Recently, this blog examined the benefits of creating an Estate Plan and made the point that while many individuals think that they need only a “simple plan” because they don’t have significant assets or have few beneficiaries, that’s simply not true, see Estate Planning – There’s Something Here for Everyone Part I. This second part of the series will examine the most common mistakes that occur in an Estate Plan and how to avoid them.
Of course, any individual who fails to create an Estate Plan makes the biggest mistake of all. Failing to prioritize your Estate Plan or failing to ensure its completion leaves your affairs and your family in limbo both during life and after your death. As we learned in the first part of this series, without a proper Estate Plan, the state of your domicile controls distribution of your assets upon your death which has a snowball effect. Even if an individual undertakes Estate Planning, that alone does not guarantee a successful plan. Numerous opportunities exist for blunders to create chaos in an Estate Plan. For purposes of this article, I have divided those mistakes into four categories below.
- The first type of mistake results when an individual seeks to shortcut the Estate Planning process in some way. Some individuals try to avoid creating an Estate Plan by retitling their assets jointly with another individual so that the asset passes to that individual automatically upon the death of the first individual. While doing this avoids probate, it creates other issues. For example, either joint tenant has the right to all the assets in the joint account, regardless of who supplied the funds. Further, joint tenants share legal worries. Property owned as joint tenants with rights of survivorship becomes vulnerable to the legal claims of each joint tenant, even if the other joint tenants had nothing to do with the legal issue. Revising the title to an asset may also raise gifting issues. This can be particularly troublesome for real estate because lenders will require the approval of every owner to refinance or sell the property.
- Next, failing to account for the circumstances of a beneficiary results in mistakes in an Estate Plan. This could involve leaving assets outright to a minor, an individual with special needs, or a spendthrift. Any of these could have disastrous results. If an individual leaves assets outright to a minor, then most states require the establishment of a guardianship. Guardianship proceedings involve significant time, trouble, and expense, and often mean continuing court oversight. Usually leaving assets outright to a beneficiary with special needs results in loss of public benefits. Finally, beneficiaries known for spending money, battling addiction, facing legal woes, or dealing with creditors need the benefit of a trust holding their inheritance, rather than outright distribution. Mistakes in failing to account for beneficiary circumstances lead to disastrous results for the beneficiary.
- The next category of mistakes are those plans that surprise the beneficiaries. As Trust and Estate litigators know, a beneficiary whose inheritance failed to meet their expectations makes a great client. Plenty of contentious battles begin because the grantor treated one beneficiary differently than another or one person decided something of which another disapproved. To prevent those surprises, this author suggests having a conversation with beneficiaries, no matter how uncomfortable so that they know what to expect. Clients may hesitate to discuss their plan because they worry that a beneficiary who knows that they will receive an inheritance will lose motivation to work hard. Others may worry that disclosing the information will cause current conflict or believe that the details of their plan should remain private until after their death. Still, others may have a hard time assessing family dynamics or the limitations of their intended beneficiaries. An experienced Estate Planning practitioner assists a client in working through these concerns and encourages an open dialog with the beneficiaries and fiduciaries to reduce conflict after death.
- The final category of mistakes occurs because the individual fails to consider the Estate Plan holistically. An Estate Plan involves more than just the documents evidencing the plan. Effective estate planning requires an understanding of an individual’s assets and how the plan will work for those assets. It also involves knowing what assets the plan won’t cover. Under normal circumstances, any asset that passes pursuant to a beneficiary designation, such as a retirement plan, life insurance, or an annuity passes outside the Estate Plan. Sometimes, these assets make up the bulk of an individual’s wealth. Thus, coordinating beneficiary designations for those assets constitutes an integral part of comprehensive Estate Planning. In addition to considering assets that pass pursuant to beneficiary designation, it’s important to consider the overall impact that taxes will have on the plan as well as the beneficiaries themselves. An attorney creating the Estate Plan needs to understand whether the estate exceeds the Applicable Exclusion Amount ($13.61 million in 2024) which includes determining whether lifetime gifts reduced that amount. Further, if the estate will have an estate tax liability, then it’s important to consider which assets the estate will use to pay such liability. In a situation in which the client has children from a prior relationship, this matters a great deal. While assets passing to a surviving spouse do not incur an estate tax because of the unlimited marital deduction under Internal Revenue Code Section 2056, when those assets pass from the surviving spouse to the children of the first deceased spouse, a tax liability may occur and determining which party ultimately bears the taxes matters.
Finally, the Trust and Estate attorney needs to help the client understand potential income tax consequences of the plan. For example, if the client has designated a beneficiary on an Individual Retirement Account (“IRA”), that beneficiary will have to pay income taxes on the distributions from the IRA unless it’s a ROTH IRA. The income tax consequences of receiving these assets may influence the client to structure their plan another way. Perhaps they intended to make a charitable bequest and after discussing the income tax consequences of distributions from an IRA decide that using a portion of the IRA to fund that charitable bequest makes more sense for their plan. Of course, the practitioner advising the client needs to be aware of these issues. Retaining a competent Estate Planning attorney makes a world of difference in creating and implementing a comprehensive Estate Plan.
As this article has demonstrated, mistakes happen in many ways and lead to various unintended and potentially catastrophic consequences for the loved ones of those who fail to plan. These mistakes may make an impact during the life of the individual who failed to plan, and they certainly cause problems at death. Making matters worse, these mistakes may cause lasting trouble after an individual’s death either through an unnecessary (and possibly expensive or time-consuming) probate process or by improper planning for the intended beneficiary which takes numerous forms. When it comes to Estate Planning, it’s vital to utilize the services of a qualified Estate Planning attorney to guide you through all the stages of your life and to protect your legacy for your loved ones.
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