End of lifetime decisions are hard to face — especially when you’re healthy and well. It may seem like nothing will ever happen to you. Or perhaps the thought of something happening is too difficult to consider. Either way, these issues seem like something to address in the future — the distant future. Facing the reality that you will die is a challenge of planning. Avoidance is not a viable solution. You’ve worked hard to accumulate money and assets over your lifetime. Making sure they transfer in line with your wishes is the ultimate goal of a successful financial plan. There are four main ways that your possessions can pass to people or causes that are important to you.
The first way that assets can pass is by will. The will only comes into action when you die. In the case of incapacity, it can’t accomplish anything. In order to actually follow the instructions in your will, all of your assets and possessions will have to go through the public court process of probate. This is a legal process where a judge approves that your will is valid, your property is appraised, debts and taxes are paid, and then ultimately, your estate is distributed after it is approved by the judge. An inventory of everything you own is filed with the court and becomes public information. The public nature of this process can be unsettling, or even risky if it were to get in the hands of a predator that might target your grieving loved ones as a victim of financial frauds or schemes. Additionally, there are court costs and attorney’s fees associated with the probate process. Probate fees can get expensive and burdensome, especially when you own property in more than one state.
The second way that assets can pass is via a trust. During your lifetime, if your trust is revocable, it operates under your social security number. There’s no tax implication to putting assets into this type of trust. Since the trust is not a separate legal entity, you can make any changes that you would make if your assets were outside of it. Life continues – business as usual.
Let’s say you reach a point where you lack the capacity to make decisions. In this case, the trust steps in to authorize the people or organization that you have chosen to make decisions on your behalf. The trust provides more direction than a very broad general grant of authority in a power of attorney.
At your death, all distributions made by your trust are handled privately. The only person privy to this information is the trustee that you selected. You avoid the probate process altogether. However, this only applies to assets that have made it into the trust. For example, if you win the lottery and are so excited you have a heart attack and die, your lottery winning haven’t been added to your trust yet. This is the reason revocable trusts are usually accompanied by a “pour-over” will that ultimately gets everything into your trust. Remember that your will has to go to probate and the judge has to approve it first. For this reason, you will want to make sure that all appropriate assets are owned by your trust and that the “pour-over” will is directing assets which may have been overlooked and never placed in the trust.
It’s worth noting that another type of trust is an irrevocable trust. This trust is a separate legal entity, with its own tax identification number and trust accounting. This type of trust operates differently than the revocable trust discussed above. When assets are placed in the trust, the owner gives up ownership and control of the asset. It is commonly used to implement sophisticated estate planning techniques.
The third way that assets pass is via contract. A contract asset has a beneficiary designation and trumps any will or trust. These assets operate under state contract law regardless of whether or not you have a will or trust in place. Common contract assets include: IRAs, retirement plans, life insurance policies and annuities. When you open one of these accounts, you’re given a form on which you indicate who or what entity you wish to receive the asset when you pass away. It is very important to review your beneficiary designations on a regular basis and make sure that these assets pass in a manner that is consistent with your overall plan.
The last option is the least attractive of all. You do nothing. In that case, the state determines what happens to your assets based on state intestacy laws. In Michigan, if you die with a spouse and children from that marriage, intestacy laws state that your spouse inherits the first $150,000 of your intestate property plus ½ of what’s left. Your children inherit everything else. For many people, this outcome is not what they desire, but by doing nothing you’ve lost your right to choose.
Review the four categories listed above and make sure your estate plan is in order.