“I don’t want to think about death!”
“I don’t need a will. My kids can figure it out.”
“I’ll be dead, why should I care?”
“Estate planning has nothing to do with me because I am not rich.”
Have you ever made similar comments when asked about estate planning? A large majority of those people over the age of 30 do not have a will, and even fewer have any type of estate plan in place.
We all work extremely hard and do everything we can to create a better future for our loved ones. However, when it comes to protecting and preserving our hard-earned wealth, however defined, for our beloved family, friends or charities, we suddenly become uncomfortable with the topic.
Although the thought of death is unpleasant, it is critical to the well-being of both our families and ourselves that we take the time to create an estate plan. The peace of mind a well-thought-out plan can bring not only helps those carry on without you, it can benefit you as well—research shows that people with an estate plan in place live longer, on average.
To help ease your concerns and get you on the right path, here are answers to 10 of the most common estate planning questions.
Question 1: How is my property transferred at death?
Property is transferred at death in several ways:
- Valid will – A legal document created to express how a person desires his or her property to be distributed at death. It also names one or more persons to manage the estate through its final distribution. (Also see question 2)
- Beneficiary designations – Examples include life insurance policies, death benefits of a retirement plan, prenuptial agreements, postnuptial agreements, etc. (Also see question 3)
- Operation of law – A legal term indicating that a right or liability has been created for a party, irrespective of the intent of that party, because it is dictated by existing legal principles. For example, jointly owned property with right of survivorship. (Also see question 3)
- State law – This will typically come into play if no will is presented for probate for a deceased. (Also see question 2)
Question 2: What happens if I die without a will?
Except for the assets that will be passed by beneficiary designation or operation of law, your state’s probate laws will determine the distribution of estate assets if you do not have a will. Please keep in mind that many states have different rules related to the distribution of a deceased’s assets when no will is presented for probate.
Question 3: I was listed in the will as a beneficiary of certain assets. Why didn’t I inherit the assets?
Estate properties can be passed by will, beneficiary designation, operation of law and state law. Under most circumstances, passing of property by beneficiary designation and operation of law is not influenced by the will. For example, life insurance proceeds pass outside the will to the named beneficiary, be it mentioned in the will or not, as do the death benefit proceeds from a retirement plan.
If estate planning was not properly carried out, and the property transfer rules are in conflict, some very unfortunate results, such as in the following two stories, could happen:
Case #1: John Doe’s mother said in her will that her estate would be divided equally among John and his two sisters. However, one of the sisters, Mary, lived very close to her mother and so for convenience she titled all the bank accounts jointly with Mary. This allowed Mary to access the information and assist in handling some transactions. Upon the mother’s death, 100 percent of these jointly titled bank accounts, barring any other agreement, will be passed to Mary, instead of being divided equally.
Case #2: Jane Doe said in her will that her niece Laura would inherit her IRA. However, Jane established the IRA long ago and forgot to update the beneficiary form, so the name of the beneficiary remained to be someone other than Laura. Because the IRA beneficiary designation was not changed, Laura will not receive the distribution from the IRA, regardless of Jane’s intention to benefit her niece Laura.
Utilizing an estate planning professional will avoid these undesired results.
Learn more about how the estate and gift tax exemptions could impact your estate planning.
Question 4: What is estate planning? I am not wealthy, why do I need to have an estate plan?
Estate planning is the process of anticipating and arranging for the management and disposal of your estate during your life, as well as at and after death, while minimizing gift, estate, generation skipping, and income tax. A will is part of the estate plan. Depending on the complexity of the situation, an estate planner might use other tools such as trusts, pass-through entities and/or life insurance to accomplish your estate planning goals.
For some people, estate planning is not about avoiding the estate tax, as that is relevant only to those exceeding the tax exemption (See question 5 for estate tax information). Some of the most important reasons for estate planning are to:
- Pass property to the intended beneficiaries. For example, let's say John Doe had no living relatives, yet he enjoyed a wonderful life thanks to the pastor and kind friends at his church. Before death, he verbally told his pastor that he would donate all of his estate to the church. But unfortunately, he did not have a valid will. Without a will, state law will be used to determine who gets the assets, which most likely will not be the church.
- Alleviate the burdens of surviving family members. Imagine that on top of the emotional turmoil your death causes, your loved ones have to administer your estate without clear instruction? Many parents think if they die, kids will just divide everything equally and figure things out. In reality, once the “benevolent dictator” passes, sibling rivalry, in-law influences and many other issues arise. It is not unusual that an estate is significantly drained by legal fees due to these conflicts. The only way to avoid such tragedy is to have a solid estate plan in place before death. A carefully prepared estate plan is the best love letter you can pass down.
- Protect the estate assets from unintended recipients. Divorce is a prevalent issue in estates, and the beneficiaries might be drowning in debt. Without a proper estate plan, the assets could be transferred outright to the beneficiaries who have no means to protect themselves. All or a significant portion of the assets of the deceased could be passed to a divorced spouse or creditors.
- Deciding who will raise your children. This is particularly relevant to those with younger children. Without a will, a terrible accident in which both parents die will leave the fate of their children most likely for a court to decide.
Question 5: I heard that the estate tax will be repealed. Does this mean I no longer need to prepare an estate plan?
No. Gift, estate and generation skipping taxes will only affect about 1 percent of the population in the U.S. Most estates are below the estate tax filing threshold, which is currently $11.2 million per individual under the 2017 Tax Cuts and Jobs Act Under the new tax law the gift, estate and generation skipping tax exemptions doubled in 2018 and will continue at the higher level, adjusted for inflation, until January 1, 2026 when the amount will sunset back to the exemption in place prior to the new law bringing the exemption back to $5.6 million, adjusted for inflation. Therefore, for those taxpayers who find themselves at this threshold and who survive through 2026, may view this change under the new law as an increased gift tax exemption amount, because there is no certainty that these increases will be available after 2025. Wherever we find the exemption to land after 2025, most taxpayers will not be affected. But, as noted before, keeping the estate tax amount low is not the only reason estate planning is important.
In addition, many states consider estate and gift taxes as a significant source of revenue, and will not likely conform with changes in federal tax laws.
And, no matter what happens, income tax is not going away. Careful estate planning can achieve significant income tax saving, and this is especially true for business owners or taxpayers with significant investments and interests in pass-through entities. Without professional guidance, disposing, exiting or transitioning family business interest can come with costly income tax consequences.
Question 6: Hiring estate planning professionals is expensive. Can I prepare my own will and figure out a plan all by myself?
Yes, but this is not recommended. Many states allow residents to prepare their own wills, and some retail stores or websites offer will kits and software. However, a self-prepared will, without the assistance of estate planning professionals, can be easily attacked by discontented beneficiaries after your death, can leave loopholes for unintended beneficiaries, and in many situations, be considered invalid right from the start.
There are many ways to save costs when it comes to estate planning. You can:
- Attend free educational seminars.
- Complete your advisor’s questionnaire before walking into an estate planning meeting, and be prepared and decisive about this basic question: When, how, and what properties will be received by whom?
- Talk to an accountant who has estate planning expertise. Accountants specializing in this area can quickly understand your financial picture and tax situation. This can give you a good start and guide you through the process efficiently, so you don’t waste time and resources on the issues that are not relevant to you.
As laws and regulations governing this area are highly complicated and ever-changing, it is important not to rely on piecemeal information and previous experience of friends and family members.
Question 7: My parents never talk about their estate plan with me. How can I break the ice?
The thought of death is very unpleasant, especially for older parents and grandparents. This topic can make them feel “unwanted” and “being rushed to death.” What’s more, many people mistakenly picture estate planning as aggressive battles for assets, so they become reluctant to proceed during their lifetime because they wrongfully think it might take away their right to enjoy their own properties. In addition, some parents think that depending on a future inheritance will discourage children from working hard.
In modern days, the best results come from continuous and transparent estate planning efforts. Some important benefits of this method include:
- Eliminating erroneous ideas and conflicts. Instead of guessing or planning on costly “revenge” later, parents and family members should address issues now to avoid misunderstanding and conflicts after death, which will be very expensive and hurtful to reconcile.
- It brings family together and passes family values. It’s easy to forget estate planning is not just about assets. More importantly, it is about family. Clear and thoughtful instruction from estate planning documents will unite family members to go through a tough time together, increasing their pride for family history. Estate planning can be behavior-shaping—family values can be preserved and younger generations can be motivated to pursue the right goals. This is very important for business owners, especially when some children will take over the family business, and some will not.
- Helps prepare family for uncertainties. This can include the untimely death or disability of a major income-producing family member. It also will make the transition to assisted, memory care or long-term care facilities less stressful and allow family members to have a sense of the financial assets available for such care.
Breaking the ice with parents and grandparents might be easier than you thought. Based on past experiences, the following factors can lead to successful communications:
- Be honest and sincere.
- Find the right time and right environment.
- Stress the importance and benefits of having a solid estate plan and discuss the costly consequence if no plan is in place.
- Be helpful to older parents and grandparents.
- Share your thoughts. Do not let your feelings stew.
Question 8: Can you tell me about the gift tax and its filing requirement?
In general, if you are a U.S. citizen, you must file a gift tax return (Form 709). This is called the annual exclusion. Under certain circumstances (for example, if the couple decided to split the gift) the gift tax return is required even if the gifting amount per recipient is under the annual exclusion. Please note that the giver is responsible for filing the gift tax return, not the gift recipient.
Just because you have to file a gift tax return, it does not necessarily mean you will need to pay gift tax. For most U.S. citizens, we will never pay gift tax. That is because currently, any amount in excess of the annual exclusion can be shielded by a lifetime exemption (also called unified credit).
Gifting is a powerful way for wealthy family members to reduce the tax burden, but not so much for the families with moderate estates. As a matter of fact, gifting without careful consideration could lead to unexpected tax consequences. For example, let’s say John Doe has farmland with a current fair market value of $500,000 that he purchased 30 years ago for $5,000.
If he gifts this land to his son Mike, and the land is sold later for $500,000, Mike has to pay capital gain tax on $495,000 realized gain ($500,000 minus $5,000). The capital gain and net investment income tax liability could total as high as $117,810 ($495,000 x 23.8 percent).
- If John Doe indicates in his will that Mike will inherit this land upon his death, based on current law, the land will receive a stepped-up tax basis upon John’s death. When sold later for $500,000, it will recognize no gain ($500,000 - $500,000), so therefore there is no capital gains tax to pay.
There are many other gifting strategies. For example, families could consider gifting income-producing property to family members in a lower tax bracket. The laws and regulations covering gift tax and planning are highly complicated, and could be part of future tax reform efforts. We strongly encourage you to talk to an accountant with estate planning expertise before making a significant gift. As you can see from the example in the last paragraph, mistakes can be costly.
Question 9: What is the role of a trust in estate planning?
A trust is a fiduciary arrangement that allows a third party, or trustee, to hold assets on behalf of a beneficiary or beneficiaries. Trusts can help wealthy families minimize the estate tax, but don’t let this reason blind you from the many other benefits a trust can provide. There are many kinds of trusts, and one of the most popular types is a living trust. Let’s say John Doe has a moderate estate, and he established a living trust so he can place his assets in the trust for the benefit of his children. During John Doe’s lifetime, he can take out these assets for his own enjoyment, change beneficiaries, remove undesired provisions or add new ones, appoint himself as trustee or appoint other individuals or a trust company to be the trustee, and he can even terminate the trust if it is no longer relevant. By setting up this trust, John Doe potentially accomplished the following estate planning benefits and goals:
- By placing assets in the trust, John can avoid probate. This may be beneficial in some states due to statutory probate fees and depending upon state law, probate files may become public record.
- Trust files are confidential.
- By distributing the estate assets to an irrevocable trust for the benefit of a child, it is possible to shield estate assets from a child’s creditor, if done properly.
- By limiting and timing the distribution of trust assets to the children, the estate assets can be protected from a spendthrift child.
- Establishing a trust is especially important if a child has a disability.
Generally speaking, a trust is not a relevant tool for a family with few assets. Families who don’t own real estate property and whose net worth is less than $100,000 may not find a trust worthy.
If you are aware that you will become the beneficiary of a trust, it is important you contact the trustee to find out if the trust will issue a Schedule K-1 or grantor letter (in some circumstances, you might be treated as grantor of the trust) to you. A Schedule K-1 or grantor letter reflects the income and deductions you will need to report on your individual income tax return.
Question 10: I am named as the executor of an estate, now what?
From a tax compliance perspective, it is the executor or survivors’ responsibility to file the tax return(s) for the deceased. IRS and state revenue authorities might charge significant penalties for late filing. Below is a list of the tax forms that might be required:
Income Tax Return(s)
The final return is due April 15 of the year following death. Please note that you might be responsible for the deceased’s prior year tax return(s) if they have not been filed by the date of death.
Fiduciary Income Tax Return
15th day of the fourth month following the close of the tax year.
Nine months after the date of death.
Gift Tax Return
Earlier of April 15 of (a) the year following gift OR (b) Form 706 due date.
Various State Returns
Although not all of the abovementioned forms are applicable, we would urge you to schedule a meeting with an accountant at the earliest convenience to determine the filing requirements and to start collecting important information to ensure timely filing.
When a taxpayer passes away, a new taxpaying entity—the taxpayer’s estate—is established. The estate should apply for its own employer identification number (EIN) for tax filing purposes. The estate executor should notify all payers of income about the death. This includes but is not limited to: employers, Social Security Administration, financial institutions, life insurance or annuity companies and the pass-through entities (partnerships or S corporations) owned by the deceased.
We also encourage the executor to open an estate checking account as soon as possible to hold liquidated financial assets during the probate or administration process, and use this account to pay bills owed by the decedent or the estate.
Besides issues related to the tax compliance, many other details should be addressed without delay, these include but are not limited to: projection of income tax, updating the estate plan and restructuring life insurance policies and investments. If you are an executor, we recommend you contact an accountant with estate planning expertise to alleviate these burdens and help you navigate the way through this process.