Estate Planning
Common Estate Planning Problems
There are a number of common problems, which are frequently encountered in estate planning for wealthy clients.
(a) Unbalanced Distribution of Assets: It is not uncommon for one spouse, typically the husband, to own the majority of the assets. This may not create a problem if the husband is the first to die. However, if the wife should predecease the husband with little or no assets, her estate will not be able to fully utilize the unified credit. The husband will be left with the majority of assets without the benefit of the marital deduction upon his death. To plan for the possibility of a reverse order of death, the wealthier spouse may wish to consider shifting assets to the other spouse so that either spouse will able to fully utilize the unified credit.
(b) Problems in Coordinating Methods of Transfer: Your estate planning will be properly implemented only if the various methods used to transfer your assets are properly coordinated with the overall estate plan. Your Will may provide for the optimum use of the unified credit and marital deduction. But the most sophisticated will is of little or no use if most of your assets pass to your spouse by a method of transfer outside of your probate estate, such as joint property with right of survivorship and beneficiary designations for life insurance and IRA's. Therefore, the implementation of your estate plan may necessitate the retitling of property, changing beneficiary designations and other similar changes in the methods by which property is transferred to coordinate with your overall estate plan.
(c) Estate liquidity Problems: Many of the taxes and expenses of an estate must be paid by certain deadlines. Such expenditures require ready cash. If there are estate taxes to be paid, they must generally be paid within 9 months after death. Therefore, it is important to plan for sufficient liquidity in your estate to cover these taxes and expenses when they come due without having to liquidate valuable assets in a distress sale.
The estate liquidity problem may be exacerbated when the major asset in an estate is the decedent's IRA. While the assets in an IRA's are fairly liquid, the estate or heirs will incur an accelerated income tax liability if it is necessary to distribute large amounts of these assets to pay estate taxes and settlement costs. Thus, the estate will incur a double tax if the IRA is the source of estate liquidity.
One common solution to the estate tax liquidity problem is life insurance. Since there is generally no estate tax until the death of the surviving spouse, you may wish to consider purchasing life insurance, which pays upon the death of the survivor of you and your spouse. These double life policies are a lower risk actuarially, and thus, are generally less expensive than a single life policy.
(d) Life Insurance Trusts: If you intend to purchase life insurance to provide estate tax liquidity, you may wish to consider the use of an irrevocable life insurance trust. If you create an irrevocable trust to purchase such life insurance it is possible to exclude
the proceeds from the gross estate of both you and your surviving spouse. This will maximize the benefit of your insurance protection. Otherwise, from 37% to 55% of your insurance policy will go to pay the estate tax on its own proceeds. The rules surrounding irrevocable life insurance trusts are extremely complex and should be carefully considered by competent legal counsel if this strategy is used.
(e) Avoiding Probate Costs: While estate taxes are the most obvious source of estate "shrinkage", the costs of estate settlement may also impose a significant burden on your estate. These costs include legal and accounting fees, property appraisal and transfer fees, probate court expenses, and related costs. Certain of these costs can be reduced through the use of an appropriate estate planning instruments such as a revocable inter‑vivos trust, commonly known as a living trust. The living trust will avoid the inclusion of trust assets in the decedent's probate estate and the resulting probate fees.
(f) Naming Trusts as Beneficiaries of IRA's: In many instances a person’s estate will not contain sufficient assets to fund a Bypass Trust without using the decedent's IRA. This requires designating the Bypass Trust as the beneficiary of the IRA.
In the past, there has been some uncertainty with regard to the tax consequences of naming a trust as the beneficiary of an IRA. Most of these uncertainties were resolved in the recent proposed regulations for section 401(a) (9) of the Internal Revenue Code. The important point is to make sure the trust beneficiaries will qualify as "designated beneficiaries" whose life expectancies can be used in computing the minimum required distributions both during your lifetime and after your death. To accomplish this, the trust must meet four requirements:
- The trust must be valid under state law;
- The trust beneficiaries must be identifiable individuals;
- A copy of the trust must be provided to the plan or IRA; and
- The trust must be irrevocable at the time of your death.
The requirements for lifetime distributions and after death distributions are the same, but the deadlines for meeting the requirements are different. For lifetime distributions the requirements must be satisfied as of your "required beginning date" (i.e. April 1 of the year following the year in which you attain age 70‑1/2). For after death distributions the requirements must be satisfied as of the date of death.
If you are under the age of 70 1/2 naming the Bypass Trust as primary beneficiary will presently qualify because the Bypass Trust becomes irrevocable upon your death. This will permit you to use the life expectancies of the trust beneficiary, i.e., your wife, in determining the required distributions, which must commence no later than your required beginning date.
You should also note that naming a trust as primary beneficiary removes some of the flexibility, which may be achieved by designating your wife as primary beneficiary. For instance, your wife may elect to treat an inherited IRA as her own IRA. This may enable her to prolong the minimum required distributions. By designating your wife as primary beneficiary and your Bypass Trust as contingent beneficiary, you retain this flexibility while permitting your wife to shift the IRA to the Bypass Trust by disclaimer after your death. Using the disclaimer approach avoids naming a trust as primary beneficiary and eliminates the need for an irrevocable trust upon your required beginning date.