the right to use and enjoy real property during your lifetime, and the charity gets the property on your death.
LONG-TERM CARE INSURANCE
Current statistics reveal that one in three Americans over the age of 65 will spend at least one year in a nursing home; that thirteen percent of all women will spend five years in a nursing home; 4% of all men; and that the annual cost of the average nursing, board and care, or skilled convalescent facility is between $40,000 to $100,000 per year. Twenty percent of persons between the ages of 65-74 will require some functional assistance, and 58% of those over 85 years of age.
Three home visits per week to an elderly person by health care providers can cost over $15,000 per year.
Given these statistics, combined with the fact that the âbaby boomerâ generationâs parents are living longer and longer, and the âboomersâ are also expected to enjoy a longer lifetime, the likelihood of your parents, or you, incurring significant long-term care costs is worth taking into account when planning your estate.
Unless you or your parents have already accumulated a very substantial estate, the cost of quality long-term board and care, convalescent or skilled care for a parent or yourself is formidable over any period of time. For that reason, it is wise for you to consult with a long-term care insurance specialist about acquiring long term care insurance.
Long-term care insurance plans can be tailor-made to fit various circumstances, levels of care, budgets, and so on, and can provide significant coverage for otherwise prohibitive (and estate-reducing) expenses, and, as importantly, save most of the estate for a well spouse to live on and maintain a reasonable quality of life, while insurance pays for much of the long-term care expenses incurred by the ill spouse who must reside in a facility for some period of time.
Good estate planning will include consideration of long-term care insurance as an important estate-preservation tool.
If you do not have a will, power of attorney or trust to specify in the proper, legal manner what you want to happen to your estate in the event of your incapacity and death, the probate laws will determine that for you, through a formula that may bear no relationship to the manner, or timing, or percentages, you desire, and may result in certain relatives or others handling your affairs whom you would never want to be making such decisions. Even if you have fairly consistent, uniform beneficiary designations on your retirement plans, brokerage and bank accounts, mutual funds and life insurance, if a designated beneficiary dies before you, your intended results may be thwarted, or if some accounts are substantially larger than others and you forget to name a beneficiary, or a beneficiary dies, the ultimate distribution may be very different than you wished.
Documented planning, in the form of a will, trusts and the other documents discussed above, are key to controlling how your estate will be managed, what taxes may or may not be paid, and whether your estate will have to be probated. The cost of the estate planning is vastly cheaper than any probate or federal estate tax.
If the fees charged for your estate planning exceeds $1000, the California Bar Association Rules of Professional Responsibility require an attorney to have you sign a written retainer agreement, describing the services to be performed, and what his charges to you will be (or at what hourly rate, plus costs, he will charge). If one attorney is representing a couple who are doing their estate planning together (such a husband and wife with a joint living trust, and each with wills, powers of attorney and health care directives), the attorney should also ask you to sign a Conflict of Interest and Waiver letter, that explains that your interests can conflict with each otherâs (particularly when one or both spouses have significant separate property estates and/or children by a prior marriage to whom all or a portion of one spouseâs estate is being given), and that your communications with the attorney are not confidentialâhe has spoken with both of you about both of your affairsâand that you may wish, and have the right, to retain separate attorneys, even though that would seem awkward to you presuming you are jointly agreeing to estate planning.
General Disclaimer (unfortunately necessary, given our litigious society): Tax, estate, probate, trust and related laws change from time to time by our federal and state legislatures and the IRS, and are constantly being challenged, considered, reconsidered, interpreted and reinterpreted by the courts. Therefore, everything stated in the preceding pages is stated in general terms, is subject to change, may be out of date to some extent at the time you are reading this, and is intended to give you a very general, ânon-legalâ background. Nothing in the preceding pages is offered as legal advice, and is not intended to be the giving of legal advice. Further, no attorney-client relationship is established by my sending you this âPrimerâ on estate planning, and no legal advice is given in the preceding pages upon which you can or should rely to your detriment. You may not hold the author responsible for any loss or damage you, your family, agents, beneficiaries or heirs may suffer or allege they suffered by relying upon any of the information stated above.
Brief Background on the Author Paul S. Nash, the author of this “Introduction To Estate Planning,” has specialized in estate planning law since 1977 in Orange County, and has handled estates of all sizes, from the “we’re just getting started and have nothing” individual or young family, the “typical American family” with two kids, two cars, a house, some savings, some insurance, and those with considerable estates who require sophisticated and complex estate planning coupled with business planning to tie their many interests together properly. Mr. Nash is a member of the Orange County Bar Association Corporate and Business Law Section, the Estate and Trust Section, the Orange County Planned Giving Counsel, and the Orange County Estate Planning Roundtable.
Mr. Nash also specialized in business law, regularly representing individuals and businesses with the formation, financing, operation, buying and selling small to mid-size businesses, and also represents many tax-exempt nonprofit charitable organizations.
Mr. Nash may be contacted for questions or consultations at any of the numbers found in the letterhead on the first page of this letter.