Smart people who've worked hard all of their lives
to achieve financial success often make dumb estate planning mistakes.
Those mistakes can result in their families losing over half of their
assets when they pass between generations. They can destroy much of a
lifetime's work. And they can inflict a great deal of pain and heartache
to the people they love.
The irony is
that most of the mistakes are easily avoided. With a little forethought,
people of average intellect can construct estate plans which perpetuate
their estates for generations. To do that, you and they have to avoid
these traps:
Procrastination
The "I love you" Will
Unbalanced Property Ownership
Property Transfers Based on Non-Will Provisions
Improperly-Owned Life Insurance
Trying to Take it with Them
Lack of Liquidity
Equal Distribution to Heirs
Saddling Children with Debt
"It's all been taken care of . . ."
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1. Procrastination
Everybody
has an estate plan. If you don't create one, on purpose, through
carefully drafted wills, trusts and other documents, then your state
legislature will step in with a plan of its own. This plan, called the
laws of intestacy, dictates who will get your assets, how they will get
them and guarantees that your estate will pay the highest possible
estate taxes in the process.
If you're
happy with your state legislature deciding who will receive your assets
after you're gone . . . and especially if you want to pay the federal
government the maximum estate taxes, then no additional work on your
part is required. But if you're not, then you have to develop estate
plans of your own and they have to be developed now.
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2. The "I love you" will
Most
people have very simple wills. They say that when one spouse dies, all
of his/her property goes to the surviving spouse and, when they're both
gone, all of the property goes to their children. Very straight forward.
And, for people with modest estates, these wills work fine.
For
people with estates which exceed $5,000,000, however, these wills
create thousands of dollars of unnecessary taxes. These simple wills
waste an opportunity to keep up to $4,000,000 of assets free of estate
taxes. On a $5,000,000 estate, this single error can cost over $900,000.
The
solution is to have provisions in your wills or living trust agreements
which create a bypass trust (also known as a credit-shelter trust) at
the death of the first spouse.
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3. Unbalanced property ownership
If
each spouse owns substantially equal property, then bypass trusts can
function neatly to avoid estate taxes on up to $4,000,000 of assets.
However, if one spouse owns millions and the other spouse has only a
small estate, the bypass trust's effect will be largely wasted if the
less affluent spouse dies first. To avoid that, spouses should consider
the benefits of balancing their property ownerships.
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4. Property transfers based on non-will provisions
Most
people think that their wills control who will get what when they die.
Surprisingly, many assets are transferred based on provisions which can
contradict but supersede those of a will.
Bank
accounts, certificates of deposit, retirement plans, IRAs, annuities,
life insurance policies, real estate and countless other assets are
often not controlled by wills. In the case of jointly-owned assets -
bank accounts, stock accounts and real estate are often owned this way-
the surviving joint owner often becomes the sole owner of the assets.
And retirement plans, IRAs, annuities and life insurance proceeds
transfer to named beneficiaries, not necessarily to the people named in a
will.
Property ownership forms and
beneficiary designations need to be coordinated with your will planning.
If they aren't, your carefully drawn will can become meaningless and
the estate tax savings which it tried to create will be defeated.
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5. Improperly-owned life insurance
Life
insurance is often a significant part of many affluent estates. Many
people own life insurance because of the immediate liquidity it will
provide and because they understand that life insurance death benefits
are tax free. They're only half right.
Life
insurance death benefits are not subject to income tax. However, they
are subject to estate taxes if the policies are owned by the insured at
his/her death. This can destroy up to 60% of the policies' values.
A
very wise way to avoid this is to have life insurance owned by an
irrevocable trust. While the needs of the surviving spouse need to be
addressed, life insurance which is intended to pass to future
generations should clearly not be owned by the insured's.
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6. Trying to take it with them
There are only three ways to reduce estate taxes: spend the money, have a bypass trust and give it away while alive.
Affluent
people, especially the self-made variety, often do a very poor job of
either spending it or giving it away. They got where they are,
financially, by being "accumulators" and they have a hard time with not
continuing that lifetime habit.
While
thrift is an admirable quality, too much of this good thing plays right
into the IRS' hands. They and Congress want you to have the biggest
estate possible when you die.
They want
your ignorance, procrastination and paranoia to stop you from taking
advantage of a whole range of laws which can result in your estate
paying zero taxes while you maintain your financial independence
forever. The IRS collects millions and millions of estate taxes every
year which could have been legally avoided from the estates of people
who never quit being"accumulators".
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7. Lack of liquidity
Many
affluent people create estates of great value which, at death, are very
illiquid. Holdings of real estate and family businesses often represent
90% or more of affluent estates. But, if those estates are subject to
taxes of over 50%, those assets often have to be sold at fire-sale
prices to pay them. Estate taxes are generally due within nine months of
death.
Forcing your family to choose
between sacrificing a treasured asset or taking on an enormous burden of
debt to pay estate taxes is simply stupid. It is also totally
avoidable.
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8. Equal distribution to heirs
Most
people have great love for all of their children and they want them to
share equally in their estates. An admirable intent, but "equal" is not
the same thing as "equitable".
While
dozens of examples exist, a common problem, often mishandled, is when a
person owns a business in which some of the children participate. Giving
both participating and non-participating children equal shares of the
business is a near guarantee for disaster. This blunder has destroyed
more businesses and families than probably any other estate planning
mistake.
If you have a business, a farm
or some other income-producing asset and some of your children
participate in its management, don't carve it up equally between all of
your children. Provide the business to your participating children and
give your non-participant children non-business assets. If this creates
an unbalanced distribution, consider creating additional assets through
life insurance.
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9. Saddling children with debt
The
same kind of people who would blanch at a $500 MasterCard bill often
leave their children with a range of estate problems that can only be
solved by millions of dollars of new debt.
Illiquid
but substantial estates often have to borrow great amounts of money to
pay estate taxes. Those borrowings can come from a bank or, in some
cases, from the Treasury, but they all require complete repayment of
principal plus substantial interest. Too often, the assets which
triggered the tax - and the loan - can't generate enough income to cover
it.
Enormous debts are also created
when children who participate in a family business are compelled to
buy-out their non-participating siblings' interests. This not only
creates great financial pressures but the process of negotiating a
buy-out can create much acrimony. Many families have been destroyed by
just such a challenge.
Life insurance is
frequently the best solution to these financial problems. Too often,
however, affluent people and their advisors don't adequately explore
this option because of ignorance and misunderstanding.
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10. "It's all been taken care of . . ."
Good
estate planning is never truly "done". As your circumstances change and
evolve over the years, your plans need to be kept current and apace
with them.
Few attorneys call in their
clients for an annual estate plan review. Fewer clients sit down,
annually, and take stock of their situation. But if they did - if you do
- millions of dollars can be saved and much heart-ache can be avoided.
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Conclusion
Most
people spend more time arranging a single vacation than they spend on
estate planning in their lifetime. If you're affluent, that's not smart.
It's very smart, however, to meet annually with your financial advisers
and ensure that your plans are both current and complete.
Here's
a test to see if they are: will your current plans give what you have
to whom you want, when you want, in the way you want and do it all at
the lowest possible cost? If you answer "yes", then congratulations and
we'll see you next year.
If not, then
make an appointment now to fix this problem. No one can do it but you
and you may have a lot less time to solve it than you think. And if
you're not sure about that, go back and read item number one on this Top
10 list of estate planning mistakes - the one about procrastination.
And then grab the phone.
Friday, February 12, 2016
