Is your estate plan set up to manage some of the most common problems that happen in life? Does it reflect your latest wishes as well as the current estate tax environment? For example, have you moved, had another child or reached a financial threshold that necessitates planning for additional tax-saving maneuvers to help your heirs?
Today, we’ll discuss the five most common estate planning mistakes so that you may account for them, ultimately helping you to create a stronger estate plan.
Mistake #1 – Neglecting to Maintain Current Estate Documents
“Individuals and families should review their estate planning documents every few years and sometimes more frequently in the event of significant tax reform like we’ve just seen or if there are changes within a family such as death of a spouse, birth of a child or material net worth changes,” said Jennifer Jones, CPA, CFP®, CTFA and Estate Planning Consultant with Gratus Capital. “There are two key areas to consider when updating your estate documents: specifically, tax and non-tax considerations, the former of which affects fewer people due to recent tax law changes. It’s important to ensure that your estate plan aligns with your current balance sheet and overall situation.”
Jones highlights two key situations that typically necessitate updating estate plans:
- Change in Circumstances: It’s important to ask yourself what has changed in your life in the last few years.
Is your executor still alive, mentally sharp and in good standing in order to still manage your estate when you’re gone? Or, are your children now adults who no longer need the protective measures your estate plans dictate? If one of your children works in a highly litigious field, have you accounted for this within your estate plans? Or, if a loved one is fighting substance abuse issues, should you update your estate plans to include a contingency on passing a drug test before any distributions?
- Change in State Residency: Some states have their own transfer tax laws. Therefore, it’s important to understand if the state you’re considering moving to or purchasing a second home in could have an impact on your estate planning.
By planning ahead, you may create the opportunity to minimize or defer these taxes. Most licensed attorneys are familiar with planning strategies specific to their states such as using a Credit Shelter Trust[i] for applicable state exemptions.
Mistake #2 – Possessing Non-Flexible Documents
“Well-written estate documents have built-in flexibility,” said Jones. “Equipping executors with flexibility at the time of an individual’s death is extremely important, particularly with the ongoing uncertainty surrounding the future of estate tax laws. Flexible documents enable the executor of your estate to make decisions based on circumstances at the time of death, rather than what was drafted years earlier. Flexibility can help your executor avoid making unnecessary tax payments. For example, a disclaimer may allow the surviving spouse to decide whether to receive funds outright or via a Credit Shelter Trust, depending on circumstances at the time their spouse dies rather than having the trust automatically fund. A potential benefit of not automatically funding a Credit Shelter Trust is that the assets would receive a second basis step up on the subsequent death of the surviving spouse. With estate exemptions continuing to rise, this type of income tax planning may trump more traditional estate tax planning such as the automatic Credit Shelter Trust funding. Your advisor team can evaluate sensible options based on the specifics of your situation.
Naming a trust protector is another approach to incorporate flexiblity. A trust protector is someone who is appointed to watch over a trust to ensure it is not adversely affected by changes in the law or circumstances through powers granted to modify the trust as applicable in the future.
Mistake #3 – Failing to Plan Holistically
It’s important to view your estate plans holistically. Titling and beneficiary designations are often overlooked areas of estate planning. Jointly titled property and beneficiary designated assets such as retirement accounts and life insurance typically will not flow through your will, so care should be taken to ensure planning for these assets is consistent with the rest of the estate plan. A comprehensive plan accounts for all of your assets.
Some clients opt to use Revocable Trusts. In addition to providing for management of affairs in event of client incapacity, Revocable Trust assets do not pass through probate which protects clients’ privacy and can also expedite distribution of assets to beneficiaries. In certain situations, clients might instead use transfer on death (TOD) accounts to avoid probate.
Overall, using a holistic estate planning approach helps to:
- Ensure distribution of assets consistent with testator intent
- Distribute assets in an estate and income tax-efficient manner
- Maintain client privacy
- Reduce probate fees
- Provide loved ones quicker access to your assets
#4 – Lacking Access to Estate Plans
In the event of your death, it’s important for your loved ones and your executor know where your estate documents are stored. In order for your executor to probate your will, he or she will need access to your original will. This then raises the question of where to store your original documents.
“Many attorneys will retain original documents in their firm’s safe. This is a good option to ensure originals can be obtained when needed. Sometimes clients prefer to store their documents in their home safe,” said Jones. “Regardless of where you choose to store them, make sure your advisors and/or executor know where to find the original documents.”
In today’s digital age, it is likely passwords to your asset-related accounts will be helpful to your executor. Your family may also find comfort in having access to other accounts, such as online photos and social media. Digital password managers can be helpful for maintaining passwords. Generally, with a digital password manager, you’ll only need to remember one master password. This one password can be kept with your estate planning documents.
#5 – Ignoring Tax Implications
If you have considerable assets, proper planning can prevent your heirs from incurring avoidable inheritance taxes.
Irrevocable Life Insurance Trust (ILIT)
One strategy to help minimize estate taxes and provide financial resources to help your heirs pay estate taxes is to use an Irrevocable Life Insurance Trust. A life insurance trust is an irrevocable trust that both owns and is the beneficiary of one or more life insurance policies. Upon the death of the insured, the trustee invests the insurance proceeds and administers the trust for one or more beneficiaries.
If properly set up and administered, assets owned by the ILIT will not be considered part of your estate for estate tax purposes—meaning your heirs won’t have to pay transfer taxes on the life insurance death benefits received after your death. With higher exemptions (approximately $22 million per couple under the Tax Cuts & Jobs Act), the tax planning aspect of ILITs are not relevant to as many clients, but for those that still have taxable estates, they can be an excellent strategy.
“ILITs should not be taken lightly,” said Jones. “It is important that administrative procedures are followed in order for the benefits of ILITs to be fully realized.” For example, the ILIT should have its own bank account from which life insurance premiums are paid. Additionally, “Crummey notices,” which let beneficiaries know of contributions to the trust and their rights to those contributions, are often required to qualify contributions to the trust for the annual gift tax exclusion. While cumbersome to some, in many cases, the tax-savings of ILITs can be well worth the extra effort.
Estate planning can be quite complex, particularly in an ever-changing tax policy environment. If you have estate planning questions or other concerns regarding any element of your financial life, please contact us. We welcome the opportunity to be your financial advocates and provide you well-informed and clear answers.
The above article is intended to provide generalized financial information; it does not give personalized tax, investment, legal, or other professional advice. Before taking any action, you should always seek the assistance of a professional who knows your particular situation for advice on taxes, your investments, the law, or any other matters that affect you or your business.