When talk turns to taxes, most people think of income taxes. Yet for many people, estate taxes may be the largest single tax expense they'll ever face. With estate tax rates currently ranging from 41% to 50% your estate could be worth less than half of what you think. To put it another way, without proper planning, estate taxes could diminish more than half of what you've spent a lifetime building.
Our Estate Planning team works with your legal and tax advisors to help you create a blueprint for your estate plan. This blueprint will illustrate various alternatives for passing on your estate while reducing taxes and administrative costs.
DEVELOPING AN ESTATE PLAN
The first step in estate planning is very personal. You must decide who inherits which assets and when they should receive them. The following are a handful of the questions you need to consider.
Who Should Inherit Your Assets?
- If you are married, what do you want to provide for your spouse?
- Should your children share equally in your inheritance? Maybe one of your children has special needs and should receive a disproportionate amount.
- Do you wish to include grandchildren or others as beneficiaries?
- Would you like to give any assets to charity?
Which Assets Should They Inherit?
- Should closely held business stock pass only to those children who are active in your business? Should you compensate the others with assets of comparable value?
- If you own rental properties, is it appropriate for all beneficiaries to inherit them? Consider each beneficiary's cash needs and ability to manage property.
- If you have significant qualified plan or IRA balances, have you considered the various minimum required distribution options and beneficiary designations?
What are some typical estate planning documents?
A good estate plan in more than just a Will and Living Trust; here is a sample of some of the documents that are typically used as part of the estate planning process:
- A Will, sometimes called a Last Will and Testament, is used to transfer property you hold in your name to the person(s) and/or organization(s) you want to have it. A Will also names someone to be your Personal Representative (or Executor) to carry out your instructions and names a Guardian if you have minor children. A Will only becomes effective upon your death, and after it is admitted to probate.
- A Durable Power of Attorney for Health Care or Health Care Proxy appoints a person you designate to make decisions regarding your health care treatment in the event that you are unable to do so yourself.
- A Living Will or Directive to Physicians is an advance directive which gives doctors and hospitals your instructions regarding the nature and extent of the care you want should you suffer permanent incapacity.
- A Durable Power of Attorney for Property appoints a person you designate to act for you and handle financial matters should you be unable or perhaps unavailable to do so.
- A Living Trust is used to hold legal title of and provide a mechanism to manage your property. You select the person or persons you want to act as Trustee(s) to carry out the terms of the trust . Unlike a Will, a Trust usually becomes effective immediately and remains in force during your lifetime and after your death. Most Trusts are revocable, which allows the person who creates the Trust to make future changes and modifications including terminating the trust. If the Trust is irrevocable, changes, modifications and termination are very difficult, if not impossible, however such Trusts often carry tax benefits. Trusts also help you avoid or minimize the expenses, delays and publicity of probate.
- A Family Limited Partnership can be used to own and manage your property, in a similar manner to a Trust, but allowing additional tax planning techniques to be employed. Family Limited Partnerships are typically used for those who have large estates and thus have a need for specialized estate planning in order to minimize federal and state estate/death/inheritance taxes as well as provide elements of asset protection.
Six Reasons To Plan Your Estate
Estate planning is an easy thing to put off, maybe you think it's too early or maybe you think your estate is too small. Here are six reasons why you should plan your estate now.
| With a plan | Without a plan | ||
| 1. | You decide who receives a share of your assets. | State law determines who inherits your assets. Your estate could pass to an estranged relative. | |
| 2. | You decide how and when your beneficiaries will receive their inheritance. | The terms will be set by law. Your children could be given unfettered control of a sizable estate. | |
| 3. | You decide who will manage your estate (executor, trustee, etc.). | The court appoints administrators — whose ideas may not be compatible with your own. | |
| 4. | You can reduce estate taxes and administrative expenses. | Costs may be greater, due to required administrative expenses and unnecessary taxes. | |
| 5. | You select a guardian for your minor child. | The court appoints a guardian for your minor child. | |
| 6. | You can provide for the orderly continuance or sale of a family business. | Financial loss and family hardships may result from an untimely, forced sale of estate assets. | |
Changes to the Gift/Estate Tax System
On June 7, 2001, President Bush signed into law the Economic Growth and Tax Relief Reconciliation Act of 2001 (H.R. 1836), which was the largest tax cut over the past two decades. The new legislation makes sweeping changes to the rules governing income tax, estate/gift/generation skipping transfer taxes, and qualified retirement planning.
With respect to the estate and gift tax area, H.R.1836 creates three distinct periods:
Stage One (2002-2009):
During this stage, the top estate/gift tax rates are reduced annually and the gift and estate tax exemptions increase significantly.
Stage Two (2010):
The entire estate tax system is repealed, but only for one year. A "carryover" basis system is implemented for income tax purposes.
Stage Three (2011):
The repeal of the estate tax expires and estate tax laws revert back to present law as if H.R. 1836 had never been enacted.
Why is Estate Tax Repeal Illusory?
By dissecting the tax legislation into these three stages, it is clear that there is no real permanent repeal of the estate tax system. Unless you can anticipate the exact year of your death, the estate tax will continue to be a factor to consider in the planning process. Building a flexible estate plan that addresses the current estate tax changes and reacts to any further tax revisions is essential in these uncertain times.
Is Estate Planning the Same as Tax Planning?
Although minimizing the estate tax burden is an important component of estate planning, the process encompasses much more. With the help of your advisers, you will concentrate on setting long-term goals and objectives and establishing the means to achieve these goals. From providing enough income to heirs, to properly funding charitable bequests, to providing a workable business succession plan, to creating a legacy for multiple generations, your estate plan is a reflection of your individual values and aspirations.
Is Liquidity Planning for Estate Settlement Costs Still Necessary?
All indications are that the estate tax will remain a significant planning issue for the foreseeable future. As a consequence, permanent life insurance as a ready source of liquid cash to pay estate settlement costs will continue to play an important role in most large estates. However, instability in the political process may cause planners to focus on flexible ownership arrangements that allow clients to access policy values in the event that estate tax is permanently repealed. As a result, creative and flexible estate planning arrangements may take on added importance.
THE ROLE OF LIFE INSURANCE IN YOUR ESTATE PLAN
Life Insurance's Role
Life insurance can be an important part of your estate plan. It is often necessary to help accomplish your goals. For many of you, your first goal will be the maintenance of your heirs' lifestyles in the event of your death. Carefully analyze how much insurance they'll need to replace your lost earning power. In many cases, life insurance is used to offset tax liabilities and maintain the estate. By having the insurance owned by an irrevocable trust or child, the death benefit is not included in the calculation of your total estate, which allows the entire amount to be available to assist in the payment of estate taxes.
Common Uses for Life Insurance:
- Provide the necessary cash flow to maintain the lifestyles of your heirs
- Provide the amounts necessary to pay estate taxes
- Provide necessary liquidity for an estate
Finally, insurance can be the best solution for liquidity problems. Estates are often cash poor. Your estate may be primarily composed of assets such as closely held business interests, real estate, or collectibles. If your heirs need cash, these assets can be hard to sell, or you may not want these assets sold. Therefore, even when estates are of substantial value, insurance is often purchased simply to avoid the unnecessary sale of assets to pay taxes and expenses.
What Type Of Insurance Should You Buy?
There is no set answer for this question. Individual circumstances vary dramatically. Young individuals with the temporary need to have sizable protection to raise a family often find that term insurance is the right answer. On the other hand, business owners in their 50s, trying to protect their estate from having to sell the family owned business, might find that a more permanent type of insurance better suits their needs.
Second-to-die
A type of insurance growing in popularity is "second-to-die' life insurance. This type of policy pays off when the surviving spouse dies. Because a properly structured estate plan can defer all estate taxes at the time of the first spouse's death, some families find they don't need any life insurance at that point in time.
However, significant estate taxes may be due on the second spouse's death, and a second-to-die policy can be the perfect vehicle for offsetting the taxes. A bonus: Annual premiums are often significantly lower on second-to-die policies when compared to a policy with a similar face amount on one of the insureds.
These policies may be the traditional type that provides guaranteed cash values and nonguaranteed dividends based on the business performance of the issuing company. Or the policy may be a universal type that provides the greater of a minimum guaranteed rate of return and a nonguaranteed current rate of return based on short-term interest rates in the economy.
Variable second-to-die
One type of life insurance policy worth looking into is variable "second-to-die" life insurance. With this type of policy, you can allocate your premiums to different investment sub accounts, such as blue chip stocks, bonds, real estate, aggressive stocks, etc. The death benefit and cash value of the policy may vary with the performance of these sub accounts.
However, because the value of these investments fluctuates, the cash value of a second-to-die variable life policy is not guaranteed, although some policies guarantee the death benefit will not go below a certain amount. Resulting policy values depend not only on investment performance, but also on administrative, mortality and sales charges.
Registered products, including variable life insurance, are sold by prospectus. Please request a prospectus, which contains more complete information including charges and expenses, and read it carefully before investing or sending money.
UPDATING YOUR ESTATE PLAN
Estate planning is not a one-time process. You must constantly review your current plan to ensure that it fits your present situation. Even if you've planned your estate well, consider updating your estate plan after any of the events below.
Reasons To Update Your Estate Plan
- Family Changes
Marriage, divorce, children, and grandchildren can all lead to estate plan modifications.
- Change in Financial Circumstances
What may have been an appropriate estate plan when your income and net worth were much lower may no longer be appropriate today.
- Geographic Move
Different states have different estate planning ramifications. Anytime you move from one state to another, your estate plan should be reviewed.
- Change in Tax Law
Anytime there is a change in the estate tax law, changes in your estate plan may be required. What might have been a great structure under old tax law may no longer be appropriate. With the recent changes being made to the gift/estate tax system, it may be a good time to review your estate plan with your advisors.
- Special Circumstances
Sometimes a child has special needs due to physical or mental limitations. Sometimes a surviving spouse's ability to earn a living changes due to a disability. Such situations create special needs that often require special planning.
Where Do You Go From Here?
It's easy to put off developing a detailed estate plan. We'd like to meet with you to discuss your particular situation. We're confident we can help you preserve for your heirs what took a lifetime to achieve.
The information presented is not intended as tax, legal or financial advice, and it may not be relied on for the purpose of avoiding any federal tax penalties. You are encouraged to seek such advice from a your professional advisors. The content is derived from sources believed to be accurate. Neither the information presented nor any opinion expressed constitutes a solicitation for the purchase or sale of any security.
