GUIDE TO BASIC ESTATE PLANNING

The following is a summary of Estate Planning Law.

PART 1: REVOCABLE LIVING TRUST vs. WILL

A. Introduction

In general, an estate plan can be implemented either by the use of wills or by the use of a revocable trust. The revocable trust generally avoids probate, and has other advantages and disadvantages, which will be discussed in this Part I. Some important points to note include:

  • It avoids, or may largely avoid, the probate procedure.
  • It provides a mechanism for the management of an individual’s affairs in case the individual becomes Incapacitated.
  • It often requires additional paperwork and accounting.
  • It provides more privacy for one’s financial affairs at the time of death.
  • It can have tax planning advantages for married couples.

It is important to realize that the revocable trust leaves you in complete control of your assets until the occurrence of incapacity or death. You may choose to be the trustee of your own trust or to name someone else as trustee. In either case, you will have complete power to amend the terms of the trust, withdraw property from the trust, put additional property into the trust, or revoke the trust entirely, as long as these actions are done in accordance with the terms of the trust agreement. The terms of a trust usually require that such actions be carried out in writing, be signed by the creator of the trust and/or its trustee, and that records of such actions be kept with the trust agreement.   The revocable trust does not, therefore,  change  the substance of your ownership rights.

B.     Avoidance of Probate

Probate is the court procedure that oversees the transfer of assets in a person’s  estate after death.   Probate  is required  if a person has a will (but not a revocable  trust) or if a person dies intestate (without a will), or for certain assets not titled in the trust.  A properly funded revocable trust avoids  probate because the assets that are placed in it are subject  to the terms of the trust, and must be distributed after death as the trust directs, not as your will directs.

1.     Costs of Probate

Probate   is  a  time-consuming  process  that  involves   marshalling   and  distributing   a decedent’s assets  through  a  public  court  process.    Avoiding  probate  would  also  avoid  the associated  attorneys’  fees and executor’s fees.   In California, attorneys’  and executors’ fees for ordinary  probate  proceedings  are  usually determined  by a sliding  scale  based  upon  the  gross value of the assets subject to probate, as follows: 


These fees are set by California  law, and both the attorney and the executor  may collect them.  If the executor  is a family member, he or she may elect not to take the executor’s fees.  In that case, the comparison  of costs between a trust and a will should  not consider  the fees of the successor  trustee or executor.   Since  there are likely to be some attorneys’ fees in connection with the administration  of the revocable trust upon death, not all of the fees can be saved with the use of a revocable  trust.   However, one may expect that a substantial  portion of the attorneys’ fees will be avoided,  particularly  in the larger estates.   Even in the smaller  estates, titling your assets in a trust may save an estate thousands of dollars.

2.     Time to Administer Estate

The probate process  in California  has certain deadlines and timeframes  to administer  an estate, including a mandatory  four-month  window in which creditors  may file claims.  A typical probate takes a year or longer, depending on the backlog of the court.  Since trust administration does not typically require court oversight, it can be completed faster than the probate process.

3.     Multiple Probates

If a  person  owns  real  estate  in several  states,  it  may  be  especially  advantageous   to establish a revocable trust.  Otherwise, separate probate procedures may be required in each state where real estate is located.

4.     Possible Advantages to Probate

Probate may have advantages  in certain situations.  The probate procedure  provides court supervision,   and   may   therefore   provide   greater   assurance   that   property   will   reach   the beneficiaries for whom  it is intended.   Furthermore, probate generally  cuts off creditor’s claims more quickly, since such claims must be made within four months after publication of the notice to creditors.  If the decedent  has large potential debts or lawsuits, it may be important to utilize a probate procedure to cut off any claims.

C.     Provision For Incapacity

In the trust  instrument,  the settlor (creator) of the revocable  trust nominates  a successor trustee, who will become the trustee  if the initial trustee  becomes  incapacitated.    Therefore,  if you are the trustee of your own trust and become incapacitated,  the trust provides an automatic mechanism   for  the  individual   named  as  successor   trustee  to  step   in  and   take  over   the management of your financial affairs, at least as to those assets which are titled in the revocable trust.   In this way, the trust may avoid the necessity of a conservatorship over  your affairs on your incapacity.

D.    Accounting and Paperwork

For the revocable trust to be effective, your assets must be transferred  into it.  The owner of  your  stocks,  real  property,  and  bank accounts  will appear  as,  for  example,  "John  Smith, Trustee of the Smith  Revocable Trust, dated January  7, 2015."   When  you first establish  your trust, you should change the title to your property, and then you must be careful to maintain all of your  significant  assets  in  the  proper  trust  titled  form.    If your  assets  are  not  held  by  your revocable trust at your death, a "pour-over" will puts the assets into the trust, but that step could require a court procedure.   It is preferable for you to continually  maintain  your trust by holding title to your assets in the name of the trust.

E.     Privacy

At your death, your will must be "lodged" or filed in the in the county of your residence, even if there will not be any probate.  If your will disposes of your assets, your bequests will be public  record.    Additionally,  if your  will  is probated,  your executor  will  have  to  prepare an inventory of your assets for the Court.  This inventory will be open to the public for inspection.

If  you  have  a  revocable  trust,  and  the  title  of  assets  is  in  the  trust,  your  assets  and bequests will be private.   No outsider will be entitled to know the contents  of your estate, or the identities of the beneficiaries.   Since the trust remains private,  if your trust  is properly funded, your bequests normally will not be open to public inspection.  Your beneficiaries and other heirs, however, would likely be entitled to view the trust and its terms.

F.    Conclusion

For most people, it is preferable to execute a trust rather than simply  a will.   Although preparing a revocable trust may be more expensive than preparing a will upfront, the long-term costs to a person’s  family will be substantially smaller with a trust.  The additional  advantages of shortened time of administration  and increased privacy greatly outweigh  any inconvenience  with transferring  the title of your  property  into the trust.   The type of the trust  and the  manner of transferring your property to your loved ones upon your death will be discussed  in the next part of this memorandum.

PART II:  BASIC PLANNING ALTERNATIVES

A.    Introduction

In addition to the advantages of privacy and probate-avoidance,  there are often estate tax advantages  to implementing  a trust.   The estate tax has been a part of the federal  tax structure (off and on) for over one hundred years.  The rest of this discussion  will be based on rules that are currently in the Internal Revenue Code and are effective as of January 1, 2015.

B.    Estate Planning Terms:

I.     Lifetime Exemption From Gift and Death Taxes

The unified credit allows each individual to transfer a certain amount of assets (including gifts made during lifetime and transfers at death) exempt from "transfer  tax".  It does not matter to whom the assets are transferred or what type of assets are transferred.  The lifetime exemption amount  for both gift and estate  purposes is $5,430,000,  effective January  l, 2015.    Gifts made by an  individual  during  his/her  lifetime  (other  than  those  described   in  2  and  3  below)  are combined  with the  individual’s estate  at death to determine  whether  the $5,430,000 limit has been exceeded.  The tax rate on gifts or the estate above the exemption  amount is 40%.

2.     Marital Deduction

The marital deduction allows a person to transfer an unlimited amount of assets to his or her spouse, without tax.  Consequently,  it is easy to avoid tax completely when a husband or wife dies, if everything  is left to the surviving spouse.  However, the marital deduction  is not available if the surviving spouse is not a United States citizen.  In that case, special planning must be done in order to avoid or minimize the estate tax due on the death of the first spouse.   One of the permutations of the AlBIC Trust (discussed below) involves the situation of a non-citizen spouse.

3.     Annual $14.000 Exclusion & Gifts to Charity

In addition  to the lifetime gift exemption amount, annual gifts of up to $14,000  per year can be given to an unlimited number of persons free of gift tax.  Those gifts will not use up any part of the giver’s  lifetime  exemption  amount,  currently $5,430,000.  Additionally,  gifts made directly to an educational  institution or health care provider (including an insurance company) on behalf of  another  do  not  count  against  the $14,000  annual  exclusion  or  against  the  lifetime exemption  amount.  Transfers to charity (by gift during life or by transfer at death) generally are not taxed.  Gifts to trusts that benefit both charity and individuals may qualify for reduced taxes.

C.     Married Couple Alternatives

Married  couples   with  substantial   community   property   have  three  basic  options  for planning  their estates.    If one  or  both of the spouses  own  substantial  separate  property,  they should speak with their attorney to discuss other factors and alternatives.

Selection  of  one  of  the  three  options  requires  a  thorough  review  of  family  goals,  an analysis of the family’s wealth, and a balancing of tax savings and management  continuity.

It  should   be  kept  in  mind  that  all  community   property,  including  the  proceeds  of community property life insurance policies, is treated as belonging one-half to each spouse. Consequently, the taxable estate of first spouse to die includes only one-half of all such property. In all three of these options, the entire trust is revocable until the death of the first spouse to die. At that time, one or more of the sub-trusts  may become irrevocable,  but at least part of the trust will be revocable and amendable  by the survivor.

1.     ’’All to the Survivor’s  Trust"

Under this option all property of the first spouse to die (the "Deceased  Spouse")  is funded to the Survivor’s Trust, which remains fully revocable by the survivor.   Provided  the Surviving Spouse is a U.S. Citizen, no estate tax is due on the death of the Deceased Spouse because of the unlimited  marital  deduction.    However, the entire  estate  is then subject  to estate  tax  upon the death of the Surviving Spouse,  using the value of assets at that date.  This  plan could result in a higher overall  estate  tax burden on the family after both spouses  are deceased.    Congress  has passed new laws that may reduce the estate tax burden.   If the Surviving  Spouse  timely files an estate  tax  return  with  the  Internal  Revenue  Service  upon  the  Deceased  Spouse’s death,  the Surviving Spouse  would be eligible for "portability."  This election  would give the survivor  the ability to use his or her own estate tax exemption, plus the Deceased Spouse’s unused exemption (subject  to certain  restrictions  and conditions).   "Portability" may only  be elected  by filing an estate tax return, Form 706, with the Internal Revenue Service, and claiming  the amount eligible for "portability" on that return.   The Surviving Spouse’s exemption,  under this scenario, would be as high as $10,860,000.00 in 2015.

lf "portability" is not elected by the survivor, the Deceased Spouse could have transferred up to $5,430,000  of his or  her estate  to anyone  without any  estate  tax due.    If the Deceased Spouse  gives  all of his or  her property  to the Surviving  Spouse,  then  the  Deceased  Spouse’s estate qualifies  for the unlimited  marital deduction, so there is no taxable estate  at the time.   If the exemption  amount  is not claimed on the death of the Deceased  Spouse  and "portability" is not elected, then the Deceased Spouse’s exemption is lost.

 
2.     "The AlB Trust" or "The A/Marital Trust"

In simplified  terms, under this option, upon the death of the Deceased Spouse an amount equal  to  the  Deceased  Spouse’s  exemption  amount  is  left  to  the  "Bypass   Trust,"  and  the remaining  property  is given  outright  to the Surviving  Spouse.    Generally,  the  Bypass  Trust distributes its income to the Surviving Spouse, and gives the Surviving Spouse a limited right to invade principal for health, education, support, or maintenance.  Often, the Surviving Spouse has a  limited  power  to direct  the  remainder  interest (what’s  left after  the death  of  the Surviving Spouse) among the couple’s descendants, and/or charity.

Using a traditional  AlB Trust,  no estate tax is due on  the death  of either  the Deceased Spouse or the Surviving Spouse for the property allocated to the Bypass Trust.  Therefore, all appreciation  in the asset values in the Bypass Trust escape estate tax in the Surviving Spouse’s estate.  Assets left outright to the Surviving Spouse (or to the "Survivor’s Trust")  will be subject to estate tax on the death of the Surviving Spouse, but the Surviving Spouse’s exemption  amount will still be available to the Surviving Spouse’s  estate at his or her death, as illustrated below.

Due to recent changes to the estate tax laws, the Surviving Spouse could elect to include the  assets  of  the  Bypass  Trust  in  his or  her estate,  and  thereafter  elect  "portability."   The advantage  would  be to give the Surviving  Spouse’s  estate a step  up in basis for assets  in the Bypass Trust at the survivor’s death.  However, there are also risks for this strategy.  If the assets of the  Bypass Trust  and/or  Survivor’s Trust  increase  in value  over  the exemption,  increased estate taxes  may be due.   In addition,  future changes to laws could  affect  this benefit, such as Congress lowering the exemption  from estate taxes.

The A/B Trust does not give the Surviving Spouse complete  control  over the assets that once belonged  to the Deceased Spouse and are put into the Bypass Trust, to the extent possible under the "All to the Survivor’s Trust" option.  Although the Surviving Spouse (as the Trustee of the Trust) may have the discretion to choose investments and the power to make some changes to the remainder beneficiaries, the Surviving Spouse will still have fiduciary duties and be required to account  for his or her actions over the Bypass Trust.   If the couple  is concerned  about  this control and is not sure that they will be impacted by the estate tax, the couple may want to leave the decision of whether to use the first or second option to the Surviving  Spouse.  This trust with dual provisions is known as a "Disclaimer  Power of Appointment Trust".   The Surviving Spouse can disclaim all or any portion of the Deceased Spouse’s assets, but generally only disclaims the amount  that  would  be  protected  by  the  exemption  amount.    A  qualified  disclaimer   by  the Surviving Spouse  must be made within nine (9) months of the death of the Deceased Spouse, in order to achieve the full advantages of the A/B Trust.

Regardless of whether the couple selects the A/B Trust or the disclaimer  alternative,  the Surviving Spouse  may choose to make a disclaimer of more than the exemption  amount  in order to pay estate taxes at the death of the Deceased Spouse,  rather than wait until the death of the Surviving  Spouse.   Your attorney  may advise the Surviving Spouse  to consider  making such a disclaimer  if your property  is rapidly appreciating,  and would be taxed at a much higher value upon the death of the Surviving Spouse.

If the Surviving  Spouse  elects to disclaim a portion of the Deceased Spouse’s property, the Surviving Spouse may not control the remainder beneficiary of that portion.

If the Deceased  Spouse’s estate  is less than the exemption  amount,  so that the Bypass Trust is funded with less than $5,430,000, the Surviving Spouse may elect "portability" over any portion of the Deceased Spouse’s exemption that is unused at the Deceased Spouse’s death.

3.     "The AlBIC Trust"

Under this option, at the death of the Deceased Spouse, three trusts may result.  As with the AlB Trust, the Bypass Trust consists of the available exemption  amount.   Since the Bypass Trust consists of the Deceased Spouse’s available credit, no estate tax will have to be paid on this amount (either on the death of the Deceased or Surviving Spouse).   As discussed  in the section above,   it  may   be  possible   to   make  an  election   ("QTIP   Election")   and   thereafter   elect "portability" for assets in the Bypass Trust.

The balance of the Deceased Spouse’s  property, over and above the exemption  amount, is allocated   to  the  "Marital   Trust"  (technically   known  as  the  "qualified   terminable   interest property" trust ("QTIP"  Trust)).    If the Surviving Spouse  makes an election  for this trust, the Marital Trust will qualify  for the marital deduction so that estate taxes on this property will be deferred until the death of the Surviving Spouse.   If the Surviving Spouse  is not a U.S. Citizen, there are additional  requirements  to avoid the estate  tax at the death of the  Deceased  Spouse, which you should discuss with your attorney.  The trust for the benefit of a non-citizen spouse is known as a qualified domestic trust ("QDOT").

The  AlBIC Trust does  not provide for more estate tax savings  than the A/B Trust.   Its primary advantage  is that it gives the Deceased Spouse control over the ultimate recipients of his or her share of the total estate, rather than just control over the amount in the Bypass Trust or no control if all assets are left outright to the Surviving Spouse.

D.     Distribution to Beneficiaries

Once  the  appropriate  form  of trust  is selected,  the settlor(s)  must  decide  whether  the ultimate beneficiaries  will receive their inheritance outright or in trust.  A trust may be beneficial if a beneficiary is too young or immature to handle the funds.  A responsible  trustee will manage the trust until the beneficiary reaches a certain age or milestone (e.g., graduation  from college).

A trust may also be appropriate  if the Settlors want the funds to benefit many generations in succession  or to benefit a group of people (e.g. grandchildren)  so that they all have the same financial opportunities (e.g. college tuition).

A trust may also  protect the assets from the beneficiary’s creditors  or from loss on the dissolution of the beneficiary’s marriage.

E.     Additional  Possibilities

For many couples, one of the three options discussed above will be fully responsive to the family’s  needs  and  goals.    However,  these options  certainly  are  not  the only  estate  planning alternatives  available  to  a  family.    For example,  for  families  where  there  is substantial  life insurance, the irrevocable  life insurance trust provides cash for payment of the estate tax liability which is usually due upon the death of the Surviving Spouse, without a potential 40% reduction of the value of the life insurance due to estate tax on the insurance.   In addition,  charitable  gift planning can be combined  with family distributions and protection.  In some cases, the charitable gifts may result in elimination  of most estate tax while still passing assets to family after a time delay.  Further, income tax issues must be dealt with in the structuring  of the overall estate plan. It is very important to speak to your attorney about your specific family goals.

PART III:  OTHER  ESTATE PLANNING DOCUMENTS

A.     Durable  Power of Attorney

Durable  Power  of  Attorney  is a written document  which  one  person  (the  principal) signs to empower  another  person (the attorney-in-fact)  to act on  behalf of the principal.   This document is very useful if the principal is often away or would like assistance  in the management of  his or her financial  affairs.    If the principal  does  not want  the attorney-in-fact to have the power  while  the  principal  is able to act, the Durable  Power of  Attorney  can  provide  that the agent’s power "springs" into action  upon  the incapacity  of the principal  (called  a "Springing Durable Power of Attorney").  If not every asset is held in the trust when the principal  becomes incapacitated, the attorney-in-fact can transfer the assets into the trust.

B.     Advance Health Care Directive and HIPAA Release

Like the Durable  Power of Attorney, an Advance  Health Care  Directive  is used so that one  person can  make decisions  for another.    Pursuant to this document,  the agent  may  make medical decisions  for the principal  if the principal  is unable to communicate  his or her health care wishes.  The agent can make all decisions about the health care of the principal, subject only to limitations specified  in the document by the principal and some other restrictions  by law.  For example,  an Advance  Health Care Directive does not give the agent  the power to commit  the principal to a mental health facility or to authorize sterilization.   It may give the agent some post-death powers including the power to donate the principal’s  body parts for transplant and to direct the disposition of remains.

In this document,  the principal may also state whether he or she would like to be kept on life support  if suffering  from a terminal condition.   If the principal states  his or her preference, the agent is bound to follow his or her wishes.  The Advance  Health Care Directive is effective for an indefinite time unless its duration is limited or it is revoked.

A  HIPAA  Release  can  allow  family  or  other  named  persons  to  access  confidential medical  information  which  could  be  important  in  a  medical  emergency   or  loss  of  mental capacity.

read more
Subscribe to our newsletter
subscribe
Visit Us
11404 South St. Cerritos, CA 90703