CHAPTER 2
Estate Planning
What Is Estate Planning?
Estate planning is the process of controlling your assets, both during your life and after your death, with three primary objectives in mind. First, you want to ensure that your assets will always be sufficient to provide for you and your family's lifestyle needs. Second, you want to make certain that your assets go to the people and/or organizations of your choosing. Finally, you want to minimize the amount of taxes, fees, and court interference associated with settling your estate. This definition is broad, as well it should be. A properly designed estate plan encompasses the landscape of financial issues.
Investment Planning
Your investment plan should focus on providing enough assets to meet your retirement needs, the cost of funding your children's education, and expenses such as financial assistance for elderly parents. It should be designed so that your expected long-term returns will meet your financial objectives. Your risk tolerance should be examined to ensure that your portfolio is not too aggressive for your personality.
Tax Planning
As you're managing all your finances, you should pay close attention to tax efficiency. Consider the following question: How can you best use tax-deferred or tax-free investment vehicles? Are there ways to accomplish some of your goals by shifting income from yourself to another family member who is in a lower tax bracket? Can you make a gift to a charity in such a way that you receive long-term economic benefits? Is it possible to convert ordinary income, which is taxed at your highest tax bracket, to long-term capital gains?
Protecting Your Family
How long will you live? Of course, you cannot answer this question. Your estate plan should address the possibility of a premature death as well as the possibility that you will live “too long.” Simple solutions to “dying too soon” include the use of life insurance. Issues of “living too long” are often handled through use of trusts, living trusts, a power of attorney, or long-term care insurance.
Protecting Your Assets
Given our litigious society, if you have accumulated significant assets, your estate plan should include an asset protection plan. You can employ simple strategies such as liability insurance or more sophisticated strategies such as domestic or foreign asset protection trusts.
Carrying Out Your Personal Goals and Wishes
Do you have a deep desire to protect our environment? Have you considered making gifts to your alma mater? Do you have a relative who may need financial support? Outline all your goals and then design your estate plan to carry them out.
Gathering and Drafting Appropriate Documents
A vital part of your estate plan will consist of developing appropriate legal documents to ensure that your wishes are carried out. The most basic of the documents will be your will. Other documents include deeds, mortgages, and trusts and property titles. Part of your estate plan should include gathering and organizing all vital documents. This has two important advantages. First, your documents will be easy for you to locate and retrieve when they need to be reviewed. Second, your survivors won't have to search for documents needed to settle your estate after your death. Believe us, your loved ones will think kindly of you for having done this for them.
As you can see, estate planning consists of much more than avoiding taxes. The right planning will not only give you and your family great peace of mind but will also help you accumulate wealth faster and more effectively.
The Benefits of Estate Planning
Developing your estate plan is perhaps the most important financial step you can take. It creates focus and puts you in charge of many aspects of your finances. Let's look at the benefits to your immediate family.
If you are single, your estate plan will provide for the orderly transfer of your assets to those people or organizations you specify, thus reducing or eliminating the hassle for those who will assist in settling your estate. If you are married and have children, the issues will usually be more complex, but the benefits of planning will also be more profound. Make certain that your surviving family has immediate access to cash to cover ongoing living expenses while your estate is being settled. Although it may be hard to imagine that this would be a problem, it is not unusual for the courts to freeze assets for weeks or even months while trying to determine the proper disposition of the estate. The surviving spouse is then forced to apply to the court for needed cash to pay current living expenses. You can imagine the additional stress caused by this difficulty.
In your estate plan, you may also want to address issues regarding funding for your children's education. If you have young children, you may want your surviving spouse to have the option of not being employed so that he or she can devote more attention to your children.
If your spouse lacks knowledge or experience in financial matters, your estate plan should provide for assistance with financial management, such as setting up trusts. Also, your estate plan should consider the consequences of both you and your spouse dying simultaneously. If you have minor children, you will want to select someone to manage your assets for their benefit. You don't want the court to make this decision for you. In this situation, your estate plan should also address when your children will receive your assets free of trust. When children receive substantial assets before they are mature enough to handle them properly, the results can be devastating.
We recall the case of a child who starred in several movies. Because he was a minor, his earnings were held in trust until he was legally an adult. When he turned 18, he took possession of the money and immediately began to use it to support a lavish lifestyle. Within 24 months, he had run through all of his money! The sad thing is, if handled appropriately, it would have been enough money to provide a lifetime of basic financial support.
Even more pressing than financial matters is the issue of who will raise your children if you and your spouse die prematurely. Give very careful thought to your choice of a legal guardian. Remember, it is this person's values that are likely to be instilled in your children. In developing your estate plan, you will also want to give consideration to the age and financial condition of a potential guardian. Some guardians may lack the child-rearing skills you feel are necessary. Make sure that your plan does not create an additional financial burden for the guardian.
Do you have a favorite cause, charity, or religious organization? You can use your estate plan to provide financial assistance either during your life or at your death. This is one of the instances in which our government actually provides you with incentives to do so.
During your lifetime and at your death, your estate plan should focus on how best to reduce taxes and expenses. For when you're alive, the primary focus is on income tax issues. At death, there may also be estate tax issues and administrative fees as well as other expenses to consider. Plan well and you can minimize costs, thus allowing more money to pass to your family.
Your estate plan can also be used to provide assistance and help for members of your extended family. Consider carefully, for example, whether you may need to provide financial support for a parent, sibling, niece, or nephew. If the answer is yes or maybe, there may be solutions that also provide you with tax benefits.
The ultimate benefit of a well-crafted estate plan is that it provides you with a compass for managing your finances. It will lessen not only your own stress but that of your loved ones as well. It is the right thing for you to do, and it's worth the time, effort, and expense.
The Nightmares of Poor Planning
All too often, people procrastinate and neglect their estate planning. The results can be devastating. Take a moment to review the following list and determine whether any of the examples could apply to you or your family. If the answer is yes, let this serve as your wake-up call to get started now!
- You are sued, which results in an exceedingly high judgment against you. Your estate plan should include asset protection strategies.
- You become disabled and are unable to handle your finances. Part of an appropriate estate plan includes a power of attorney designating who will take control of your finances should you become incompetent.
- You die without naming the guardians of your child or children. This mistake forces the courts to make this decision for you, possibly resulting in your children being raised by someone you would not have chosen.
- Your children inherit money at an age that destroys both their ambition and their work ethic. We have seen this happen often. Setting up a trust that provides for their needs without overindulging them can solve this problem.
- You own a business or real estate that must be sold at fire sale prices in order to pay your estate taxes. We've seen cases where property had to be sold for a fraction of its true value because the taxes were due but real estate prices were depressed. You must determine your potential estate tax liability and determine where the cash would come from to pay that liability.
- You or your spouse move to a nursing home, and the bills consume all of your assets. One potential solution to this problem is to own a long-term care insurance policy.
- You fail to provide for a child with a disability or special needs. In such a case, the child may become a ward of the state. If your child has special needs, you need to consider specialized trust planning.
- Your family must pay excessive legal fees and court costs to settle your estate. You may not be able to eliminate these costs, but you can significantly reduce them through proper planning.
Each of these nightmares has a solution that can be addressed through your estate plan.
The Myths of Estate Planning
You still may not be convinced that estate planning is absolutely necessary. We often find that people have preconceived notions about estate planning that have no basis in reality. Let's examine a few of the more popular versions.
Myth 1: Estate Planning Is for Old People
You are part of the Baby Boomer generation, Generation X, or Generation Y and have plenty of time to develop your estate plan, right? Wrong. Estate planning is an important consideration not only for older people but for everyone. Unless your family circumstances and finances are incredibly simple, you need to begin developing your estate plan now.
Myth 2: Estate Planning Is for the Rich
Be careful to distinguish between your financial net worth and your estate net worth. Adding life insurance death benefits to your other assets can easily place you in estate tax jeopardy! Additionally, there are many estate-planning issues other than taxes. For example, consider the issue of financial management in the event you become incompetent owing to an accident or illness. Moreover, proper attention should be given to planning for the financial future of your young family in the event of your untimely death.
Myth 3: Estate Planning Focuses on Death
Many people avoid estate planning because it makes them think about death—either their own death or the death of someone they love. We have had many client meetings in which an individual broke out in tears at the thought of a loved one's death. Obviously, estate planning must deal with death, but many living issues are just as important. For example, what is the best way to fund your child's college education? Do you pay for it from cash flow, or do you gift your child money and use a custodial account or a qualified educational trust? What is the best way to protect your hard-earned assets from a successful lawsuit? Your estate plan must address an array of living issues as well as death issues.
Guidelines for Successful Estate Planning
Get Organized
Pull all of your vital documents together and organize them so that you or the person(s) who will assist in settling your estate can easily locate each document. Consider setting up a designated file cabinet at your home or office. Essential documents include the following:
- Federal tax returns (for the past seven years)
- State tax returns (for the past seven years)
- Pay stubs (the two most recent ones)
- Financial statement
- Confirmation statements (brokerage accounts, mutual funds, etc.)
- Retirement plan statements (individual retirement account [IRA], Keogh, pension, profit sharing, etc.)
- Insurance policies (life, disability, property and casualty, health, etc.)
- Amortization schedules (home, business, property, etc.)
- Business documents (partnership agreements, corporate papers, etc.)
- Corporate/partnership tax returns
- Wills (if you are married, for you and your spouse)
- Trust agreements
- Gift tax returns
- Employee benefits summary
- Notes, mortgages, deeds to real estate, termite bond, survey, appraisal
- Bank account statement(s) (for the past 12 months)
- Credit card statement(s) (for the past 12 months)
- Birth certificate(s)
- Car title(s)
- Marriage certificate
- Retirement plan beneficiary designations
- Loan agreement(s)
For a printable detailed form, visit the Resource Center at www.welchgroup.com; click on “Links,” then “Probate Checklist.”
Determine Your Current Estate Net Worth
A detailed discussion of how to determine your current estate net worth is included in Chapter 3. Put simply, it is vital that you know where you are now. People often believe they have small estates, and therefore have little concern for estate planning. They are shocked to find that not only could they potentially owe estate taxes, but those taxes could run into the tens of thousands of dollars! When you include your life insurance, the dollars add up fast. Furthermore, even if your estate is not subject to estate tax, there are numerous income tax issues that require proper estate planning.
Establish Your Estate-Planning Goals
Included in Chapter 6 is a discussion of how to establish your estate-planning goals. There are many, many strategies available to accomplish a vast array of potential goals. By establishing your goals early, you bring order and focus to your estate plan while avoiding the hit-and-miss planning that most people use. Your goals should be divided into lifetime goals and death goals.
Hire Competent Professional Help
Most likely you will need a team of competent advisers from various fields to assist you in your estate planning, including attorneys, financial advisers, insurance representatives, accountants, and bankers. Many of these people specialize within their general fields. For example, some attorneys specialize in estate planning. Many financial advisers are now specializing in wealth management, which focuses on wealth accumulation and multigenerational wealth transfers. You will find life insurance representatives who specialize in working with business owners and bankers who cater to high-net-worth clients. Putting together the right advisers and then working with them as a team will pay big dividends in your end results.
Monitor Your Progress
Estate planning is a dynamic process, not a static one. Your circumstances are constantly changing, as are our tax laws. Reviewing your estate plan every two to three years will keep you on the leading edge of the strategies and techniques available to meet your goals.
In the next chapter, we will review how the federal tax system works, and you'll learn how to develop your estate net worth statement, calculate your potential estate taxes, and outline a broad range of strategies you can use to reduce taxes and implement your estate plan.