Understanding distributions of assets and estate taxes
If you'd like to better ensure that your assets are distributed as you'd like them to be when you die, estate planning is the answer. Through successful estate planning, your assets would be transferred to your chosen beneficiaries while minimizing tax consequences. Estate planning can also help assure that family members know how you'd like your financial and medical affairs to be handled if you become incapable of making your own decisions.
The process of estate planning includes inventorying your assets; talking over important decisions with family members; and retaining an estate planning attorney to draft a will and/or establish a revocable living trust along with appropriate supporting documents. This web page provides only a general overview of estate planning. You should consult an attorney, and a CPA or tax advisor, for additional guidance tailored to your specific situation.
Estate planning is for everyone, not just the very wealthy. “Estate Planning” means different things to different people. One aspect of estate planning is the creation of your estate. This involves the accumulation of assets over your lifetime. Another aspect of estate planning is deciding who should inherit your assets at your death and how they should inherit them. This aspect of estate planning involves personal choices and legal documents such as wills and trusts. Regardless of the monetary value of your financial assets, it’s likely you have possessions that have significant value to you and to those you care about —You also likely have family members and other loved ones for whom you want to provide upon your death.
A third, and very important aspect of estate planning focuses on minimizing and paying any federal and/or state income, estate or inheritance taxes. Remember, all of your assets are included in your gross estate, and adding up the value of your assets can be an eye- opening experience. When you include your home, investments, retirement savings and life insurance policies you own, you may be surprised at the value of your estate.
A good first step in estate planning is to inventory everything you own, including assets jointly owned, and assign a value to each asset. The following list can help you get started, but you’ll probably need to add some categories and delete others.
- Other real estate
- Savings, e.g., savings accounts, CDs, money markets
- Investments, e.g., stocks, bonds, mutual funds
- Pension and/or other retirement accounts, e.g., 401(k), IRA
- Life Insurance policies and annuities
- Ownership interest in a business
- Motor vehicles, e.g., cars, boats, planes
- Collectibles, e.g., art, antiques
- Other personal property
Other personal property
Depending upon your specific situation, you may need professional advice (e.g., a real estate or antiques appraiser) to determine realistic values. Once you’ve estimated the value of your assets, you’re ready to do some planning.
Why You Need to Consider a Will
A will is a legal document designating the transfer of your propate property after you die. Creating a will is not a difficult process. But if you die without a will, or “intestate,” the court steps in and distributes your probate property according to the laws of your state, which may or may not coincide with your wishes. If you have no apparent heirs and die without a will, it’s even possible the state will claim your estate. Remember, wills are not just for the rich; your will ensures that your probate assets will go to family members or other beneficiaries you designate.
Probate is a legal term, which means to “prove” a will. During probate, the court determines that your signed will is a genuine statement of how you want your estate to be distributed. Depending upon the state in which you are domiciled, the probate process may take a few months or it may take years, and it can be an expensive process. If you own real property in more than one state, you will have probate proceedings in each of these states. Probate is a public process which can be problematic if privacy is a concern. Careful planning can reduce or avoid the probate process. For example, you may set up and fund a living trust and/or you may ensure through appropriate beneficiary designations that neither life insurance nor retirement assets go through probate. Additionally, brokerage accounts may have a Transfer on Death ("TOD") registration that works similarly to a beneficiary designation.
Each state has specific requirements, but in general, a will can be written by any person over the age of 18 who is mentally capable—commonly stated as “being of sound mind and memory.” Although it may seem like something you can do yourself, it is recommended that you consult an attorney for help when creating a will.
To be valid, a will must comply with the laws of the state in which you live. State law may stipulate that you use specific language, sign the will in a particular way, and/or have a certain number of witnesses over a certain age present when you sign.
Elements of a Will
Basic elements of a will include:
- Your name and place of residence
- A brief description of your assets
- Names of spouse, children and other beneficiaries, such as charities or friends
- Alternate beneficiaries, in the event a beneficiary dies before you do
- Specific gifts, such as an auto, residence, or family heirlooms
- Establishment of trusts, if desired
- Cancellation of debts owed to you, if desired
- Name of an executor to manage the estate
- Name of a guardian for any minor children
- Name of an alternative guardian and executor, in the event your first choice is unable or unwilling to act
- Your signature
- Witnesses' signatures
Probably the most important considerations when making your will are naming a guardian for your minor children and naming an executor.
Naming a Guardian
If you die while your children are still minors or you have children who cannot care for themselves in adulthood, you’ll want them to have the best possible care in your absence. Making a will gives you the opportunity to select the person you believe can provide that care. The guardian you choose should be over 18. Before naming a guardian, talk to the person you’d like to name to make sure they are willing to assume the responsibility. Also, name an alternate guardian who can take over if the primary guardian is unable or unwilling to fulfill the responsibility. This is especially important if your children are young or will require lifelong care. If you do not name a guardian to care for your children, a judge will appoint one, and it may not be someone you would have chosen.
Although it is legal to name a couple as co-guardians, it may not be advisable. It’s possible the couple may choose to go their separate ways at some later date, and, if so, a custody battle could ensue.
Naming an Executor/Executrix
The person who carries out or executes the instructions in a will is called an executor or executrix. Obviously, your executor should be an individual you trust. Most people choose their spouse, an adult child, a relative, a friend or a trust company or attorney to fulfill this duty. Choose someone who can handle all of the financial matters involved with settling your estate, and check with that person ahead of time to make sure they are willing to assume the responsibility. Some states stipulate that the executor must be a state resident. It’s a good idea to appoint an alternate executor in case the first person you name is unable or unwilling to fulfill the responsibility. The responsibilities of an executor generally include:
- Collecting your assets
- Paying creditors
- Paying taxes
- Notifying Social Security and other agencies and companies of the death.
- Canceling credit cards, magazine subscriptions
- Distributing assets according to the will
While you can specify in your will that an executor waive receipt of compensation in order to be eligible to serve as executor, this is only suitable if the person named is a beneficiary of the estate or a very close personal friend, since being an executor is time consuming. You should expect your estate to pay an independent executor for this service. Banks or trust companies will not serve as executors of estates unless entitled to payment. If you die without a will, a probate judge will appoint an administrator or administratrix.
Revocable Living Trust
The revocable living trust is an alternative that can be used to distribute assets after one’s death. Unlike a will, however, it comes into effect while you are still alive and may be funded with assets during your lifetime. You can change or cancel a trust at anytime during your lifetime. The trust generally becomes irrevocable upon your death. Assets remaining at your death in a living trust will avoid the probate process as outlined above. These trusts can maintain privacy, reduce administration expenses and streamline the post-death administration of assets. A special type of will, the “pour-over” will, is usually prepared along with the trust. This would serve the limited purposes of nominating guardians and pouring assets not otherwise already owned by the trust into the trust.
Put It in Writing
An inventory of your assets is a good start, but it’s not the only information your attorney will need to create a will or revocable living trust. Your attorney will also need a list of family members and other beneficiaries (e.g., charities) that you may mention in your will or living trust, an estimate of your outstanding debts and an outline of your objectives (e.g., to provide college tuition for my grandchildren). This information will be used to consider how you want to distribute your assets.
Ask yourself lots of questions: How much money will your child need for college? Do you need to provide for a child who has a disability? Are you concerned about protecting your loved ones in the events of lawsuit or divorce? Do you wish to make specific bequests (gifts) of cash or property to loved ones or charity? Is it important to pass your property to your heirs while saving taxes? An attorney familiar with estate planning will help you identify the questions and guide you in determining the answers.
Be as specific as possible when naming beneficiaries. For example, state the person’s full name as well as his or her relationship to you (child, cousin, friend) so your executor will know your intentions. Clarity will help to prevent challenges to your will or trust.
Items not specifically mentioned need to be addressed in a catchall clause of your will or trust called a residuary clause, which generally states, “I give the remainder of my property to....” Without this clause, items not specifically mentioned will likely be distributed in accordance with state law.
Note that the estate usually pays outstanding debts and taxes before beneficiaries receive their shares. You may want to clear up debts that you think may be a problem, or make specific provisions for payment of those debts in your will.
States require that you sign the will in front of witnesses; the number of witnesses varies by state. Witnesses should not be beneficiaries of the will, and only one original will should be signed.
If you need help finding a qualified estate planning attorney, the Web site of the American Bar Association (www.abanet.org) has information to help you find one, although they will not make specific recommendations. See “For More Information” below.
How Estates Are Taxed
If you think taxes are bad while you are alive, estate taxes can be far worse if you happen to own enough assets at your death and do not have an estate tax plan. Federal estate tax law permits each taxpayer to transfer a certain amount of assets at death, free from federal estate taxes. Under the current tax law a federal estate tax will be assessed against those estates in excess of $5,250,000 for deaths occurring in 2013 (indexed annually for inflation). This threshold is generally known as the basic exclusion amount. When properly elected, the basic exclusion amount may be increased by an individual's deceased spouse's unused exclusion amount (if any) if the spouse's death occurs before the individual's death and after December 31, 2010.
Many may feel that because their estate is below the increased exclusion amount there is no need for planning. However, no one should become lulled into a false sense of complacency just because their estate may be less than the $5,250,000 (for 2013) exclusion. Because of the American Taxpayer Relief Act of 2012, that was passed Jan. 1, 2013, the exemption for 2013 will not revert to $1 million as originally expected. However, the top federal transfer tax rate applied to amounts exceeding that exemption will increase from 35 percent in 2012 to 40 percent in 2013.
The following chart shows, by year, the dollar amount of your estate excluded from federal estate taxes and the tax rate on the taxable portion of an estate.
|Estate Tax Rate|
Federal gift tax law permits each taxpayer to transfer certain amounts of assets free from gift tax during their lifetimes. Current law provides for a $5,250,000 lifetime federal gift tax exclusion for 2013 (indexed for inflation thereafter), as well as a federal gift tax annual exclusion amount ($14,000 for 2013 and indexed for inflation thereafter). Additionally, if properly elected by an executor, an individual's federal gift tax exclusion amount may be increased by his or her deceased spouse's unused exclusion amount (if any) if the spouse's death occurs after December 31, 2010..
Minimizing and Even Eliminating Estate Taxes
There are a number of estate tax planning methods you can use to minimize federal taxes on your estate.
The first order of business is to utilize the estate tax exemptions to which we are all entitled under federal law while also taking into account and utilizing state estate exemptions. Given the variety of state estate tax provisions, this brochure only discusses federal tax law.
Up until 2011, the basic exclusion amount was like coupons that had to be used or it was lost; hence, if your spouse was not able to use his/her exemption it would not be available to you. But with the enactment of the Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010, as amended by American Taxpayer Relief Act of 2012, a deceased spouse's unused exemptions may be carried over if the deceased spouse died after December 31, 2010. Therefore, if your spouse does not use any or only a portion of their exemption the balance can be added to your $5,250,000 (for deaths occuring in 2013) exemption.
Many wills and trusts leave all assets directly to the surviving spouse (“All To Spouse Will”). Using this type of will means all assets are transferred to the surviving spouse and the estate tax is deferred until the death of the second spouse. Since there is an unlimited “marital deduction” between spouses who are U.S. citizens, there is no federal estate tax when the first spouse dies.
Giving away assets during your lifetime also will reduce your taxable estate. Federal tax law generally allows each individual to give up to $14000 (scheduled to be adjusted periodically for inflation) per year to anyone, without paying gift taxes, subject to certain restrictions. This means you can transfer some of your wealth to your children or others during your lifetime to reduce your taxable estate. For example, you could give $14000 a year to each of your children, and if you elect to split gifts with your spouse, a total of $28,000 per year can be given to each child. You may make $14000 annual gifts to as many other people as you wish without having to pay federal gift taxes or utilize any of your lifetime gift tax exclusion, but amounts in excess of $14000 will count against your lifetime gifting exemption. There are ways of reducing the “cost” of such gifts that are beyond the scope of this brochure. Gifting can be a very powerful planning tool if properly implemented.
Charitable gifts are another way you can reduce estate taxes. Any such gifts must be made to an organization that operates for religious, charitable or educational purposes and is duly qualified with the Internal Revenue Service. Consult your tax advisor for specific details.
Irrevocable life insurance trusts are used to minimize estate taxes by removing life insurance proceeds from taxable estates and to make it easier to convert your estate’s assets into cash. Life insurance trusts are funded either by transferring an existing life insurance policy or by having the trust purchase a new policy. (Note that transferring an existing policy may have gift and/or estate tax consequences—consult your tax advisor). A number of complex rules must be followed to avoid inclusion in your estate. For example, such trusts must be irrevocable—meaning that you cannot dissolve the trust or change the terms of the trust if you change your mind later—and they must be properly established and administered during your lifetime.
Estate planning is subject to changing laws and can be basic or complex, according to your needs. This web page does not cover all aspects of estate planning. Be sure to seek professional advice from a qualified attorney, and a CPA. The money you spend now to plan your estate can mean more money for your beneficiaries in the end.
Your chances of becoming incapacitated in a given year are much greater than the chances of your passing away. Everyone faces this possibility during their lifetime. This can happen when an individual is nearing death, or it can be the result of a temporary condition. Many people assume their spouses or children will automatically be allowed to make financial and/or medical decisions for them, but this is not so. Certain documents such as Power of Attorney and Living Wills should be used to ensure that those you trust are able to make decisions for you in the event of your incapacity.
Powers of Attorney
A power of attorney is a legal document that allows one person “the principal” to appoint someone else “the agent” to act on his or her behalf. The powers that can be exercised by the agent can be broad or narrow; the principal stipulates them, in advance. You might, for example, authorize your agent to do a specific thing (e.g., sell your house) or you might give authority to do any legal act you would do yourself. If you become incapacitated and don’t have a power of attorney, your family may have to go through a lengthy, public, and potentially expensive guardianship proceeding so someone can act for you.
There are three different types of powers of attorney:
A conventional power of attorney gives the agent whatever powers the principal chooses for a specific period of time (e.g., 30 days) beginning when it is signed.
A durable power of attorney can stay in effect for the principal’s lifetime—beginning when it is signed. This power of attorney must contain specific language stating the agent’s power is to stay in effect even if the principal becomes incapacitated.
A springing power of attorney is triggered by a specific event, such as when the principal becomes incapacitated. An attorney must carefully draft this type of power of attorney so that there is no difficulty determining when the springing or triggering event has occurred.
For estate planning purposes, a durable power of attorney is usually the recommended choice, since conventional powers of attorney can expire or terminate before they are needed most, and it can be difficult to determine exactly when springing powers of attorney take effect. Good planning dictates that you have two powers of attorney—one for financial matters, and another to deal with medical issues (healthcare power of attorney or proxy); you can select the same agent to perform both duties.
Signing a power of attorney does not mean you are giving up your right to act in your own behalf; you are ensuring that your agent will be able to act when and how you have directed, if it becomes necessary. You can revoke or cancel a power of attorney at any time. You can destroy it or make a new one, and you do not need to give a reason for doing so. If you do make changes to your power of attorney, be sure to let all involved parties know of your decision—particularly your agent and anyone they may be dealing with, as well as your attorney. Also, unlike trusts, many financial institutions are afraid to recognize financial powers of attorney that are more than few years old. Make sure you maintain current powers of attorney to avoid a host of potential problems.
All powers of attorney automatically end when the principal dies. This means that after you die, your appointed agent will have no power to make decisions. Thus, your agent’s powers do not overlap with those of the executor of your estate.
Choosing an agent for your power of attorney, like choosing your executor or trustee, is an important decision; you need to trust the person completely and you need to make sure they are capable of performing the job and willing to assume the responsibility. If you come up with a choice of more than one qualified individual, it might be a good idea to choose the one who lives nearest to you. Discuss your options with an estate planning attorney.
Planning Your Medical Care and Treatment — Advance Directives
Advance directives are written documents that tell your doctors what kind of treatment you’d like to have if you become unable to make or communicate medical decisions (e.g., if you’re in a coma). They can take many forms, and the laws about them vary from state to state. It’s a good idea to understand the laws of the state where you live when you write advance directives. It’s also a good idea to make them before you are very ill. Federal law requires hospitals, nursing homes and other institutions that receive Medicare or Medicaid funds to provide written information regarding advanced care directives to all patients upon admission. Another federal law, the Health Insurance Portability and Accountability Act (HIPAA) limits the use, disclosure or release of health information to those who are specifically authorized by you to receive such information. If this information is released to persons or entities not authorized to receive it, those that release such information will be subject to federal, civil and criminal penalties. It is critical that your healthcare documents and other parts of your estate plan address this important law to ensure that your physical and financial health is protected in the event of your disability.
Durable Health Care Powers of Attorney specify whom you’ve chosen to make medical decisions for you. It is activated any time you’re unconscious or unable to make or communicate medical decisions. You need to choose someone who meets the legal requirements in your state for acting as your agent. State laws vary, but most states disqualify anyone under the age of 18, your healthcare provider and employees of your healthcare provider.
The person you name as your agent must:
- Be willing to speak and advocate on your behalf.
- Be willing to deal with conflict among friends and family members should it arise.
- Know you well and understand your wishes.
- Be willing to talk with you about these issues.
- Be someone you trust with your life.
Make sure to let your doctors, family members and close friends know whom you’ve chosen as your agent. Your spiritual or religious beliefs may have bearing on the types of advance directives you choose to prepare. Although disability and death are often difficult subjects to bring up, it is a good idea to discuss these issues with family members to ensure that they understand your values and beliefs. The more communication you have with family members, the easier it will be for them to respect your wishes. Also if you want to be an organ donor, make sure that your agent and your family know and that you include the information in a medical directive.
Advance directives are very important documents though they do not have to be complicated. Any advance directive must comply with state laws. If you spend significant time in more than one state it is advisable to have a set of advance directives which comply with the laws of each state. It is also a good idea to have written advance directives reviewed by your doctor and your lawyer to make sure that your instructions are understood as intended. Once you have finalized advance directives, give copies to your family, medical power of attorney agent and your doctor.
A living will is similar in nature to an advance directive, but very different in details and effect. It comes into effect when a person is terminally ill and death is expected soon. It describes when you want treatment to stop and whether you want to be allowed to die naturally if you have a condition or illness from which you will not recover. A number of important issues must be addressed with this document.
A Do Not Resuscitate (DNR) order directs if your heart stops or if you stop breathing you are not to be given cardiopulmonary resuscitation (CPR). It is standard procedure in hospitals to try to help all patients who have stopped breathing or whose heart has stopped. You can tell your doctor you do not wish to be resuscitated and a DNR order will be entered on your medical chart.
Estate planning is not a one-time job. Many estate planning attorneys advise their clients to review their plans every two to three years. Also, there are a number of changes that call for a review of your plan. Take a fresh look at your estate plan if:
- The value of your assets changes significantly and/or the estate tax laws change.
- You marry, remarry, or divorce.
- You have a child or new grandchild.
- You move to a different state.
- The executor of your will or the administrator of your trust dies or becomes incapacitated, or your relationship with that person changes significantly.
- One of your heirs dies or has a permanent change in health.
- Your children reach age 18.
- The laws affecting your estate change.
You’ll probably need to update your estate plan several times during the course of your life. Things change as time passes. For example, once your children are grown and have their own families, you may want to make provisions for grandchildren. When you make new documents, be sure to destroy the old ones after the new ones are signed, dated and witnessed. You can also update your will/trust by adding a codicil/ amendment— an addition or change. If you add a codicil or amendment make sure it is properly executed and attached to all copies of your will or trust. Consult an estate attorney for advice specific to your situation.
The American Bar Association Guide to Wills and Estates
by the American Bar Association Staff
Published by Random House Information Group
Estate Planning Made Easy
by David T. Phillips & Bill S.Wolfkiel
Published by Dearborn Trade
Plan Your Estate
by Dennis Clifford & Cora Jordan
Published by NOLO
This Web site offers free, useful information on estate planning.
The Internal Revenue Service website has up-to-date estate tax information.
Web site of American Bar Association (ABA) offers information on finding and using an estate planning attorney. The ABA does not make referrals. Click on “Find Legal Help.” The ABA Commission on Law and Aging offers a free tool kit for advance planning/ medical directives. It can be downloaded at: www.abanet.org/aging/toolkit/home.html.
Free, comprehensive, easy-to-understand legal information.
Click on “Tools for Consumers” for online learning to help you achieve financial security for yourself and your family.
Pursuant to IRS Circular 230, MetLife is providing you with the following notification: The information contained in this booklet is not intended to (and cannot) be used by anyone to avoid IRS penalties. This booklet does not support the promotion and marketing of MetLife retirement savings products. You should seek advice based on your particular circumstances from an independent tax advisor.
Neither MetLife nor its representatives or agents are permitted to give legal, accounting, ERISA or tax advice. Any discussion of taxes, ERISA, or accounting rules included in or related to this booklet is for general informational purposes only. Such discussion does not purport to be complete or to cover every situation.
ERISA and current tax laws are subject to interpretation and legislative change. Tax results and the appropriateness of any product for any specific taxpayer may vary, depending on the particular set of facts and circumstances. You should consult with and rely on your own independent legal, accounting, ERISA and tax advisors.
Estate Planning is very complex and is subject to changing laws. This booklet does not cover all aspects of estate planning. Be sure to seek professional advice from a qualified attorney, and perhaps a CPA.
This booklet, as well as any recommended reading and reference materials mentioned, is for general informational purposes only. It is issued as a public service and is not a substitute for obtaining professional advice from a qualified person, firm or corporation. Consult the appropriate professional advisor for more complete and current information.
Text may be reproduced with written permission only. Reproduction of any graphical image, trademark or service mark is prohibited.