A Little Planning
Avoid Common Estate Planning Traps and Protect Your Heirs
January 19, 2012
Do estate planning recommendations change in tough economic times? Yes, the focus certainly changes, especially if you or your heirs are facing mounting debt, potential creditor’s claims or bankruptcy. Here’s a review of some common and costly estate planning mistakes and how to avoid them, especially in tough economic times:
Mistake: Adding a Child to Your Accounts
By adding a child’s name to your bank or investment account, you not only give him unrestricted access to your account, you also subject your account to his creditors. Even if your child is completely trustworthy, he can still be sued, incur a tax lien, or divorce. The result could wipe out your account.
Solution: If you need help managing your finances, use a revocable living trust or appoint an agent using a durable power of attorney. In both cases you can nominate a person to manage your assets without the liability risk.
Mistake: Putting Children on the Title to Your Home
Adding a child as an owner on your home has the same risks as adding a child to your bank or investment accounts. If the child is sued, has a judgment against him or divorces, your home is at risk. In addition, it can cause unintended gift tax consequences and significant income tax liabilities when the home is sold. After explaining these risks to one of my clients who had already deeded one-half of her home to her son, she asked her son to deed the home back and he refused. She had legally gifted the home and was unable to get it back.
Solution: Rather than add your child to your home to avoid a probate, put the home into a revocable living trust. This will avoid probate and avoid the risks.
Mistake: Failing to Protect the Beneficiaries who are at Risk
Once a beneficiary receives an inheritance, it is his to spend and use as he sees fit. It can also become a potential target if the beneficiary has unpaid creditors, a divorcing spouse, an IRS tax lien or other liabilities. A beneficiary can also squander an inheritance.
Some time ago, I was helping distribute a trust estate when I got a call from one of the trust beneficiaries. He immediately asked whether we could delay the distribution of his inheritance. It was an unusual request because most people want their money as soon as possible. He then explained that he had filed for bankruptcy and if the inheritance could not be delayed, he would lose a major part of his inheritance. I found nothing in the trust that permitted the trustee to withhold the distribution, so I called back and delivered the bad news.
Solution: As long as an inheritance is held in a properly drafted trust, it is protected from a beneficiary's creditors and from the beneficiary’s improper spending habits. If the beneficiary dies before the inheritance is fully distributed, you can specify an alternate beneficiary. Many people like the idea of holding an inheritance in trust until a child reaches a certain age. Others like spreading distributions over a period of time. I often include a provision that allows the trustee to withhold distributions if a beneficiary is involved in a bankruptcy, a divorce, has a large judgment against him, has a drug addiction, is incapacitated or is living in a country that will unduly tax the inheritance.
Mistake: Jeopardizing Public Benefits
Leaving an inheritance to a beneficiary who is on Medicaid, Supplemental Security Income (SSI) or other needs-based assistance will result in the loss of those benefits. The beneficiary will then be forced to spend the inheritance on medical and other needs that were once covered by public benefits. Those expenses can be significant and can deplete an inheritance quickly. Once the inheritance is gone, the beneficiary is forced to reapply for benefits, housing programs and so on. Some recognize this problem and leave the inheritance to another child with the hope and expectation that the money will be used for the child on public assistance. But if the child entrusted with the inheritance dies, divorces, has creditor problems or spends the money improperly, the inheritance can be lost.
Solution: If you have a beneficiary who is on Medicaid or SSI, you should consider leaving the inheritance in a specially drafted trust to preserve eligibility for government benefits.
Mistake: Failing to Name Proper Beneficiaries
Life insurance in Utah is normally not available to creditors of an estate. However, if there is no designated beneficiary or the designated beneficiary is your estate, the insurance money is subject to the creditors of your estate. This can be significant for business owners who own life insurance and who are personally obligated for business debt. The insurance proceeds that would have passed to heirs may instead be used to pay the estate’s obligations.
Solution: Avoid naming your estate as the beneficiary of your life insurance, tax-deferred annuities, IRAs and other retirement vehicles. Make sure primary and secondary beneficiary designations are included. You can also name a properly drafted trust as beneficiary.
Mistake: Not Having an Estate Plan
The most common mistake is not doing any estate planning. This can be a costly mistake for you and your heirs, especially if your estate may be subject to estate taxes.
Solution: Call an experienced estate planning attorney and get it done.
Troubled economic times create challenges in estate planning, but a little planning can go a long way to avoid common mistakes that can cause pain and frustration at a difficult time. Take care of it now and enjoy the peace of mind that comes from proper planning.
Scott Awerkamp is a shareholder in the law firm of Snow, Christensen & Martineau and has an extensive practice in the estate planning and business areas. Mr. Awerkamp can be reached at email@example.com
or at 435-673-8288.