Honesty in Estate Planning

     Of all of the reasons to begin the estate planning process, one of the most important for many clients is gain the peace of mind that comes from knowing a plan exists to care for their loved after the client’s death. For some people that means having guardians and trustees who will see to it that their children grow into responsible adults. For others, that plan is as simple as making sure that someone will organize their assets and divide them equally between the beneficiaries. These clients have common situations and it is easy for them to express their concerns for the future. Generally, the client is forthright and open about their desires and therefore we are able to establish a plan to meet those goals.

     For other clients, this process is not as simple. These clients find themselves in a position where they know that their children or other loved ones, for a variety of reasons, are incapable of managing assets for themselves and will need additional assistance. Some of these beneficiaries may have substance abuse problems, others may simply be bad at managing money, and others still may be in relationships that the clients feel are not in the beneficiary's best interest. In all of these circumstances, it is possible to craft an estate plan that addresses the clients concerns, but only if the client is willing to be open and willing to discuss the situation truthfully. 

     For clients with more complex situations, we find that problems often arise due to the clients desire to keep their private lives private. No one enjoys admitting that everything is not perfect, and often clients who need more complex planning will not open up about their concerns, despite our best efforts, until well into the planning process. While this delay is understandable, it is important to remember that attorneys and financial planners can only provide good advice if our clients give us access to all of the pertinent information. 

     There are many tools and techniques which we can use to help a client create a plan that will care for their loved ones’ needs, but only when the client communicates those problems. We cannot talk about options for long-term trusts designed to provide for a loved one's needs without directly providing that person with access to assets if we do not know that a son has spendthrift issues. We cannot prepare documents that take into account the need for substance abuse counseling and testing before making distributions if we are unaware that these issues exist. We cannot prepare documents that address the disparate needs of different children, who may not have good relationships with one another, if we are unaware of these family dynamics.

     For clients in these unique situations there are two pieces of good news. 

1. Your privacy is secure. The things that you discuss with your attorney are privileged and will not be shared with anyone else. We are aware that these are difficult issues and want to help you address them. Therefore, you can open up and discuss your concerns about loved ones without worrying that this information will ever reach their ears. 
2. This is not the first time we have dealt with your situation. While each client’s circumstance is unique, any given client is unlikely to be the only one with these types of concerns, and it is unlikely that their story is something we have never heard before.

     Clients come in all varieties, with all manner of concerns, but regardless of those things they all want to create a plan that protects their loved ones and our goal is to help reach that goal while maintaining their privacy.

      It is important to remember that when you come to an attorney, the advice you receive is only as good as the information you provide the attorney. Like any other professional who provides counsel and advice, an attorney is limited to what the client chooses to share. Therefore, it is important that clients come prepared to discuss all of their concerns in order for them to receive the best representation. When consulting any new professional, take the time to get to know the person and make sure that you can be comfortable sharing all of your concerns with them, so that they can provide you with the level of care that your deserve.

More Potential Pitfalls of the New Estate Tax Law

     As we discussed in our last post, the increase in the applicable exclusion to $5,250,000, which dramatically reduced the number of estates with estate tax liability, also has the potential to create large problems for surviving beneficiaries if older estate plans are not updated. This is especially true in plans where the existing non-marital share primarily benefits other than the surviving spouse. This situation arises most commonly where clients want their children to receive something immediately upon the death of the first spouse or where the client wanted to provide for the children of a first marriage after remarrying. This strategy may have made sense at the time, because in prior years the applicable exclusion was smaller resulting in a smaller non-marital share and thus leaving sufficient assets to provide for the surviving spouse in the marital share. 

     With the new larger applicable exclusion, existing trusts will allocate significantly more assets to the non-marital share, potentially resulting in an inadvertent disinheritance of the surviving spouse. Some alternatives for protecting the surviving spouse in a situation such as this, while still achieving the goals of older trusts include the following modifications to the trust provisions: 

• Revise the non-marital share to provide the spouse is the sole beneficiary of distributions of income during the spouse's lifetime with the remainder going to children. 
• Revise the non-marital share to include the spouse as a beneficiary or co-beneficiary of income and/or principal together with the children, within the discretion of the trustee. 
• Revise the non-marital portion of the trust to limit the size of the non-marital trust for children and descendants (such as the figure that the client originally intended as the highest estate tax exemption) while providing the remainder of the non-marital portion be used for the exclusive or primary benefit of the surviving spouse. The amount of this cap will depend on the goals of the client and the needs of the surviving spouse. 

     Keep in mind that merely placing an arbitrary cap on the non-marital share, with the remainder going to the marital share will increase the surviving spouse's taxable estate by increasing the marital share. This increase could cause the surviving spouse's estate to be subject to estate taxes where the combination of the surviving spouse's separate assets and the enlarged marital share exceed the surviving spouse's applicable exclusion amount. The permanent adoption of portability has the potential to alleviate this problem in many situations. Portability is a complex topic that we will address in a separate post in the near future. 

     What is important to know is that with careful planning it is possible to provide a surviving spouse with extensive rights in and powers over the trust funds without causing the entire trust fund to be included in the surviving spouse's gross estate. Such rights and powers would include: 

• The right to all income, distributed currently. 
• The right to withdraw or require distributions of principal in such amounts and at such times as are necessary for the surviving spouse's health, education, support, or maintenance. 
• The right to receive distributions of principal in such amounts and at such times as the trustee (other than the surviving spouse) deems appropriate for any or at least a broader purpose. 
• The noncumulative annual right to withdraw the greater of 5% of the value of the trust fund or $5,000 dollars. 
• A testamentary power to appoint the trust fund to a class of beneficiaries that does not include the surviving spouse, his or her creditors, his or her estate, or its creditors. 
• The right to serve as the sole trustee or as a co-trustee or to remove and replace other persons serving as trustees. 

     As you can see, failing to review estate plan documents after tax law changes can lead to significant problems. Those problems can be remedied easily making changes to documents so that they again will reflect the intentions of the clients.

Alan Ferrara

Unexpected Effects of the $5,000,000 Exclusion

     Now that the applicable exclusion amount for determining when the federal government assess estate taxes is $5,250,000, many clients believe that they no longer need to worry about updating their estate plan because their estate will never be large enough to pay estate taxes. However, the majority of estate plans prepared when the applicable exclusion amount was much lower than the current $5,250,000 never contemplated the exclusion reaching such a high value. Plans drafted as late as 2010 expected the exclusion to remain at $3,500,000 and plans drafted prior to 2001 were written when the exclusion was less than $1,000,000. Practitioners must now revisit these plans in light of the higher applicable exclusion amount, to determine whether the non-marital and marital shares created will leave the surviving spouse with sufficient assets on which to live comfortably. 

     There may be no need to amend a Living Trust that creates separate marital deduction and non-marital deduction shares if the provisions of the two shares provide the surviving spouse sufficient flexibility. This is particularly true where the clients have only common descendants and believe that the surviving spouse may need their entire combined wealth to maintain his or her accustomed standard of living. The increased applicable exclusion amount will have little effect on the surviving spouse in such an estate plan, because allocating the first $5,250,000 to the non-marital portion with little or none going to the marital portion will have little actual economic effect on the surviving spouse. Still, with the applicable exclusion now at $5,250,000, most if not all of the assets of most Living Trusts will be allocated to the non-marital share, leaving little flexibility for the spouse. Faced with this reality on the death of the first spouse, the surviving spouse will likely be very unhappy to be told that she is only entitled to income automatically and principal within the discretion of the trustee. 

     However, the increased applicable exclusion amount can create a serious problem if the marital and non-marital deduction shares do not both benefit the spouse or if they both benefit the spouse, but substantially different ways. An estate plan that creates a non-marital deduction share that benefits family members other than the surviving spouse can produce a particularly unfortunate result under the current law. If the trust provides that the non-marital share is equal to the available applicable exclusion amount and the total estate is less than that applicable exclusion amount, it will create a non-marital share that will disinherit a surviving spouse to a degree that the client never intended. 

     Even if the non-marital share benefits the surviving spouse, if the distribution provisions only allow for distributions of income to the spouse, with principal distributions only made within the discretion of the trustee then the surviving spouse has very little flexibility. Provisions such as these were common with a lower exclusion because the thought was that assets allocated to the Marital Portion would provide for more flexible distribution provisions, such as all income and all principal within the discretion of the spouse. Because the prior applicable exclusions were only $1,000,000, or at most $3,500,000, there would be sufficient assets allocated to the marital portion to provide the spouse with sufficient flexibility. 

     In our next post we will suggest some strategies that can protect the surviving spouse even considering the new law, yet protect family members after the death of both spouses.

Alan Ferrara

Planning to Pass Values along with Valuables

     As estate planning attorneys, we spend a considerable amount of time with clients discussing estate taxation, probate avoidance, and beneficiary selection. We worry about the value and type of assets in the estate and the titling of those assets. We work with the clients to determine those loved ones who are to receive a portion of the estate and the manner in which they are to receive it. In short, we worry about their "tangible valuables".

     Sometimes, as part of the discussion, clients' concerns about their beneficiaries' lifestyles creep into the conversation. Are the beneficiaries mature enough to handle large sums of money? Do they have problems of their own, whether it is a rocky marriage, creditor issues, or even a dependency issue? Some conversations go even deeper, to an area where most attorneys, and perhaps other professionals, are wary of treading. Clients start to question whether their beneficiaries have developed values and beliefs similar to the client’s that makes the client comfortable with passing on tangible valuables. As these concerns become more prevalent, we as planners need to be aware of how we can assist our clients in addressing them. 

     Jim Stovall, author of "The Ultimate Gift", a book in which the main character passes on 12 life lessons to his grandson, has said "Giving second- or third-generation family members resources without a mental, emotional and informational foundation is like giving them a loaded weapon without instruction or caution." More of my clients are starting to feel the same way. When a client expresses these concerns, it is a good idea to take a holistic approach to estate planning and introduce them to the concept of an “Ethical Will” which they can use to pass on their "values" as well as "valuables.” 

An Ethical Will is a document that can transmit a client's core values and principles. It is not legally binding, but rather an expression of the beliefs, opinions,and cherished memories a person does not want forgotten. An Ethical Will may contain of some or all of the following,

     Things you learned from your grandparents or other relatives that you want your children to remember;

• Important events in your life;
• Things learned from an experience that you want to pass on; or
• An expression of the values you want to pass on to your beneficiaries.

     A simple Google search of the words "ethical will" will provide more than enough information and examples if one wants to consider writing an ethical will. It need not be something larger or formal, and may begin with simple thoughts jotted down from time to time. The website, www.ethicalwill.com, suggests some tips for writing an ethical will, such as:

1. Over time, write down ideas, a few words, or a sentence or two about things like: 

• Your beliefs and opinions 
• Things you did to act on your values 
• Something you learned from others 
• Something you learned from experience 
• Something you are grateful for 
• Your hopes for the future 

1. Write about important events in your life
2. Save items that articulate your feelings, e.g., quotes, cartoons, etc.
3. Review what you have collected after a few weeks or months and arrange paragraphs in an order that makes sense to you.

     While an ethical will may be beyond what many clients are willing to prepare, it is becoming more critical that people pass along their values before they pass along their valuables. I once had a discussion with a bank trust officer who said to me that he thought third-generation money was the most useless. The first generation worked hard to earn the money. The second generation saw how hard their parents worked and therefore had an appreciation of the money. However, the third-generation had no idea how hard it was to earn, had no appreciation for the money, and therefore rarely put it to good use. While leaving one's tangible estate is important, it can be even more impactful to leave an "intangible legacy" to your loved ones.

Funding Retirement Benefits to a Living Trust

As part of the trust funding process, I normally suggest that clients change the beneficiary designation of their IRAs and retirement benefits. Most of the time, I suggest that their spouse be the primary beneficiary and the Living Trust be the secondary or contingent beneficiary, because spouses receive better distribution rights under federal law with respect to retirement benefits. If the spouse predeceases the account owner, or if it makes sense for other reasons for the spouse to disclaim the retirement benefits, the benefits then fall to the Living Trust where, in all probability, the spouse remains the primary beneficiary and if the spouse has already died, the beneficiaries of the Living Trust become beneficiaries of the retirement benefit.

After contacting their financial professional, clients will often call me concerned because their financial professional warned them against designating the Living Trust as beneficiary of the retirement benefits because their children will not be able to "stretch out" the IRA over their lifetime, and the entire benefit will be taxable immediately. While this advice may be well meaning, it is often incorrect.

The Internal Revenue Code (the "Code") and Regulations provide that a "designated beneficiary" can use the provisions which allow a beneficiary to take minimum required distributions (MRD's) over their life expectancy. Normally, only an individual can be a "designated beneficiary", therefore a Living Trust ordinarily is not a "designated beneficiary" because it is not an individual. There is an exception to that rule and, if the trust document meets certain requirements, then the Living Trust is considered a "see-through" trust and the regulations treat the beneficiaries of the Living Trust as designated beneficiaries of the decedent's retirement account. To achieve “see through” status, the Living Trust must meet the following requirements:

1. The trust is a valid trust under state law, or would be but for the fact that there is no corpus.
2. The trust is irrevocable or will, by its terms, become irrevocable upon the death of the account owner.
3. The beneficiaries of the trust with respect to the trust's interest in the employee's benefit are identifiable from the trust instrument
4. Required documentation has been given to the Plan Administrator. The Plan Administrator must receive a copy of the trust instrument and a list of all beneficiaries of the trust with a description of the conditions on their entitlement.

If the trust meets all the requirements then the Living Trust beneficiaries are deemed “designated beneficiaries", entitled to receive their MRDs over their life expectancy.

The next issue when a Living Trust is the beneficiary of IRA benefits usually arises at the account owner's death. At that point, clients want to know whether the beneficiaries can split the “inherited IRA” into separate IRAs and make their own decisions about how distributions are made. Generally, "inherited IRAs" received by beneficiaries other than a surviving spouse, cannot be rolled over to their own IRA, but the account can be split into separate IRAs for the trust beneficiaries using the designation "John Doe IRA for the benefit of Beneficiary A", etc. Beneficiaries can then decide the manner in which they want their IRA distributed. One beneficiary may take a lump sum distribution, pay the tax and invest or spend the rest. Alternatively, a beneficiary can decide to take MRD's over their designated life expectancy, deferring income tax until future distributions are made.

Along with the question of splitting an “inherited IRA”, is the question of whether the MRD's are based on each beneficiary's own life expectancy or on the life expectancy of the oldest beneficiary.

Regulations §1.401(a) (9)-8, A-2 provides the general rule that if the account owner's benefit is divided into separate accounts no later than the last day of the year following the calendar year of death, distributions subsequent to the division are treated as separate accounts and each beneficiary of each separate account can use his/her own life expectancy in determining minimum required distributions each year. However, this rule does not apply to beneficiaries receiving a "separate share" through a trust that was the beneficiary of an IRA. Therefore, even if beneficiaries split the IRA into separate accounts for each beneficiary, all the beneficiaries must use the life expectancy of the oldest beneficiary of the Living Trust in determining their MRD's.

The law and regulations governing “inherited IRAs” is both vast and complex, before designating beneficiaries of retirement benefits, you should consult with a professional expert in that area. At the death of the account owner, it is important to seek additional advice as to the best way to retitle the accounts or distribute the assets. These experts should take the time to understand your unique situation and provide you with an understanding of the consequences of decisions, not just provide you with the forms needed to make changes.

Talking About an Estate Plan

As we discussed previously, the estate planning process does not end with the signing of the documents. One aspect of the process that is the client’s responsibility involves discussing planning with those individuals named to make decisions and potentially with beneficiaries.

In our practice, we have found that the best plans are ones where everyone involved knows the plan and there are no surprises. This does not mean that the client need to discuss every detail of their estate with every person named in the documents. However, providing those whom the plan most affects with sufficient information makes execution of the plan significantly easier.

First, it is important to inform those people who have been designated to make decisions upon the client’s incapacity. We encourage our clients to discuss this prior to the signing, therefore avoiding a situation where a named individual intends to immediately step aside. Talking with your named designates ensures that all of the individuals named in an estate plan are willing to act if called upon, and decreases the chance that the probate court will become involved in naming a successor designee. Additionally, it is important to inform those designees where those executed documents are kept so they can be located easily in the event the need to step in arises.

In addition to informing those individuals named as designees of their potential roles and duties, it is also important to discuss with these people the client's concerns and desired treatment if called upon to act. It is important to provide designees with sufficient information regarding values, beliefs, and wishes so that they are able to make decisions that they feel are in the client's best interest and reflect decisions that the client would make were they not incapacitated. Frequently these discussions will touch upon sensitive topics such as the circumstances under which the decision to withhold medical treatment is appropriate. Many clients express a reluctance to have such discussions due to their sensitive nature. If a discussion does not occur, at a minimum we recommend providing a letter with instructions regarding those issues. The letter can be kept with the Patient Advocate Designation.

The importance of establishing guidelines for designees is not limited to those named as Patient Advocate. Should a client become incapacitated, those who will act on their behalf as Successor Trustees under the Trust and Attorneys in Fact under the Durable Power of Attorney must also be aware of the client's overall goals. Both of these roles may involve providing access to assets for dependents, continuing the client's charitable gifting, and the operation of the client’s business. If those individuals named are not familiar with the client’s desires, it makes acting on behalf of the client significantly more burdensome. Again, the client can provide many of these details in a separate writing that is kept with the relevant documents. Important information to be contained in this writing includes specific instructions as to what should be done with particular assets should the client become incapacitated, instructions for the continuance or modification of charitable giving, and instructions regarding the operation of businesses to name a few.

In addition to designees named in documents, others may benefit from receiving advanced information about the terms of an estate plan. Providing beneficiaries with information regarding potential inheritances establishes reasonable expectations and reduces the chances that a beneficiary will challenge the terms of the estate plan. How much information a client chooses to give to a beneficiary depends on the family situation. There is no correct answer to this question, as the right amount of information can vary significantly from client to client and even from beneficiary to beneficiary. Where some beneficiaries have sufficient experience and maturity to provide them with the full details of their potential inheritance, others may misuse such information and engage in patterns of reckless or irresponsible behavior.

It is been our experience however, that beneficiaries who are informed of distributions for their benefit in at least general terms create the least amount of problems following a death. When beneficiaries have an understanding of the donor's reasoning in making the gifts they make, there is often less conflict following the death. This is not to say that a discussion of potential distributions solves all problems. There are individuals who, upon learning of their share of an estate, will always feel they have been treated unfairly.

In addition to discussing the specific distributions laid out in the in the estate plan it is also frequently beneficial for a client to discuss the distribution of their personal property. By learning which items of property their loved ones feel will provide a connection to the client after death, the client is better able to ensure that their loved ones are able to retain those items and the memories associated with them. When a client discovers that multiple loved ones have an interest in the same items, it is possible to head off conflicts by designating particular individuals to receive particular items so that disputes do not occur following a death, avoiding further pain during an already difficult time.

Discussing estate planning, medical concerns, and death are difficult subjects. However like much of the rest of the estate planning process, by engaging in these discussions while people are healthy and active, it is possible to avoid a great deal of trouble should a person become incapacitated or after they have passed away. In our practice, we strive to provide clients with peace of mind that their loved ones will be cared for following their death. By encouraging our clients to engage in discussions regarding their planning we hope to avoid potential pitfalls and awkward situations as well as additional grief, strife, or problems after a client's death.

Providing Loved Ones with a Postmortem Checklist

     As we discuss estate planning both here in the blog and in our practice, we take pains to reinforce the idea that estate planning is more than drafting and signing a set of documents that will sit in a drawer, forgotten, until someone passes away. Estate planning is an ongoing process that requires clients to take an active role in order to be most effective. An important example of a client responsibility in the process is the preparation of a Postmortem Guide to assist their loved ones in dealing with the practical results of their death.

     While loved ones know to take care of obvious tasks, such as making funeral arrangements and gathering assets, less obvious concerns including providing notice to Social Security, canceling subscriptions, dealing with credit cards, and shutting off utilities often are forgotten. By taking the time to prepare a Postmortem Guide, it is possible to provide loved ones with a checklist of required actions and all of the information needed to complete those actions.

     Following every estate plan signing we send our clients a letter that includes a list of tasks to complete following a death, including:

•          Making funeral arrangements
•          Meeting with attorneys and accountants
•          Giving notice to Social Security
•          Giving notice to Veterans Administration (if necessary)
•          Giving notice to Pension Providers
•          Giving notice to creditors
•          Securing the contents of any safe deposit boxes
•          Gathering assets and personal effects
•          Maintaining the residence
•          Continuing the operation of existing businesses

Along with that list, we include a form that provides the client with an organized structure for providing their loved ones with the information needed to complete those tasks. This information includes:

•         Space for names and phone numbers of the individuals the client has named in those documents.
•          A section to list existing creditors, such as credit cards, mortgage companies, and other outstanding loans
•          The names and phone numbers for the client’s advisors, including brokers, insurance agents, the doctors, and spiritual leaders
•          An area to provide instructions regarding funeral and burial arrangements
•          An area to provide information regarding the location of assets
•          A section to list the names and phone numbers of utility providers
•          A section for online and other passwords

     We encourage our clients to complete this form and keep it with their estate planning documents and then to inform those people designated in the documents of the location where the documents are located.

     Occasionally a client wishes to provide their loved ones with final words of wisdom or an explanation of the reasoning used in making gifting decisions. In those circumstances, we discourage the inclusion of such information in the estate plan documents, so as to minimize any non-legal language that potentially can lead to confusion in the distribution of an estate. Instead, we suggest the client write a separate letter to their loved ones with this information and include it in the same information package as the to do list and pertinent information form.

     While it may seem obvious that having this information handy will assist loved ones in an emotionally trying time, many of our clients express thanks to us for providing them with a format to articulate the information and for encouraging them to sit down and organize the information as part of the planning process. As we have previously said, estate planning involves more than drafting documents. We see it as the duty of estate planning attorney to continue to guide their client through the lifelong process of planning, including organization, proper funding, and regularly updating documents, thus ensuring that the client’s loved ones do not face any more problems than necessary during an already difficult time in their lives.