If you’re like most everyone else, estate planning is probably nowhere to be found on your to-do list.
You’re relatively young and healthy. You go to the doctor every year for your physical exam. You exercise regularly, and you watch what you eat.
And besides, you already have your hands full. You juggle between your career and your family. There’s simply no time left in your day to even think about complicated matters that involve accountants and lawyers.
You know you’ll need to deal with estate planning one day. You may even have read an estate planning guide or two. After all, you do want to make sure that your family is taken care of when you’re gone.
But it can wait for now. You’ll have plenty of time to deal with this long and tedious process later. That’s what retirement is for.
The thing is, though, that life can be unpredictable sometimes. You never know what can happen to you on any given day.
If you die unexpectedly, your family’s lives will be turned upside down. On top of suffering from grief, your loved ones will have to spend a good amount of time on funeral arrangements. They won’t be in the right state of mind to deal with the IRS at the same time.
This alone should be a good enough reason to have an estate plan in place.
Estate Planning Basics and What It Can Do
Estate planning doesn’t have to be complicated. If you break down the process into a series of manageable tasks, you’ll be able to achieve peace of mind for you and your family sooner rather than later.
One of the biggest myths about estate planning is that it is reserved only for wealthy families. The fact of the matter is that anyone with assets, wealthy or not, should have an estate plan in place.
First of all, having an estate plan will allow your assets to be distributed to your spouse, children, business partners, or charity per your wishes, not per the government’s determination.
In addition it can reduce the amount of taxes. It ensures that all the hard work you put in to build up an estate is not wasted. Although increases in the amount excluded from the federal estate tax have reached a level where most people will not pay a federal estate tax with planning, state inheritance or estate taxes can still be a burden.
A good estate plan can help you accomplish the following:
- Reduce the amount of taxes your estate has to pay, which leaves more assets for your loved ones to inherit.
- Minimize the disruption of your family’s finances and ensure that they have enough cash flow to sustain themselves for years to come.
- Allow your successors to take over your family business and keep your legacy alive.
- Allow your business partners to continue operating the partnership while giving your family a peace of mind.
Who Should Have an Estate Plan?
If you’re over the age of 18 (and you probably are), it pays to start estate planning immediately. Do the work upfront so that your family does not have to carry this burden at the most inopportune time.
Of course, not everyone should have the same estate plan. Each family’s situation is different. It all depends on what kind of assets you have.
Do you work for yourself or for someone else?
Do you have business partners?
Do you want your business to continue after your death?
Your estate plan revolves around your answers to these questions.
With that in mind, here’s a basic estate planning guide that you can follow to make the transition less painful for your loved ones and business partners than it already is.
For Every Individual
When it comes to estate planning basics, the first and easiest step is to write a last will and testament, commonly known as a will.
Simply put, a will is a document that lists all of your assets and how you wish to distribute them when you die.
In your will, you designate someone (a trusted family member, perhaps) as the executor of your estate. It is the executor’s job to ensure that your wishes are carried out exactly as you intended. Make sure you let the individual know you are planning to name them and obtain their approval. If you have substantial assets you should consider a professional executor. Most often this will be a bank but it could be an individual with significant tax or estate experience. Some attorneys and accountants will agree to act. You might have a team of a family member and a professional.
In an era where internet accounts and computer information are increasingly important they need to be part of your estate plan. You must give your executor specific access to your accounts. This can be done by a provision in your will or a document you execute during your lifetime.
You can also designate legal guardians to raise your minor children and manage their financial interests, if necessary.
Your will specifically states the names of your beneficiaries. It prevents your family from a potentially disastrous scenario. You wouldn’t want your family members to fight with each other in court over who is entitled to your assets, all the while incurring fees and prolonging the distribution process.
However, there is one downside to having a will. It does not prevent your estate from going through a public probate process. The purpose of probate is to notify potential creditors of your passing. If any creditors step forward and claim to be entitled to a portion of your assets, they will have a chance to prove it in court.
Writing a last will and testament is a no-brainer. It doesn’t cost a lot of money to put one together. And if your intentions change for any reason before you die, you can always amend or rewrite it.
Naturally, the probate process isn’t fun for anyone involved. The good news is that there are ways to get around it.
The one thing you can do right away is to assign beneficiaries for your bank and brokerage accounts. This means your savings account as well as your retirement accounts like your IRA and 401(k).
It takes no more than a few minutes to fill out a form online or in person. Once you do so, these accounts bypass probate automatically. It is literally the easiest thing you can do to avoid probate.
Assets that aren’t eligible can be transferred to a living trust. You designate a trustee to manage the assets in the trust. Since the assets are no longer in your name, they no longer have to go through the probate process.
Bypassing probate also means that your assets can be transferred to beneficiaries quickly and privately.
A living trust has higher upfront costs and is a bit more complicated to set up than writing a will. However, preventing your estate from having to go through the public probate process more than makes up for the extra costs.Replace the second sentence with the text below. However, there are circumstances where avoiding probate can be helpful. Your personal circumstances may include things that you prefer to keep out of the public record. You may have only remote relatives. It can be more difficult to challenge trust provisions. It is a very personal decision.
You may want to transfer your home into something called a personal residence trust. It can allow you to ultimately transfer the property to your beneficiaries at a lower transfer tax cost. There are technical requirements you need to meet in order to have it work. Again increased amounts excluded from estate and gift tax may make this less attractive. We have entered a tax environment where income tax has become more of a burden for many. Retaining ownership until death so beneficiaries receive a higher basis has become increasingly important.
For Sole Proprietors
If you run your own business as a sole proprietor, having an estate plan in place is even more crucial than if you receive a paycheck from else. This is especially true if your business generates positive cash flow and most of your assets are tied up in it.
Without the proper plans in place for your business to generate future income, you might leave your family in a bind.
Most one-person businesses tend to die with its owner. The reality is that no one else has the knowledge to continue running the business after the owner passes away.
Thus, you will first need to decide whether or not you want your business to continue operating when you’re no longer around. If you do, you will need to put a succession plan in place.
Identify the person(s) who will take over your business if you die. Train them on the day-to-day operations of the business and give them every opportunity to succeed without you. The more involved they are now, the more likely your business will run smoothly after you’re gone.
Consider granting power of attorney to your successor. That way, they can easily take over any processes that require your signature, such as paying a vendor or making payroll.
You can also set up joint accounts/ownership with your spouse, even if they are not involved in the day-to-day operations of your business. It gives your business another layer of protection should documents need to be signed after your death.
Another way to hold your business assets is through a family limited partnership or family limited liability company. You can use them to slowly gift the value of your business to your heirs and reduce your business estate taxes.
If you die without having any succession plan in place, whoever inherits your business might not have your best interests in mind. And even if they did, they won’t have the necessary knowledge to be able to run your business operations smoothly.
And if you don’t wish for your business to continue operating after you die, you will have to ensure that the business is liquid enough to pay the estate tax due within nine months after your death.
Another consideration for having enough liquidity is if someone sues your business, or if debt collectors come knocking on your family’s door.
Oftentimes, liquidity issues can be resolved by taking out a life insurance policy for the value of the business. If you’re the sole provider to your family, having life insurance can give your family a cushion to sustain themselves while they figure out another way to generate income.
For Business Partnerships
If you are one of multiple owners of a business, you will want your business partners to keep the business running smoothly in case anything happens to you.
The most common way for the business to continue without a hitch is for the existing partners to sign a buy-sell agreement. This agreement allows the surviving partners to buy the decedent’s share of the business at an agreed-upon price.
The buy-sell agreement is a clean way to prevent your family members from having to get involved in the partnership. Your share is sold at a predetermined fair price, and the cash is distributed based on the terms of your will.
Since it is very unlikely for surviving partners to have cash on hand immediately upon one partner’s death, it is common for all the partners to take out life insurance for the value of the buy-sell agreement.
Life insurance for the partnership can also be purchased through what’s called an Irrevocable Life Insurance Trust (ILIT). It is essentially a special trust that acts as both the owner and beneficiary of each business partner’s life insurance policies.
No matter how old you are or how much wealth you have accumulated, it is smart to start planning your estate as soon as possible.
At a minimum, write a last will and testament and state how you wish to distribute your assets upon your death.
Designate beneficiaries to your bank and brokerage accounts. The accounts’ assets will automatically bypass the probate process and transfer immediately to your beneficiaries.
Consider using a living trust. It may be more expensive to get it drafted than a will would be. However, it can be a better way to dispose of your assets in certain circumstances. You can discuss the options with your attorney and decide what best meets your needs.
Have a succession plan in place for your family business. Identify a successor and train them on the operations of your business as much as possible.
Consider writing a power of attorney for your successor so that they can sign documents on your behalf and keep the business running.
Enter into a buy-sell agreement for the fair value of your share in a business partnership.
Consider using life insurance as a means to provide liquidity for the business if you lack other resources.
*This content is developed from sources which are believed to provide accurate information. The information provided is not written for or intended to be financial, tax or legal advice and may not be relied on for purposes of avoiding any federal investment laws, tax penalties or any other laws. Individuals are encouraged to seek advice from their financial advisor, tax advisor or legal counsel. Individuals who wish to be involved in an estate planning process should work with a trained estate planning team, including a lawyer and tax counsel. Neither the information presented nor any opinion written or expressed constitutes a representation by PFA of a specific investment or the purchase or sale of any securities. Diversified portfolios and asset allocation do not ensure profit nor do they protect against loss in a declining market. PFA makes no representations to ensure profit or protect from loss. PFA developed this material to provide information on a topic that may be of interest to the reader.