Estate Planning
- Frequently Asked Questions
By Stuart G. Schmidt, Esq.
What is estate planning?
Estate planning is the process of addressing the possibility
of your mental and physical incapacity and the inevitability
of death and taxes. By planning your estate, you
can provide financial protection to your beneficiaries
by ensuring that any and all taxes are minimized and that
your wealth will be transferred to your beneficiaries
in the most efficient manner you desire.
Estate Planning has five primary objectives:
1) Plan for your potential incapacity. Through
the use of Power of Attorney documents you can designate
the person(s) you want to take care of you physically,
make your health decisions and manage your property during
life, should you be unable to do so.
2) Minimize taxes. Without
proper tax planning, your beneficiaries can end up paying
increased Federal Estate Tax and income tax.
3) Avoid Probate. A
court supervised probate proceeding can result in the
payment of needless attorney's fees, executor fees and
court costs and substantially delay the distribution of
your estate.
4) Direct the disposition of your property. Through
a trust, you can designate who is to receive your property
and for what purposes and / or at what age is most appropriate
for the beneficiary to receive the property outright.
5) Nominate guardians for minor children. A
guardian should be nominated under your Will so as to
ensure that any minor children you have will be taken
care of by the person you choose.
Will my estate have to pay taxes after I die?
It depends. The federal government imposes an estate
tax at your death only if your property is worth more
than the "applicable exclusion amount" which
is currently $2,000,000. This amount will
gradually increase over the next few years and then return
to “old” exemption amount of $1,000,000 by
the year 2011. For the
year 2008, each person can pass up to $2,000,000 at death
tax free, however for gifts made during life this amount
is limited to $1,000,000. While property left outright
to a U.S. citizen spouse is totally exempt from tax, this
is not always advantageous and can actually cause an increase
in tax. Leaving property outright to a spouse, rather
than in a trust, will result in the forfeiture of the
deceased spouse’s applicable exclusion amount; the
opportunity to pass $2,000,000 tax free. However,
leaving one's property to a surviving spouse in a irrevocable
trust (known as a Bypass or Exemption Trust) will ensure
that the first spouse’s exemption can be used to
shelter up to $2,000,000 and that the property will not
be subject to tax upon the death of the second spouse. This
is the first tax planning step that all couples should
take.
Was the Estate Tax Repealed by the Recent Tax
Act?
No, unless you die in the year 2010. The Economic
Growth and Tax Relief Reconciliation Act of 2001 only
temporarily provides relief. To benefit you must
die while the tax act is in effect, which is hardly an
enticing planning option. Absent additional legislation,
which is unlikely at this point, the estate and gift tax
will remain in effect. After the year 2011, the
estate tax exemption will return to the present level
of $1,000,000 per person. The specific exemptions
for the various years are as follows:
Year Amount
Exempt from Tax Tax
Rate
2005 $1,500,000 47%
2006 $2,000,000 46%
2007 $2,000,000 45%
2008 $2,000,000 45%
2009 $3,500,000 45%
2010 Estate
Tax Repealed - Gift tax still in effect
2011 $1,000,000 55%
What documents should a proper estate plan include?
A proper estate plan which provides for the needs of
your family may include one or more of the following:
1) A Will;
2) A Trust which
can either be a Living Trust,
which is revocable and created during life, or Testamentary
Trust which is created by your will and
takes effect upon death;
3) A Community
Property Declaration which confirms
which property of a married couple is community property
or separate property;
5) An Advanced
Health Care Directive and Power of Attorney for Health
Care, which allows an agent to
make health care decisions for you if you are unable
6) A Durable
Power of Attorney for Property Management which
allows an agent to manage any property not controlled
by a Living Trust your property; and
7) Life
Insurance and possibly a Life Insurance
Trust.
What is the purpose of a Trust and how does it
work?
A Living Trust is designed to meet four primary goals:
(1) to minimize estate taxes for a married couple, by
ensuring that both spouse's applicable exclusion amounts
are utilized; (2) to ensure that your beneficiaries
receive the property in the manner you desire, i.e. the
property can be given outright or apportioned over the
years based on need or age; (3) to provide lifetime management
of the property, which is especially important should
you become unable to manage the property, and (4) to avoid
the time and expense of Probate (discussed below).
A Testamentary Trust is designed to meet only the first
two primary goals. Because the instrument is created
on your death by your will, you will not avoid Probate
and you do not receive the lifetime benefits of the trust. However,
a Testamentary Trust does not require that the title
of any asset be changed during life.
While there are many different types of estate plans
which can be tailored to meet the goals and needs of all
client situations, the most common estate plan involves
a trust which provides that upon the death of the first
spouse, two Trusts are created. For a Revocable
or Living Trust, the Trust is "funded" during
life by titling assets and accounts in the name of the
trustees of the Trust. Usually both spouses, the
creators or settlors of the Trust, name themselves as
joint trustees and continue to manage the property as
usual. When one spouse dies, the Trust is administered
by dividing the trust property into two separate Trusts,
often titled the Survivor's Trust and the Bypass Trust. The
property that is placed in the Bypass Trust is sheltered
by that spouse's applicable exclusion amount (which is
$2,000,000 for 2008) and will not be taxed upon the death
of the second spouse. While the Bypass Trust will
ultimately pass to the spouses' beneficiaries, the surviving
spouse is allowed to manage the property as Trustee and
may use both the income, and the principle as long as
it is used for health, education, support or maintenance. However,
because the surviving spouse can be the trustee, he or
she can be given much discretion in deciding what falls
within these categories. When the second spouse
dies, all property can either go to the beneficiaries
outright or it can be held in trust under whatever terms
the spouses deem appropriate.
While this trust plan is only a sample of the many variations,
no matter what trust plan is implemented, a Trust, when
properly implemented, can ensure that each spouse can
exempt the exemption amount, which is currently $2,000,000
for a total of $4,000,000 (this amount may be more or
less depending on the law in effect at death). Absent
planning, the spouses will be limited to only one exemption
amount, which is currently $2,000,000 but scheduled to
return to $1,000,000 in 2011. Not only will this
estate plan ensure that a married couple can utilize their
maximum exemptions, but more importantly, the surviving
spouse will be able to continue to enjoy and rely on the
financial benefits of couple's entire estate.
Are there other estate planning techniques for estate worth over $2
million for a single person, and $4 million for a married couple?
Yes. There are many advanced estate planning techniques
which can be used during your lifetime or at death. These
techniques are especially appropriate for estates that
cannot be sheltered by the current applicable exemption
amount. In addition to minimizing taxes, these various
techniques can protect particular assets from creditors,
such as a business, family residence or vacation home,
and ensure that the beneficiaries are similarly protected
and receive the property in a structured manner as you
direct. These advanced techniques include:
1) Irrevocable
Life Insurance Trust which can allow a surviving
spouse and other beneficiaries to receive the entire
proceeds without a reduction for the payment of estate
taxes;
2) Crummey
Trust which can receive gifts of cash or property
($12,000 can be given each year to each beneficiary
tax free) and can be controlled by the donor while the
beneficiaries access to the property is limited;
3) Qualified
Personal Residence Trust (”QPRT”)
which allows a gift of a residence or vacation home
to be made over time through a trust which results in
incredible tax savings of as much as 80%;
4) Family
Limited Partnership & Limited Liability
Company (“LLC”) which can allow
the elder family members to retain control over assets
and make yearly gifts which can result in substantial
tax savings.
Can I just give all my property away before I
die and avoid estate taxes?
No. The government long ago anticipated this. The
Federal Estate and Gift Tax is under a unified system. This
means that the government will assess the same tax whether
gifts are made during life or whether property is based
at death. If a person gives away more than $12,000
per year to any one person or non-charitable institution,
the federal “gift tax” will be due, which
applies at the same rate as the estate tax. However,
before a tax has to actually be paid, you can use your
applicable exemption amount to give away $2,000,000 without
paying a tax. While a gift tax return must be filed,
the tax is just subtracted from your exclusion amount. In
addition to the annual and lifetime exclusions, the following
additional gifts are also not subject to tax: (1) gifts
to a spouse, provided he or she is a U.S. citizen
and if not then you are limited to $120,000 per year;
(2) gifts to tax-exempt charities; and (3) gifts for school
and medical expenses, provided the money is paid directly
to the medical or educational provider.
I have heard that people save on estate taxes
by making gifts. How?
Each person has an annual gift tax exclusion of $12,000
(this amount was increase to $12,000 as of January 1,
2006. This means that each person can give $12,000
to each beneficiary each year. Substantial estate
tax savings can be achieved by making use of this $12,000
annual gift tax exclusion and starting early. If
you give away $12,000 a year for four years, you have
removed $48,000 from your taxable estate. Each member
of a couple has a separate $12,000 exclusion, so a couple
can give $24,000 a year to a child free of gift tax. If
you have a few children, or other people you want to make
gifts to (such as your sons- or daughters-in-law), you
can use this method to significantly reduce the size of
your taxable estate over the years. Many people
prefer to make this gifts to a special trust, called a “Crummey
Trust”, so that they can manage the property and
control their children’s access.
Consider a couple with combined assets worth $2,300,000
and three children. Each year they give each child $24,000
tax free, for a total of $72,000 per year. In five
years, the couple can give away $360,000 and reduced their
estate to below the $2,000,000, the federal estate tax
exemption for two individuals after 2011.
When should an estate plan be reviewed?
If you already have an estate plan, it should not be
considered permanent. Conditions, as well as your
desires, may change. Estate plans should be reviewed
every three to five years and certain important life changes
may require immediate review. These changes might include:
Birth,
death, marriage, divorce or disability of you or a beneficiary;
Large
increase or decrease in the net worth of you or a beneficiary;
Substantial
change in the type of your assets;
Purchase
or sale of a business;
Change
of residence to another state; and
Change
in tax law.
Stuart G. Schmidt is an attorney certified
as a specialist in Estate Planning, Trust and Probate Law
by the California State Bar, Board of Legal Specialization
and has a Masters of Laws (LL.M.) in Taxation. Mr.
Schmidt is a Partner at Sweeney, Mason, Wilson & Bosomworth,
a Professional Law Corporation in Los Gatos at 983 University
Avenue, Suite 104C.
|
