by Brent R. Armstrong
Estate planning involves three inevitable factors — death, taxes and clients’ misconceptions. This article attempts to clarify some of the more persistent notions held by some clients. This article is based on federal and Utah law. The laws of other jurisdictions may differ.
If I die without a will, the state gets my property. Not so. States have statutes on intestate succession, for leaving an estate to the closest relatives, in a certain order. The state takes only if there are no qualifying relatives.1 When a person moves, the law of the new domicile may change how the estate is left.
Having a will means that probate will be required. Not necessarily. Probate may or may not be required, with a will or without a will, depending on what a person owns and how title is held. For estates of $100,000 or less, personal property and up to four boats, motor vehicles, trailers or semitrailers can pass by affidavit, without probate.2 Small estates (less than $100,000 in 2013) may be distributed through a summary administrative procedure.3 Also, assets may pass outside of probate through survivorship, beneficiary designations, payable-on-death provisions, or via a trust.
A will can be changed by notations in the margin. Not advisable. Such changes would not qualify under the witnessing requirements for a formal will, and the documentation would not qualify as a holographic will because not all material provisions are in the testator’s handwriting.4 A codicil or a new will should be prepared to make changes in a will.5
Wills should provide for all debts to be paid on death. It may be impractical or inadvisable to pay certain debts, such as a mortgage or other installment obligation, or a debt that is disputed.
Wills must be formally signed and witnessed. That is usually preferable, but some states, including Utah, recognize holographic wills, prepared in the testator’s handwriting.6
Probate is time-consuming, costly, and must be avoided. Probate can be time-consuming and costly, but usually it is not. In Utah, most probates are non-events–handled through an informal system that is fairly simple, not costly, and with most of the work done by the personal representative. Probate also has benefits, such as cutting off claims of creditors and resolving disputes. Partial distributions can be made to the extent not needed for taxes, debts or expenses, without waiting for closing of the probate. The probate process protects the personal representative, heirs and beneficiaries through open hearings, court approvals and limitations on actions.7
A beneficiary can be stuck with an unwanted inheritance. Where a person does not want an inheritance, perhaps because of tax or creditor problems, a qualified disclaimer can be made within nine months after the decedent’s death.8 The disposition passes as if the disclaiming person had predeceased the decedent, but it cannot be re-directed by the disclaiming person.
Joint tenancy with right of survivorship is the best way to hold title to real estate. Not necessarily. Joint tenancy will avoid probate on the death of the first joint tenant to die, but it has several pitfalls. People do not always die in the anticipated order. Joint tenancy property is subject to claims of creditors of any joint tenant. The last survivor takes all, rather than sharing.
A trust avoids probate. It can, but the trust must be funded during the trustor’s lifetime, or his/her assets must bypass probate in another manner. Most trusts serve as a receptacle for property that passes through probate. Testamentary trusts, included in a will, do not avoid probate, but they are a simple way to manage property for young children.
The best time to establish a trust is after a spouse dies. In this situation, the opportunity is lost to have a bypass trust (also commonly referred to as a credit shelter trust). A bypass trust must be established while both spouses are alive, and it could potentially save a significant amount of estate tax for persons with large estates.
Benefits to a disabled person can be protected by a trust. They can be; however, assets that are available for support, at the trustee’s discretion, can disqualify governmental benefits.
All trusts should be bypass (“A-B”) trusts. Not so. A bypass trust for a married couple avoids estate tax on the portion allocated to the trust of the first decedent. That technique was commonly used before the estate tax exemption was increased to $5,120,000. In 2013, a bypass is usually not needed, such as where the combined estates do not reach the taxable level.
The rule against perpetuities is a major obstacle. This rule seldom is a problem. It applies only to long-term trust holdings and has been modified in Utah, with a savings clause for interests that vest within 1,000 years.9
Estate Planning is just for the rich. Not so. Whatever a person accumulates during his or her lifetime is important, and it should pass as the person intends.
I don’t care what happens after I die. Most people should care, because they spend a lifetime accumulating whatever they have at death. A typical person works 80,000 hours during his or her lifetime, and it is worth spending a few hours to plan his or her estate.
My spouse should not be bothered with estate planning matters. It usually is preferable for both spouses to have some knowledge of what to expect, and to have each spouse involved in making estate planning decisions.
Once an estate plan is made, it lasts for a lifetime. It does last, but because your situation is constantly changing, it is important to review and update it. Changes should be taken into account in a person’s desires, family and finances, and in tax law and other laws.
Gifts can only be made in denominations of $14,000. Gifts can be made in any amount. Under current law (2013), the first $14,000/year of a present gift to an individual is not subject to gift tax. The excess is, but no tax is payable until the lifetime exclusion has been exhausted ($5,120,000 in 2013).10
I’ll give everything away and qualify for state aid. You could, but there are restrictions on what can be given away and when. Also, long-term care provisions may require repayment, and criminal sanctions may apply to improperly helping a person qualify for Medicaid.
The personal representative and trustee must reside in this state. Not true. It is permissible for an individual personal representative or trustee to reside elsewhere, although it may be less convenient. A corporate trustee must be authorized to do business in the decedent’s state in order to carry out all trust functions.
Corporate trustees should always/never be used. They may be more expensive than an individual trustee, and some may lack knowledge of personal family matters. However, a corporate fiduciary offers expertise, permanency and objectivity.
The same person should be named as personal representative, trustee, guardian and conservator. Probably not. The requirements of each position involve different skills and duties, and it may be preferable to select different persons for each. Using separate persons will provide checks and balances.
It is best to name all children as co-personal representatives. Not usually, unless there are only two children who survive. Naming all children may be inconvenient, especially when they do not live in the same vicinity — and it may generate friction.
All children should be treated the same. There is no such requirement — it depends on personal preference. Some children may be more needy or more deserving than others. Some may need to be protected from their financial inexperience or from creditors’ claims.
Funds should be left in a common pot, to be used for the children who need it most. It is possible to leave such decisions up to a trustee or other administrator. However, it is possible that funds will be used up for one child in unfortunate circumstances, leaving nothing for the others.
My children are spendthrifts, but my grandchildren should take at age 21. Provisions for distributions at the grandchild level often are less detailed and less restrictive than provisions for children, due to lack of attention in drafting. It may not make sense to provide for outright gifts at an early age to grandchildren.
Distributions to grandchildren save on transfer taxes. Not necessarily. Large distributions to grandchildren may be subject to generation-skipping tax.
My latest spouse will take care of my children. Don’t bet on that! Depending upon arrangements made through contract or a trust, the current spouse may not be bound to take care of the deceased spouse’s children by a prior marriage. It may be best to leave those children something on the first death, or to leave them life insurance, or to make contractual or trust arrangements that are binding.
If I provide for my spouse, I deprive my kids. Maybe. Both can be benefitted under a QTIP trust which gives the spouse benefits for life, with the balance preserved for the children or other specified beneficiaries upon the spouse’s death.
The recent tax changes make tax planning unnecessary for estates under $5 million. Not so. Although the estate tax exemption is now at $5,120,000 (2013), each estate needs direction for its management and distributions to heirs.
Additional income/assets should be avoided, if they put a person in a higher tax bracket. Income tax and estate tax brackets are graduated, so that only the additional income or assets would be taxed at higher rates. Brackets should be considered but are not controlling.
On death, heirs must pay state inheritance tax. This is true only in a few states, not including Utah. There is no inheritance tax (or equivalent state death tax) in Utah.
Appreciated assets can be held in an IRA to get a step-up in basis. Not so. Assets in an IRA do not receive a step-up at death of the owners, and withdrawals are considered income in respect of a decedent, fully taxable as ordinary income.11
The $5,000/5 percent provision should be increased. Under plans designed before 2013, the “five and five” provision was common since it allows tax-free distributions of trust principal to the surviving spouse, in excess of what is needed for support. However, if the limits are exceeded and the estate value exceeds the estate tax exemption amount ($5,120,000 in 2013), a large amount may become subject to estate tax.12
It is best to accumulate income in a trust. Not usually. The income tax rate to a trust is usually higher than that of a beneficiary. Where distributions of income are made currently, the income is taxed to the beneficiary, rather than the trust.
Estate planning and asset protection are the same. Often this is not true. For example, when a doctor terminates his corporate pension plan, it may be good tax and financial planning to do a tax-free rollover to an IRA. In some states, this makes the plan assets more vulnerable to creditors, although IRAs are protected in Utah.13 Asset protection involves divestiture of ownership and control over assets, and the potential benefits must be weighed against the disadvantages.
Living Will/Healthcare Directives
A living will and advance healthcare directives are the same. Not so. A “living will” deals with a situation where death is certain, and the person does not wish to have artificial means used to be kept alive. Advance healthcare directives (or healthcare powers of attorney) are for a temporary incapacity, enabling the designated agent to make medical decisions on a person’s behalf.
The best time to sign a living will or advance healthcare directive is upon entering a hospital. Not advisable. Hospitals do provide forms, but many of those forms have not been updated to conform to Utah law, the patient may not be in proper condition to sign at that time, and the form may not accurately state the person’s intentions.
I don’t need a lawyer to prepare my healthcare directives. True — you can do it yourself, but some cogent advice is always beneficial. In 2008, Utah adopted a fill-in-the-blank statutory form that is supposed to cover all situations. That 4-page form can be found at Utah Code §75-2a-117 or that form and the 11 pages of related instructions are available from the Utah Department of Human Services.
A completed POLST form is all I need. Most individuals need both an advance healthcare directive and a POLST form. Utah law adopted in 2008 contemplates another form, called a “Life With Dignity Order” (commonly called the POLST form: “Physician Order for Life Sustaining Treatment”). A person who has unconditional preferences about desired types of healthcare to be received should ask his/her primary care physician to complete the POLST form. Once completed, that form translates the wishes expressed in the 4-page Advance Health Care Directive into a doctor’s order in precise medical terms that can be followed by medical care providers.
Community vs. Separate Property
Moving to or from a community property state requires a new estate plan. Possibly. Utah is one of the many ‘separate property’ states, and the rights to property at death may be much different than in a community property state. The differences should be taken into account.
Powers of Attorney
Financial business for an elderly person is best handled under a power of attorney than under a trust. Both may be best since they work together. For example, who should be designated to collect and open the mail of an elderly person? Usually the agent under a power of attorney since a trustee’s duties are limited to governing assets in trust. Yet, for financial functions, trusts often are a better alternative than relying merely on a power of attorney since a power of attorney is revoked by the death of the principal.
Marital agreements must be done before marriage. Prenuptial agreements must be done before marriage, but postnuptial agreements are also possible, covering the same issues; e.g., responsibility for prior debts, separate vs. joint nature of income, property dispositions and other arrangements in the event of divorce or death. Validity depends on adequacy of prior financial disclosure, fairness of provisions and the circumstances of execution.
My business partner will be fair to my widow, and vice versa. It is better to avoid disagreements by having a detailed buy-sell agreement.
Charitable gifts are only for the rich. Charitable gifts are usually deductible on individual income tax returns. Charitable remainder trusts may be beneficial from a financial standpoint for people with larger estates, in addition to achieving worthwhile purposes.
Proceeds of a pension plan should be left to the trust. Not always. There are income tax advantages for leaving death benefits of a qualified plan to the surviving spouse. A trust can be drafted in such a way as to preserve these advantages to the surviving spouse or the trust can be designated as the secondary beneficiary.14
Dividing retirement plans in a divorce is difficult. A qualified domestic relations order (QDRO) — or part of a divorce decree — can be used to assign a portion of a retirement plan to the non-participant spouse, without adverse tax consequences. Yet a stand-alone QDRO is usually preferable.
Buy term insurance and invest the difference. Some people consider this to be good financial strategy. However, term insurance premiums increase with age and the coverage may cease at a certain age. A permanent life insurance policy usually has a fixed rate and serves as a foundation in providing liquidity.
I don’t need a lawyer, I’ve got forms or a kit from the Internet. Do-it-yourself form kits and programs are inexpensive, but without a lawyer’s help, they are hard to properly utilize, they are not sufficiently individualized, they may not cover special situations, and they may not take local law into consideration. Therefore, use of such forms is likely to have unintended consequences and may create disputes instead of preventing them.
The family should rush to a lawyer upon a person’s death. Usually not. They should take care of personal considerations and family needs and preserve and safeguard assets and property. A lawyer should be consulted as soon as it is more convenient.
The family must gather for the lawyer’s reading of the will. This is seldom done, except in the movies.
If a will or trust is done by a lawyer, it must be okay. Wills, trusts and estate planning is a specialized field, and some lawyers are more knowledgeable than others.
Lawyers charge a percentage of the estate. Not in Utah. Lawyers are restricted to a “reasonable amount” for fees in estate planning and estate settlement work. In Utah, this usually means an hourly fee or a fixed fee, not a percentage.
Estate planning involves an understanding of choices. Clients and lawyers need to consider the changing rules, overcome misconceptions, and consider all relevant factors, in order to arrive at decisions that best suit a particular client’s situation.15
- Utah Code § 75-2-105 ↩
- Utah Code § 75-3-1201 ↩
- Utah Code § 75-3-1203, 1204 ↩
- Utah Code § 75-2-502(2) ↩
- Utah Code § 75-2-501(1) ↩
- Utah Code § 75-2-502(2) ↩
- Utah Code § 75-3-1005, 1006 ↩
- Utah Code § 75-2-801 ↩
- Utah Code § 75-2-1203 ↩
- I.R.C. § 2503(b) ↩
- I.R.C. § 691 ↩
- I.R.C. § 2041 ↩
- Utah Code § 78B-5-505(1)(a)(xiv) ↩
- I.R.C. § 402(a)(7) and 408(d)(3) ↩
- This article was adapted from an article titled “Misconceptions About Estate Planning,” written by Robert H. Feldman, Esq. and published in Arizona Attorney, September/October 1999, pages 30-35. The article has been revised, with permission of Mr. Feldman, to conform with Utah law and to express the views of the author. ↩