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Although a revocable living trust can be designed to deal quite effectively with estate tax issues, its real superiority over other methods of estate planning focuses on planning for the myriad of non-tax issues.

Life Care Planning, Estate Protection, Disability,
VA & Medicaid Assistance Lawyers

Revocable Living Trusts

Revocable Living Trusts

 

 

            The use of revocable living trusts for estate planning has increased in popularity over the past two decades.  Unfortunately, it is seen primarily as a planning tool only for families with taxable estates.

 

            Although a revocable living trust can be designed to deal quite effectively with estate tax issues, its real superiority over other methods of estate planning focuses on planning for the myriad of non-tax issues.  Many people think of estate planning as being synonymous with tax planning, but estate planning encompasses many issues far beyond the financial size of the estate.  The revocable living trust provides a mechanism to meet the diverse and complicated issues.

 

            The following are some of the more common issues you may face as you plan for yourselves and future generations.

 

1.         Passing property in trust to a surviving spouse does a better job of making sure that a married couple's plan stays on track.

 

            Most married couples, particularly in a first marriage, generally share certain basic planning goals: the property of the first spouse to die should pass to the survivor who can use, control and enjoy all of the property until the survivor's death; then, at the survivor's death, the remaining property should pass to that couple's children in equal shares.

 

            The revocable living trust is one of the best tools available to make sure that all of the goals of this typical plan are met. If a trust is not used and property is transferred outright to the surviving spouse, the couple's goals may be partially or completely defeated, particularly if the surviving spouse remarries.

 

            The typical married couple owns the assets of the marriage jointly. The surviving spouse "inherits" the joint assets (hereafter marital assets) by simply being the surviving spouse.  Similarly, each spouse will typically name the other spouse as the primary beneficiary on property that passes by beneficiary designations such as life insurance, annuities, IRAs and qualified benefit programs. Consequently, all the marital assets end up in the name of the survivor.

 

            Upon remarriage, property received by a surviving spouse outright may be lost to a new spouse. This can happen either inadvertently or intentionally. If the surviving spouse remarries after the death of the first spouse, the spouses in this new marriage may without really thinking about it, title some or all of their property in joint tenancy - including the marital property the surviving spouse "inherited" from the first marriage.

 

            If the original surviving spouse is the first to die in the remarriage, the marital property from the first marriage which has been put into joint tenancy with the new spouse will pass automatically to the new spouse who then has no obligation to pass that property to the children of the original couple.

 

            Although the children of the original marriage were meant by their parents to receive the property, it will likely be passed to the family of the new spouse.  The children of the first marriage were "disinherited" simply because the parents did not understand the impact of joint ownership.  In addition to the inadvertent possibility of joint ownership causing problems, the surviving spouse who receives their property outright may simply choose to give some or all of the property to the new spouse.

 

            This is not what most couples intend.  The most effective solution to these problems is for each spouse to leave property to the other in trust, rather than outright.

 

            Property left to the surviving spouse in trust can contain the simple directions that the surviving spouse may control, use and enjoy the property but only for himself or herself and the children.  Property in a properly designed trust cannot inadvertently end up as joint tenancy property nor can it be gifted to a new spouse.

 

            When the surviving spouse dies, the trust provides that any of the property not consumed by the surviving spouse or the children will pass, according to the terms of the trust, to the couple's children or other designated beneficiaries.  The use of a trust also prevents the surviving spouse from being free to give the property to a new spouse at death.

 

            Thus, with a trust, the first spouse of a couple to die can eliminate the possibility that either through inadvertence or intention his or her property will end up in the hands of a new spouse or the new spouse's family, rather than the original couple's family.  For most couples, it will be the most effective way to meet this basic estate planning goal.

 

2.         Passing property in trust to a surviving spouse provides protection from that spouse's creditors, including a future spouse.

 

            Married couples have the choice of leaving property outright to each other when the first of them dies. When this is done, either by use of a will, joint tenancy or a direct beneficiary designation, the surviving spouse becomes the new owner of the property left to him or her by the deceased spouse.

 

            A person's own property is subject to the claims of his or her creditors. These creditors can include exposure for liability due to professional or business activities, or inadequate homeowner's or automobile coverage. In addition, if the surviving spouse chooses to remarry, his or her new spouse, in the event there is a divorce, also becomes a potential creditor.  Plus, the creditors of the new spouse may also have a claim against all the assets of the new marriage.

            A trust can be drafted so that property left in trust to a surviving spouse will not be subject to the claims of the surviving spouse's creditors since trust property, unlike property transferred outright, will not be seen as owned by the surviving spouse.

 

3.         Passing property in trust avoids probate.

 

            At the time of death there are costs associated with passing property from the deceased owner to the designated beneficiaries, even to a spouse. If the property is not jointly owned or does not pass by beneficiary designation and if the value of the property exceeds a certain amount, a probate process will be required if a trust is not used.  This is true whether or not there is a last will and testament.

 

            Estimates for using the probate process is difficult to determine. This is true whether the estate is large or small.  For example, in two relatively modest estates the total cost of administration did not exceed $5,000 while in the second the total costs exceeded $90,000.  Some commentators state that probate costs range anywhere from 3 to 5%, on average, of the gross value of the estate.  Most of this amount is made up of attorney's fees.

 

            A fully funded revocable living trust, regardless of the size of the estate, often can reduce those costs to 1 to 2% or less of the gross value of the property being transferred inside the trust.  Moreover, the transfer process is completely private and is usually completed much more quickly, particularly if no estate tax is involved. Speed and privacy can be of particular importance when passing on the family business or other sensitive assets or if family issues dictate private settlement.

 

4.         The trust-maker names the trustee.

 

            Having the right person in charge of managing property is an essential element of good planning.  If a person becomes incapacitated, he or she can leave detailed instructions concerning the desired level of care.  Just as importantly, a trust-maker can personally select the trustee who will carry out the instructions.  Knowing who will serve as trustee gives the trust-maker the opportunity to discuss how the trust-maker wants the trustee to make decisions in the future.

 

            Through planning with a trust, a trustee can be preselected to serve if any of a number of circumstances occur, such as:  (a) incapacity of the trust-maker; (b) death of the trust-maker; [c] incapacity of the trust-maker's spouse; (d) death of the trust-maker's spouse; (e) surviving minor children; (f) surviving immature adult children; (g) the desire to include creditor protection for the surviving spouse or other beneficiaries; (h) a surviving heir with special needs; (I) the need or desire for professional management; or (j) heirs who suffer from addictions or who are susceptible to undesirable influences.

 

            In the event the pre-selected trustee is unable to serve when the time arises, a trust-maker can name any number of alternate or successor trustees.  Since a trustee has the fiduciary responsibility to follow the instructions left in the trust, the trust-maker can be assured that the designated plan will be followed.

 

5.         A trust is the best way to manage property during a period of incapacity when there will be no need to apply for Title 19 Medicaid benefits.

 

            An often overlooked value of trust planning is the management of property during periods of incapacity.  The trust-maker not only has the ability to name who will serve as the disability trustee, but with proper design the trust will establish the guidelines and instructions for the care of the trust-maker and other beneficiaries.

 

            For example, these instructions may express various preferences during a period of incapacity, such as: (a) home care should be provided to the disabled trust-maker rather than care outside the home; (b) trust assets may be used to provide assistance to children, grandchildren, parents, or other relatives who incur an emergency situation; or [c] instructions for care of a spouse may be included in the plan.

 

            If there is no trust, the two most common methods to manage a person's property, if he or she becomes incapacitated with a stroke, Alzheimer's, or other illness or injury, is a guardianship or a durable power of attorney. Neither is as effective as a trust.

 

            Those who do not engage in any planning will usually need a family member to petition the court to have a guardian named.  Court proceedings are expensive, time consuming, and impose limits that may not always serve a family's needs. Continuous annual reporting to the court results in further cost and court interventions.

 

            The durable financial power of attorney might be used to avoid the need for guardianship, but this technique also has limitations.

 

            A power of attorney names a person who will be in charge of the incapacitated person's property, but most durable powers of attorney do not effectively leave detailed instructions for the management of property.

 

            As a result, the person holding the power of attorney effectively has a "blank check" access to the assets of the incapacitated party with little or no oversight.

 

            Placing instructions in the power of attorney of the type placed in a trust is seldom done.  For guiding instructions to work the best, they should be part of a Revocable Living Trust.

 

            In addition, banks, brokerage firms, and other financial organizations frequently are reluctant to accept instructions from the agent named in the power of attorney.  On the other hand, trusts seldom suffer from this reliability problem that plague durable powers of attorney when there is an actual need for use.

6.         Families with minor children should use trust planning.

 

            Parents routinely name minor children as primary or contingent beneficiaries on life insurance policies or retirement benefits without realizing the potential planning nightmare.  Minor children, by law, are not permitted to inherit property or receive property by beneficiary designation.

 

            Therefore, if upon the death of a parent, a minor child will receive a distribution, the court imposes a court directed guardianship(or "trust") over the proceeds which continues only until the child's eighteen birthday.

 

            This can result in a number of undesirable consequences. While the spouse may be the guardian of the children, the court may exercise its discretion to appoint a third party as the custodian of the children's assets.  Is it desirable that the surviving parent be dependent upon another party to dole out money for the care of the family?

 

            When a court sets up a guardianship for a minor beneficiary, it supervises the administration of the guardianship through annual accountings. Consequently, even when a spouse is named as the trustee for the children, the spouse must account to the court as to how the money was spent. This reduces family flexibility and adds to the cost of administration.

 

            The court's jurisdiction over a minor ends upon the child becoming an adult at age eighteen. Few eighteen year olds are sufficiently mature to receive an inheritance which can result in the "Red Ferrari Syndrome." The money that has been carefully saved for college gets invested in a shiny new sports car.

 

            Rather than involving a court, a parent can create a trust for the benefit of the children and select the trustee. The trust will not end until the time the parent designates. Now the college savings will be used for the intended purpose.

 

7.         Equal is not always equitable.

 

            Without planning, property will be distributed equally to the children when both spouses are gone. Is that the correct plan for the family?

 

            Should the cardiologist's son get the same distribution as his "special needs" brother? What if the children are four years apart in age? If distribution to the children occurs when one is age 18 and the other is 22, it is likely that the older child received help with post high school education while the younger child received none. If they inherit the same amount, the younger child will spend the inheritance on college expenses, while the older child, whose college was paid by the parents, is left with a windfall.

 

            A trust allows parents to create the plan that is right for their family and equitable to all beneficiaries.

 

8.         Translation of No Plan: "Mom and Dad didn't care."

 

            With no plan in place, the message that is sent to the family is that Dad and Mom did not care sufficiently about the family to create a plan.  The children are left to untangle the legal web and are reminded at each step that their parents did not think they were worth the time to plan.

 

9.         Passing property in trust to children and other beneficiaries provides them with creditor and failed marriage protection.

 

            We have already seen that trusts can provide remarriage and creditor protection for the surviving spouse. There are also significant benefits to passing property in trust to children and other beneficiaries rather than distributing the property outright.

 

            Property left to a child or other beneficiary in a correctly designated trust will be seen as owned by the trust rather than the individual beneficiary.  The property will be protected from the beneficiary's creditors, including a failed marriage, or the creditors of your beneficiary's spouse.

 

10.       Property transferred in trust can protect a beneficiary from investment mistakes or the schemes of predators.

 

            When property is left outright to children or other beneficiaries, all in a single lump sum, that property may or may not be invested wisely depending on the choices the beneficiary makes.  If the beneficiary is free to make decisions with respect to the entire amount left to the beneficiary, then one mistake could cost that beneficiary his or her entire inheritance.

 

            One way to avoid this difficulty is to leave property in trust, at least for a period of time, ad then allow payouts to be made on an installment basis. That way only the portion of the property that is distributed free of trust would be lost because of a poor investment choice or because the beneficiary was scammed by an unscrupulous person. The property which remains in trust, if it is properly designed, will have a co-trustee to prevent this sort of tragedy from occurring.

 

11.       Maintenance of family values through multi-generational planning is possible.

 

            Particularly in larger estates, the assets available for distribution to children may exceed the amount needed for maintenance of their lifestyle.  Rather than leaving all of the property to children, lifetime trusts for the benefit of children can be created, with the unused assets remaining available for the use of future generations.

 

            As each generation passes, the trust continues to benefit grandchildren and beyond.  Incentives can be designed into the trust plan so that the trust-maker's family values can be woven into the distribution requirements and beneficiaries will not be eligible to receive distributions unless certain standards of conduct are maintained.

 

            The trust can pay for the professional help necessary to return a beneficiary with drug, alcohol or emotional problems to a meaningful role in society.

 

            These trusts also can be designed so that there is no estate tax as the trust assets pass for the use of each subsequent generation.

 

12.       The need for tax planning continues because the "repeal" of the estate tax is a slow phase-out plan stretch over the years and is temporary.

 

            The estate tax "repeal" is a slow phase-out leaving most of the estate tax in place until 2010. The repeal then expires on December 31, 2010, returning the estate tax to the standard established under the Tax Act Release of 1997. In other words, full repeal is in effect for only one year.  Consequently, planners are left in a quandary with respect to what impact estate taxes will have.

 

            Tax planning continues to be needed until 2010, and it may be required thereafter. As a result, planning with flexibility is key and planning with trusts maximizes the flexibility of the plan.

 

Conclusion

 

            Whether single or married, whether your estate is large or modest, whether the estate tax is in place or not, trusts offer terrific protection for beneficiaries.  Moreover, trusts are a superior way of accomplishing planning for the management of property during a period of incapacity (when there will be no need for Title 19 Medicaid) and have proven themselves to be a less expensive, quicker and more private way to transfer property at death when compared to the probate court system.

 

            Richard Habiger is an estate planning and elder law attorney.  You may contact him at 618-549-4529 or Richard@HabigerElderLaw.com.


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Phone: (618) 985-4529