While most people think of estate planning as something to handle after having children, reaching a certain age or a certain level of wealth, the truth is that estate planning is best viewed as a lifetime process for everyone.
Thanks to their ability to create whole new careers and industries in the digital age, some younger people are acquiring assets and wealth at earlier stages in life. And yet, they are susceptible to many of the same mistakes with their assets as in previous generations:
- No will
- Not updating their will following marriage (remarriage), children or divorce
- Not designating beneficiaries and keeping them updated • Ignoring state vs. federal estate tax laws
- Keeping loved ones in the dark about their plan or lack of plan
- Assuming trusts fix everything Let’s rather assume you haven’t made any of these mistakes.
You still have time to review or get started on your estate planning and distribution opportunities. Don’t wait until a major life change, travel abroad or illness sends you into a panic. The best place to get started is with your tax return.
Tax planning improves tax situation and estate.
Your tax return holds your financial story. It can tell your CPA about income and cash flow, debt, business ownership, hobbies, dependents, real estate holdings, losses, inheritance, charitable giving and investments. It can even give your CPA a relative understanding of how healthy you have been, due to your medical expense deductions.
A history of tax returns can also shed light on your anticipated income and investments for the future, and therefore help you put some plans in place to protect those future assets. It can also show your CPA some areas where you may benefit from advanced tax planning, such as a child preparing to attend college or options to support a better tax situation for your business in the following year. Over time, these decisions literally add up to improve your income and increase your net worth.
Although wills and estate documents must be drafted according to current tax law, Congress and state jurisdictions have revised the tax laws many times over the last two decades. It’s one more reason to have ongoing conversations with your CPA and financial advisors to support an estate plan that continues to meet your preferences and goals. As you get closer to retirement and anticipate living on a larger share of fixed income, these conversations will increase to make sure that assets are transferred in a timely manner or protected from unnecessary taxation from year to year.
Let’s look at the basics of your estate planning process:
Wills, trusts and gifting come after planning.
There are many vehicles for protecting and distributing your estate. However, you have to do some preparation before sitting down with your CPA or attorney. Set a deadline to focus on this preparation, such as by your next birthday or anniversary or year-end. It will keep you on task.
Ask yourself the following questions:
1. Who or what organizations do I want to inherit assets and property from me?
2. What is the best way for them to inherit my assets, and when?
3. Who do I want to manage and oversee distribution of my assets (executor and/or trustee)?
4. Who do I want to make health decisions for me if I can’t make them myself (health care directive)?
The next step is to create a personal balance sheet. This balance sheet includes a list off all your assets, any debt against them, resulting net values and how they are titled (who is listed as owner, just you or you and your spouse). This list of assets forms the basis of how you will determine your net worth, and can be updated over time as you pay off debt or acquire additional assets. A review of your tax return, your regular monthly payments and investments and your bank accounts and credit are good places to start.
Potential assets could include:
- Your home and any other real estate.
- Titled property such as a car or boat
- Bank accounts and interest bearing accounts (savings, money market, CDs)
- Individual stocks, bonds, mutual funds and other investment accounts
- Retirement savings including profit sharing, IRAs and pension plans
- Business and partnership interests
- Life insurance policies and annuities
- Receivables (people who owe you money)
- Items of special value such as coin collections, antiques, artwork, jewelry
- An estimate of all other personal property
In addition to debts connected to the assets above, provide a listing of all other debts (credit cards, personal loans, unsecured lines of credit).
Once you have an idea of your beneficiaries and individuals to support distribution as well as your balance sheet, you can consider the various vehicles for distributing your assets.
There are four main vehicles:
- Gifting assets before death
- Trusts established during your lifetime
- Distribution of assets on death through your will
- Distribution of assets on death outside your will
You may combine some or all of these vehicles as part of your unique estate plan, and that is where an estate planning attorney can support your decisions.
A will gives you the opportunity to make sure certain matters are handled in accordance with your wishes after your death. A written and witnessed will is the best course of action for any state or federal jurisdiction. Dying without a will triggers the law of “intestacy,” which typically favors spouses over children and blood relatives over live-in partners, friends or charities. Dying without a will may even result in the government receiving your assets if no next of kin can be found.
You may have special requests for your assets to be left to care for a partner or parents, given to siblings or friends or gifted to a favorite cause. All of these should be stipulated in your will in accordance with state and federal estate laws. Same-sex couples, for example, still face daunting laws with regard to asset transfer or inheritance even if they are married. It is best to put your wishes in writing, to consider joint ownership of assets or establish a revocable living trust to protect your partner’s rights.
If you have children from a current or previous marriage, you may want to make special accommodations for which assets are reserved for those children, how assets are distributed among them and when they will receive the assets. A Qualified Terminable Interest Property Trust (QTIP), for example, offers a lot of flexibility to transfer assets to children from a prior marriage. This provides support for your surviving spouse during his or her lifetime, but controls the distribution of the estate after your spouse’s death. When your spouse dies, any remaining principal (residuary) in the QTIP trust reverts to your children via a residuary trust – not to anyone else. The principal in the residuary trust can either be given outright to your children or remain in the trust, producing income that either can be divided or can accumulate for future distribution. There are even options in a QTIP for children to draw upon the principal of the trust for tuition, unexpected expenses or a down payment on a home.
Wealth transfer can happen before death.
Of course, you don’t have to wait until after death to provide money to your loved ones. Some parents and grandparents are providing for their loved ones by paying for extended family trips, paying college tuition directly or setting up living trusts for distribution over time. There are even tax advantages to some forms of gifting, depending on the timing and the amount of the gift.
For wealthy individuals who pass away with estates greater than $5.49 million, giving money away early will help avoid an estate tax of 40 percent. In addition, if you have assets that may appreciate very rapidly before your death, there can be tax benefits to giving those assets now so that they are taxed at a lower value.
Gifting during your lifetime feels good — to witness the appreciation of your loved ones when you can help with vacations, tuition or down payments and also contribute to your favorite causes. Gifting to charitable organizations can also lower your annual taxable income, with cash gifts typically allowed up to 50 percent of the taxpayer’s adjusted gross income.
The current annual gift exclusion amount to individuals, however, is $14,000, which means you can give an individual up to $14,000 per year without incurring a federal gift tax. And that means up to $14,000 for each child or grandchild in a given year! Be careful, though. Many families have faced upset when one child — perhaps a child involved in a family business — is seen as being favored with family assets sooner or more than another. In these more complex cases, it is important to consult your estate planning attorney and CPA to consider options for equitable distribution that meets the unique needs of your family.
Estate planning can ensure that you have the means to gift a certain amount of your wealth while providing enough money for yourself and/or spouse through retirement. It takes time and regular maintenance to keep a good plan in place, but the reward is peace of mind that you are leaving your estate in good order — and a legacy beyond your lifetime.
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