Basic Tools of Estate Planning
The Basics
Wills
Revocable Living Trust
Pour-over Will
Living Trust with A/B Provisions
Exclusion Amount Chart
Irrevocable Life Insurance Trust (ILIT)
Family Limited Partnerships
Charitable Remainder Trusts
Living Wills
Power of Attorney
Conclusion
My favorite definition of Estate Planning is:
I want to control my property while alive, take care of my loved ones and myself if I become disabled, and, upon my death, give what I have to whom I want, the way I want, and when I want. And if I can, I want to save every last tax dollar, professional fee, and court cost possible.
(From the National Network of Estate Planning Attorneys)
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The Basics
Estate Planning is the organization of your estate so that you may use your assets to your best advantage during your lifetime, and then upon your death pass those assets on to your chosen heirs, beneficiaries and loved ones, with the least possible loss in value.
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Wills
The most basic estate planning tool is a Last Will and Testament. Everybody has a will. You either prepare your own will or one has been written for you by your state legislature (this is called the intestate law, and describes who will handle your estate and who will receive your assets if you should die without providing your own written instructions in your own will). You have a choice to either prepare your own plan for the distribution of your assets, or rely on your state legislature to prepare your will.
ALL wills must go through a legal process called "probate" to distribute your estate to your heirs — unless your estate falls under one of the 3 exceptions. These exceptions are:
First - to have spent all your money while still alive.
Second - to have an estate valued at less than the amount requiring probate in your state of residence (for example: if you reside in Arizona and the value of the assets you own is less than $50,000, no formal probate is required upon your death. Your assets may be transferred to your heirs by an affidavit).
Third - have nothing in your name at the time of your death. The best way to have nothing in your name at the time of your death is to set up a revocable living trust.
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Revocable Living Trust
A revocable living trust is a written document which creates a separate legal entity. You appoint yourself as trustee of your trust (the manager of the trust). If you are married, your spouse may be a co-trustee. You are the life beneficiary of the trust (the person who enjoys the use of the properties of the trust). Most of your assets will be retitled in the name of your living trust. As trustee of your own trust, you have 100 percent control over your assets: you can sell assets, buy assets, add assets to the trust, and remove assets from the trust. Since the trust is revocable, you can amend, alter, or revoke your trust at any time.
With a living trust you avoid the costs, time delays, public nature and other difficulties of having your estate go through court supervised probate.
In your living trust document, you name one or more individuals to serve as successor (or backup) trustees should you die or become unable to serve as the trustee. A successor trustee can be one of your adult children or a close friend, a relative, or a trust company or bank trust department.
Your trust includes instructions specifying that upon your death or upon the death of your surviving spouse, your children or other loved ones will become the remainder beneficiaries (the persons who enjoy the remaining property in the trust).
Your trust agreement may also include your instructions on how to distribute the remaining property to those beneficiaries. For example, you may designate that your remainder beneficiaries must attain a certain age or level of maturity before receiving the property. You may instruct the trustee to distribute the trust property to the beneficiaries outright or in increments.
If any of your children are too young to receive their distributions, the successor trustee will manage their shares for their health, support, maintenance, and education until they attain the age you designated. At that time, the trustee may distribute their share.
You need to keep your revocable living trust funded. This means that all your assets (except tax deferred accounts such as IRA's, etc.) should be titled in the name of your trust. Often individuals will set up a trust, but not remember to place newly acquired assets in the trust's name. If assets are not held in the trust's name, they will be subject to probate. Review the titles on all your assets and make sure they show the trust as the owner.
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Pour-Over Will
The Pour-Over Will is a separate document which is a necessary part of your living trust. It revokes any prior will you may have executed. Then it distributes your assets according to your plan in your living trust. Any property (real or personal) which you may have neglected to retitle in the name of your living trust will be transferred or "poured-over" into your trust by the pour-over will. However, if the total value of these items that have not been previously transferred into your living trust exceeds your state's probate exemption amount ($50,000 for Arizona), it will have to go through probate. So, it's important to keep your trust funded.
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Living Trust with A/B Provisions
There are several good reasons for using a revocable living trust. The first major reason is to avoid the problems associated with probate, including court supervision with its attendant costs, time delays and lack of privacy in settlement.
The second main reason is to reduce or eliminate estate taxes for a married couple. An estate which is less than the applicable exclusion amount (see chart) is exempt from Federal Estate Taxes. A married couple has an unlimited marital deduction. This means if one spouse dies and leaves everything to the surviving spouse there will be no federal estate tax due. This is true no matter what the size of the estate. However, when the surviving spouse dies, the estate is exempt only up to the current applicable exclusion amount. It's as if a married couple has only one exemption for federal estate taxes.
However, with the use of an "A/B Trust" a married couple retains the applicable exclusion amount for each spouse. This is done by splitting the trust assets into two trust shares upon the death of either spouse. Each trust share retains the applicable exclusion amount, which amount is exempt from estate taxes.
In effect an "A/B Trust" doubles the size of an estate which may be exempt from federal estate taxes. The surviving spouse is still entitled to the income generated by the assets in each trust share and may use the principal to maintain the standard of living.
An "A/B Trust" is also referred to as a "Marital Deduction Trust," a "Credit Shelter Trust," or an "Exempt Trust." If your trust does not include this provision you may add this by an amendment or trust restatement. To determine if your trust has an A/B election, check the Table of Contents of your trust for "Separate Trusts."
The Applicable Exclusion Amount ChartFor the year: The Applicable Exclusion Amount is:
2000 and 2001 $675,000
2002 and 2003 $1 million
2004 and 2005 $1.5 million
2006-2008 $2 million
2009 $3.5 million
2010 N/A (taxes repealed!)
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Irrevocable Life Insurance Trust (ILIT)
The ILIT is an irrevocable trust which holds assets outside of your estate. This will exempt these assets from estate taxes upon your death. An ILIT is often named as the owner and beneficiary of a life insurance policy. This will make certain that the insurance proceeds are passed to the beneficiaries without first being taxed. The ILIT produces the following benefits:
A. Less Taxes. Because the ILIT now owns the insurance policy, you retain no ownership interest, so the proceeds of your insurance will not be included in your "taxable estate" upon your death. Less taxes means you save money!
B. Gift Tax Exclusion. Withdrawal powers are included in the ILIT. This allows you to take advantage of the annual gift tax exclusion to add to the trust or to pay premiums.
C. Liquid Funds to Pay Taxes. Upon your death your estate will need to pay its debts, costs, and taxes. If your estate is not liquid, the Trustee of your ILIT may allow the ILIT to make loans to your estate, or allow the ILIT to purchase assets from your estate. This does not cause such payment from the ILIT to be included in your "taxable estate," but still allows liquidity.
D. Control. Even though the trust is irrevocable, you still retain control over the financial instruments held by the trust.
Who needs one? When you die, everything that is in your name and all those things that you control, are considered to be in your "taxable estate." Federal taxes are due on all assets valued at over the applicable exclusion amount (see chart). In the case of a married couple with a tax saving A/B or "marital deduction" living trust, taxes are only due on assets valued at more than twice the applicable exclusion amount.
Your "taxable estate" includes the cash value of your life insurance death benefit if you are the owner or if you pay the premiums. You may establish an irrevocable life insurance trust to own your life insurance policies. Since the trust is irrevocable, and since you are not the trustee, the insurance proceeds are no longer considered a part of your taxable estate.
If your estate is approaching the estate tax limits, an irrevocable life insurance trust may reduce your estate taxes. With this trust, your life insurance proceeds will not be subject to any federal estate taxes at all.
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Family Limited Partnership (FLP)
A Family Limited Partnership may be used to begin shifting ownership from your estate to your heirs without losing control. The Limited Partnership is becoming a more popular staple of estate planning for a number of reasons. A major use of an FLP is for asset protection. It can effectively protect your assets from lawsuits.
See the booklet "Trusts: Beyond the Basics" for a more complete explanation of the Family Limited Partnership.
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Charitable Remainder Trusts (CRT)
Charitable giving is a method used to reduce the size of a taxable estate. A donor may make gifts to charitable or tax exempt organizations, but retain the right to receive the income from the asset given for the remainder of his life. With proper planning the value of the asset given may be replaced for the family with the use of a wealth-replacement Irrevocable Life Insurance Trust (ILIT). So, you can give your estate away — and keep it!
See the booklet "Trusts: Beyond the Basics" for a more complete explanation of Charitable Remainder Trusts.
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Living Wills
A living will is a document which expresses your desire not to be kept on artificial life prolonging medical procedures when there is no prospect for your recovery from a serious illness, or when you are terminally ill. In your living will you may give certain health care directives and even name an Agent to make medical decisions on your behalf if you are unable to make such decisions. Most of those who sign a living will want to avoid being kept alive by technology if they are in a vegetative state or to prolong the dying process.
I have also produced a "wallet-sized living will," which is the same form as our standard living will, reduced in size and encased in a plastic sleeve. This wallet-sized living will should be kept in your wallet or purse (it's the size of a credit card) or in the glove box of your car — so it's available in the event of an emergency. This wallet-sized living will is very popular with my clients.
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Power of Attorney
A power of attorney is an instrument authorizing another to act as your agent or attorney-in-fact.
With a power of attorney you name someone to act in your place, name and stead as your "Agent." A power of attorney may be General (broad or all-inclusive) or Special (limited to certain uses). It may become effective immediately or become valid upon your disability (a springing power of attorney).
A power of attorney is void upon your death and also upon your disability unless you direct that it be effective in the event of your disability (a durable power of attorney). You may combine the characteristics you need into one power of attorney. I have found the most suitable power of attorney to be a "General Durable Springing Power of Attorney."
It's a good idea to update your power of attorney about every 2-3 years. Most banks look at an older power of attorney as being "stale" and will not honor your power of attorney if it is too old. Some banks even require that a power of attorney be on their own pre-printed form and not be older than 1-2 years. Check with your own bank regarding their requirements.
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Conclusion
A revocable living trust will be the foundation of any estate plan. If you are married and if your estate is valued at more than the applicable exclusion amount or is likely to grow or appreciate in value, you should have an "A/B Trust."
Your basic estate plan should include:
1. Living Trust Document (with A/B election for a married couple)
2. Back up "Pour-over Wills"
3. Schedule of Trust Assets
4. Assignment of Personal Property
5. Deeds to transfer real estate (including your residence)
6. Documents for the transfer of assets to your living trust
7. Guidelines for Trustee
8. Letter to Successor Trustee
9. Instructions on how to keep your trust current
10. Financial Durable Power of Attorney
11. Living Will and Medical Power of Attorney
12. Glossary of Legal Terms
13. Notary and Witness Service
14. A Trust Binder and organizer
15. Additional documents indicated by a review of your estate to comply with the "Definition of Estate Planning." (This may include an ILIT, an FLP, a CRT, an annuity, etc.) A more in-depth look at these documents is found in the booklet "Power Tools for Estate Planning" by Steven W. Allen.
If you have any questions about Estate Planning, or would like to come in for a FREE initial consultation please call:
Steven W. Allen
1550 E. McKellips Road, Suite 111
Mesa, Arizona 85203
(480) 644-0070
Fax: (480) 644-0072
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©2003 Steven W. Allen, P.C.
Basic Tools of Estate Planning
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