Estate Planning Basics

Estate planning is something that many people find difficult to think about. We do not like to admit our mortality, and estate planning forces us to stare it in the face. It is also one of the few things that we purchase (or invest in), that we will never live to see the benefits of, for the most part.

Nevertheless, there are powerful reasons for planning your estate, and for keeping your estate plan up to date. You have worked all of your life to accumulate your estate. You do not want to trust the distribution of your wealth to the State of Michigan. Similarly, you want to provide for your loved ones, the best that you can. It is not a good idea to leave decisions on their best interests to outsiders who have no stake in their welfare.

Perhaps a better approach is to view estate planning as an extension of the financial planning that all of us do, from time to time. It is planning not only for what happens upon death, but it can also be a blueprint for how our property should be managed during our lifetime. Estate planning is something that everyone does, whether they realize it or not. Some people plan their estates intentionally. More often than not, they plan to let the State of Michigan decide who gets their estate, and how they will receive it.

I have found that many people have similar estate planning questions and the information below is intended to address some of the questions I have been asked many times, as well as discussing some of the general principles of common planning tools.

While it is not possible to adequately address all of the planning techniques you might find useful, this discussion is intended to give you a background for focusing your objectives and concerns and enabling you to deal with the issues that are most important to you.

Wills: What they do and why you need one

A Will directs how the property you own, individually, is distributed upon your death. Property which is jointly owned, in most cases, is not covered by your Will. Jointly owned property usually passes directly to the surviving joint tenant, outside of probate.

Your Will also names the person(s) you wish to be in charge of administering your estate, through probate. The Probate proceeding will be explained in more detail later. If you have minor children at the time of your death, and your spouse fails to survive you, you can name a Guardian for your children in your Will. This is often the only reason for younger parents to execute a Will.

If you do not have a Will, your estate plan is written by the state you live in. The state has developed laws of Intestacy for people who die without a Will. These laws are designed to approximate the way the average person would leave his or her estate. Since testamentary intentions and goals are highly subjective, however, intestacy laws are inherently flawed.

The Michigan intestate statute provides that for married decedents with children, the surviving spouse receives the first $150,000, plus half of the remainder of the estate. The couples children receive the other half. If there were no children from the marriage, but the decedent had children from a previous marriage, the surviving spouse receives $100,000, plus half of the estate and the children divide the other half. If there are no children, the parents of the deceased are entitled to one-quarter of the estate, after the surviving spouses $150,000 share.

The Intestate laws apply only to the assets titled solely in the name of the deceased. Joint property is not considered. For example, assuming that a married couple has $500,000 worth of joint assets, the surviving spouse would be entitled to the entire estate.

For single individuals, the entire estate is divided equally by the decedents children, if any. If the decedent has no children, the estate passes to any surviving parents. If there are no parents, the estate is equally divided by the surviving brothers and sisters, if any, or to their children. After that, the state looks for surviving grandparents, Aunts and Uncles, or cousins, respectively. If there are no survivors under any of these provisions, the estate passes to the State of Michigan.

It is true, therefore, that if you do not have a Will, your property could go to the State. It would only happen, however, in the event you have no relatives to inherit your property. If you live in a very small family and you view it as a strong possibility that you may outlive all of your relatives, the only way you can insure that the state will not inherit your property is by doing a Will.

If, on the other hand, you and your spouse own all or most of your property jointly, you do not have any young children, and you do not feel it crucial that any particular assets go to any particular person, a Will may not be necessary. This is also true for those people who, regardless of how their property is titled, feel that the intestate distribution is how they want their estate divided. For elderly people who have a very small number of assets, titling their property jointly with their children might be a suitable Will substitute. The use of jointly held property as an estate planning tool is discussed below in more detail.

Why a Will may be a Good Idea

As stated above, the intestacy laws are generally not indicative of the intent of the average person. Many people wish their spouse to inherit their entire estate (children or surviving parents being excluded), and some people (married or not) have friends or charities that they wish to leave property to. People with minor children may wish to name guardians. A person may have strong feelings that certain relatives should (or should not) participate in the distribution or administration of the estate. All of these variables are addressed in a Will.

A Will is the best evidence of a persons intent with respect to distributing their property. Without a Will, the states guesswork takes over. A Will may also minimize family squabbling over distribution of assets. If the decedents intent is clearly spelled out in a Will, its difficult to make the argument that he or she would have wanted it otherwise. While a Will may not totally eliminate disagreements, it can smooth difficulties at a very stressful and difficult time.

For people with young children, a Will is the best way to be sure that the people you want to serve as Guardians for your children will be able to do so. If no Guardians are named, any interested party can petition the court to be named Guardian, and a probate judge will decide what is in the best interests of your children.

Misconceptions regarding Wills

There are a number of persistent misconceptionsregarding the use of Wills.

  1. Many people feel that having a Will allows them to avoid probate administration. If a person has property titled in his or her individual name, whether there is a Will or not, probate will be necessary to transfer that property, after the owners death. The major difference is that someone with a Will controls what form the probate proceeding will take. Probate administration will be discussed in detail, below.
  2. People frequently forget that a Will covers only property that is titled in their individual names. They leave a distribution scheme that would be equitable, but for the fact that they have already transferred the bulk of their property into joint ownership. Upon the death of one spouse, property generally automatically passes to the surviving spouse. A Will for people in this situation is really an insurance policy against a disaster situation where both spouses die at once.
  3. Along the same lines, life insurance, annuities, pension plans and IRAs, as well as other assets of this type, typically are not subject to probate, and are therefore not governed by your Will. In general, assets which have an automatic death beneficiary are not part of your Probate estate unless there is no beneficiary named or the benefits are made payable to your estate. (Some people name their estates as the beneficiary of a life insurance policy to ensure that there will be ample liquid assets in the estate to pay estate administration costs, for example.)
  4. It is not possible to disinherit your spouse through the use of a Will. The Michigan legislature has decided it has an interest in insuring that surviving spouses are protected. Accordingly, the law provides that a surviving spouse has the option to take against the Will. This election provides the surviving spouse with one half of the assets he or she would receive under intestate law (or approximately 25-50% of the estate, depending on the survivors and the size of the estate.) The spouse may also elect a homestead allowance and a family allowance. The former is currently $15,000 and the latter is a reasonable amount to provide for the maintenance of the family for a period of up to one year. Additionally, the state allows the survivor rent-free use of the family homestead for up to a year after the first spouses death. It is possible, on the other hand, to disinherit a child, regardless of the reason. If a testator decides that he or she does not wish to leave property to a child, that intent should be clearly set forth in a Will.

Types of Wills

There are three types of Wills that accommodate most estate plans. The Basic Will is by far the most common. The Basic Will directs who will receive the testators property (and who will not receive it), and appoints a personal representative who is responsible for seeing that the estate is properly administered in probate court. The Basic Will may also provide for aGuardian to have custody of any minor children.

Also common is the Pour-over Will. A Pour-over Will is used when the testator executes a Revocable Trust (sometimes referred to as a Living Trust), as part of his or her estate plan. It is a catch-all device that ensures that any property which does not initially make it into the Trust, is nevertheless distributed according to the wishes of the decedent. Under many circumstances, a Pour-over Will may not actually take effect, since most people who use a Revocable Trust transfer all of their property into the Trust (and a Will governs only the property which is in the individual name of the testator).

The third type of Will is a hybrid document. It is used more rarely than the other two forms. This Will contains a Testamentary Trust. Unlike a Living Trust, property is not transferred into a Testamentary Trust until after death. The terms of the Testamentary Trust govern how the decedents property is distributed. When this document is used, the client is usually trying to provide for minor or incapacitated children or children from a previous marriage, but does not wish to execute the more expensive or complicated Revocable Trust. The major drawback of the Testamentary Trust is that the probate court generally continues to monitor the trust property and the actions of the Trustee, until the Trust terminates. The Trustee is required to file annual accounts with the Court, which may involve a substantial commitmentof time and resources, especially when the trust will be in existence for many years (as might be the case where there are very young children, for example). For this reason, when a trust is desired, it is generally advisable for the client to execute a Revocable Trust.

Revocable Trusts

A Revocable Trust (or Living Trust, as it is often called), is a document that provides for the management of the trust Grantors property. The Trust effects only property that is transferred into it. It can control management of the property while the grantor is alive, or after he or she has died. In this sense, it can effectively serve as a Will substitute. Typically, the Grantor is the initial Trustee of theTrust and he or she retains total control over trust property during his or her lifetime. The Grantor canadd or withdraw property from the Trust, change trust beneficiaries, or revoke the trust in its entirety. In short, a Trustee has the same rights and powers over property held in the Trust, as the Grantor had originally (unless the terms of the trust dictate otherwise).

Because the Grantor retains such substantial control over the trust property, the IRS continues to treat him or her as the owner of the property. Any income received is chargeable to the Grantor on his or her individual tax return, and deductions can be taken, the same as before. A Trust can be made to last for a specified period of time, or it can be made to continue for as long as there are Trust assets, and beneficiaries to receive them.

A Trust is an extremely flexible estate planning tool that can be designed to accommodate a wide range of objectives. Trusts can be useful for an elderly or incapacitated client who no longer has the desire or ability to manage his or her affairs. On the other hand, Trusts are ideal for clients with younger beneficiaries, and can be designed to stagger the distribution of assets until such time as the children are ready to receive a larger inheritance. While the Trust document itself is generally more complicatedthan a Will, and administration may be initially time-consuming, a Trust may be the only viable way to achieve certain planning objectives.

Trusts: Who Needs One, Who Doesnt, and Why

Trusts have been used as an estate planning tool since the Middle Ages. They originated in England in response to laws regarding property reversion. Typically, kings would reward loyal subjects with grants of land. Upon the death of the land holder, theproperty would automatically revert back to the king. By transferring the property to a Trust before death, the subjects were able to take the property out of their estates, and pass it on to their heirs.

In recent years, Trusts have become a major estate planning tool, recommended by lawyers, accountants andfinancial planners alike. Trusts are more expensive to establish than Wills, and generally involve a greater time commitment on the part of the client (the Grantor of the Trust), at least initially. Many law firms have been aggressively marketing trusts in recent years. There are several reasons for this. One of the major reasons is greed.

Lawyers used to make a great deal of money administering probate estates. Many lawyers offered ridiculously low rates on simple Wills, hoping to cash in when the client died. The time period between execution of the Will and death of the client is often quite long, however, and there is no guarantee that the heirs of the client will hire the lawyer who drafted the Will. The answer for these law firms is the Trust. A lawyer can make a large initial fee by convincing a client to do a trust (sometimes as much as or more than the cost of probate administration). The law firm gets its money up front and does not need to depend on recouping its costs through probate.

A client needs to know what their options are, and what they hope to accomplish with their estate plan. Once you understand what a Trust can and cannot do for you, you can make a rational decision whether or not you need one.

When is a Trust a Good Idea?

The only time a Trust is an ESSENTIAL part of your estate plan is when your estate is over $5,000,000. Due to recent changes in Federal Estate Tax laws, most people no longer need to worry about estate planning to avoid this tax.

The Federal government provides every person an exemption from Federal Estate Tax that is equivalent to $5,250,000 worth of property (the applicable exclusion amount), which from 2013 on, will be indexed for inflation. The Federal Estate Tax is assessed at 40% for transfers over the exemption amount! Since taxes are no longer a driving issue in estate planning with trusts, the best reason for using them is dealing with issues involving your beneficiaries. If your beneficiaries are minors, for instance, a trust can stagger the distribution of assets to them, so they do not receive a large sum of money before they can handle it. (Under Michigan law, any inheritance by a minor of more than $5,000 requires establishing a Conservatorship. A trust eliminates the need for this.)

Trusts can also provide for beneficiaries suffering from disabilities, or simply protect beneficiaries who are not good at managing financial resources. You can also protect your beneficiaries from creditors and/or a divorcing spouse, by using a trust.

Trusts are also useful in situations involving a second or later marriage, when you want to provide for children from earlier marriages.

Durable Powers of Attorney

The General Durable Power of Attorney (DPOA) is a frequently ignored estate planning tool. What it does is appoint someone to manage your financial affairs during any period when you are incapacitated. Your Attorney in Fact under a DPOA can pay your bills, sign checks for you, file tax returns, and otherwise take care of your assets until you recover. A properly drafted DPOA does not take effect until you have been certified incompetent by two physicians. The powerremains in effect only while you remain incapacitated. Without a DPOA, your family would need to have the probate court appoint a Conservator. That procedure is public, and can take several months to complete. It can also cost thousands of dollars. One of the best examples of the usefulness of the DPOA is with disability insurance. Frequently, a person names him or herself as the beneficiary under their disability policy. What would happen, however, if as aresult of your disability, you were unable to sign the checks? With a DPOA, your designated agent would have the authority to cash the check for you.

When people are planning what they want to happen upon their death, it makes sense to also consider what would happen if they become incapacitated. A DPOA ensures that you are covered, no matter what the circumstances.

Living Wills

As people are living longer and medical technology continues to improve, the incidence of long term medical care is increasing, as well. Many people have very strong feelings regarding medical treatment in the event they are struck by a terminal illness or other affliction from which they will not recover. The answer in many states has been Living Wills. Michigan has long been in the tiny minority of states that do not recognize Living Wills.

Caregivers and other concerned parties, recognizing the need for guidance on this issue, pressed the legislature to enact a statute allowing people to designate a Patient Advocate to make medical decisions for them, if they were not able to do so. This Designation also provides detailed instructions regarding the patients wishes should they be faced with an incurable illness or injury. These forms are available free of charge from any state representatives office, many public libraries and most hospitals and doctors offices. The form is called by various names, including Designation of Patient Advocate, Power of Attorney for Health Care and occasionally, Living Wills. I urge anyone who has a preference regarding their medical treatment to execute this form.

The forms are available in the Michigan Peace of Mind booklets.

Please contact us if you have any questions on this information, or on what planning techniques would work best, to achieve your planning objectives.