Estate Planning Terms and Definitions
Probate and Trusts Probate is the series of court proceedings necessary to transfer the property you own at death. Probate proceedings can be lengthy, and they are public and expensive. Probate can be avoided by transferring all of your assets to a trust (commonly known as a “living trust”) during your lifetime. This is effective because at death you do not technically “own” the assets that were transferred to the trust. When you transfer assets to your living trust, there is no income tax effect during the joint lifetimes of you and your spouse. While you are both living, you may remove property transferred to the trust at any time, upon the decision of both of you for community property and upon the decision of the owner for any separate property. At the first death the trust becomes irrevocable with respect to the decedent’s property.
Wills It is necessary to have a will to dispose of any assets that were not transferred to the trust during your lifetime and to address other technical issues. A will does not operate on assets held in joint tenancy form or on assets that permit you to name a beneficiary by contract, such as retirement accounts or life insurance policies.
A will prepared in connection with a revocable trust should contain a “pour-over” provision, which provides that any assets that have not been legally transferred to the trust (and therefore must pass through probate) will be given to the trust after the probate. This keeps assets centrally administered by the trustee of the trust. Even if all assets have been transferred to the trust, it is important that the trustee contact an attorney after a death to be sure the trust is properly administered.
The executor named in a will is the person responsible for retaining an attorney to submit the will to court and for initiating any necessary court proceedings for any assets that were not transferred to the living trust during your lifetime.
A guardian is the person you wish to be responsible for your minor children and must be nominated in your will. The court normally makes the appointment in accordance with the wishes you have expressed. A guardian of the person is the person with whom your child will reside. This is different from the guardian of the estate, who will be responsible for handling the financial assets of the child, making investment decisions, and paying bills.
Federal Estate Tax Another basic goal of estate planning is to minimize federal estate taxes so that the maximum amount possible passes to your heirs (rather than to the government). In this area there are five basic premises to keep in mind:
- Every person has a lifetime credit currently worth $675,000 and increasing to $1,000,000 by 2006 (“credit”) against estate and gift taxes (lifetime gifts are aggregated with gifts at death) and an exclusion from gift tax worth $10,000 per donee each year.
- The estate tax rate begins at 37% of the net assets in excess of the credit, and accelerates quickly to 55% of the net assets in excess of $3,000,000.
- There is no estate tax at your death on assets that pass, either directly or through a “QTIP Trust” to a surviving spouse who is a U.S. citizen or to a “QDOT” trust for a spouse who is not a U.S. citizen.
- There is no estate tax on assets that pass to a qualified charity.
- Each person has a $1,000,000 exemption against the generation skipping transfer tax for assets passing to persons in a lower generation than children. (The generation transfer tax is a 55% tax on all assets over this amount passing in a manner which skip the next generation to you).
Liquidity People often purchase life insurance to give the estate additional liquidity if estate taxes will be due. If you decide to do this, you will want to make sure that the life insurance proceeds themselves are not included in your estate, or else they too will be subject to additional tax. This can be accomplished by establishing an irrevocable life insurance trust for this purpose.
Durable Powers Of Attorney Durable Powers of Attorney are designed to avoid the need for a public, court-supervised conservatorship proceeding in the event that you become ill or otherwise incapable of acting for yourself, temporarily or permanently. It is common to have a durable power of attorney for financial matters and an Advance Health Care Directive, which is a power of attorney for health care decisions. The powers of attorney remain effective until you revoke them.
General Assignment In order to avoid probate, all of your major assets need to be transferred to a trust before your death. Most assets that have a recognized system to document title, such as real estate, stocks, and financial accounts, require a formal transfer of title from your name as an individual to your name as trustee. However, assets that do not have a recognized system to document title usually can be transferred by a “general assignment.” It purports to assigns all assets, but often is only effective for tangible personal property without documentation of title, such as household furniture, jewelry, and personal effects, and for closely held entities in which the parties have a friendly relationship.
Certification Of Trust One of the benefits of a living trust is that it is private. Occasionally, however, a third party, such as a bank, title company, or stock broker, may request verification of the existence of the trust and proof that the trustees have the power to deal with trust assets. Third parties will often accept a Certification of Trust. It basically certifies that the trust has been established and that the trustees have the powers listed, which are the powers most likely to be in question. It does not contain the dispositive provisions of your trust.
Property Agreement In California, most property is classified either as a married couple’s community property or one spouse’s separate property. Earnings and wages of a husband and wife after marriage are community property. Assets you bring into the marriage, and any appreciation of those assets, remain the separate property of the original owner spouse. Absent an agreement to the contrary, separate property of either spouse may be deemed to be converted to community property by reason of commingling and other acts. Such an agreement made after marriage is referred to as a Transmutation or Property Agreement.
A Property Agreement clarifies what assets are community property and what assets are your respective separate property. A Property Agreement would be effective for all purposes, including determining the rights of creditors of either or both of you, determining who controls the property, and dividing the property in case of a dissolution of marriage. While these consequences may not create any difficulties, any negative impact may be outweighed by the tax advantages. Accordingly, you should be aware of these consequences before entering into a Property Agreement.
