Families, especially children and grandchildren, can have a lot to lose if estate planning is not done properly. As financial advisors working with families on a regular basis, you may be the first to spot potential pitfalls and to be in a position to address those issues before it is too late. 

 First, you should review beneficiary designations and titling of assets. Although your client’s will and revocable trust may be updated, those documents do not control the disposition of assets that have beneficiaries associated with them, such as IRAs, life insurance, annuities and payable on death accounts. Those assets pass to the beneficiaries designated with the asset, not to the beneficiaries named in the will. Accounts registered in joint name pass on death of the first joint owner to die to the surviving joint owner, not to the beneficiaries named in the will. 

It is very common for a client to execute a will or a revocable trust stating to whom his assets are to pass, only for the beneficiaries named in the will to discover after the client’s death that those assets that are titled as joint accounts or have beneficiaries associated with the asset will not pass to the beneficiaries named in the client’s will. Instead, those assets pass to the beneficiary designated on the beneficiary form or to the surviving joint owner of the account. This problem can sometimes be corrected after the client’s death with the use of disclaimers if all of the interested parties are cooperative.  However, the additional time and expense associated with fixing the problem can be considerable, especially considering how the client could have fixed the situation before death by merely preparing a new beneficiary designation form or changing the title on the account.

Second, you should encourage your client to avoid probate with a revocable trust. Probate is court proceeding whereby the heirs prove the decedent’s will is valid and transfer the assets out of the name of the deceased to the heirs named in the will. Such a proceeding will take a minimum of six months, or much longer in more complex estates. A revocable trust takes the place of the will; it designates who is to receive the assets upon the decedent’s death much like a will, but the assets pass from the trust to the heirs without the need for probate. The revocable trust will also avoid ancillary probate proceedings in other states where the client owns real estate. Without the revocable trust, the client’s estate would have to go through probate not only in the state of his residence but in every other state where he owns real estate.

Third, if the client or his spouse owns a life insurance policy on the client’s life, your client should consider the establishment of an Irrevocable Life Insurance Trust to hold ownership of the policy. If the client or his spouse owns the life insurance policy, the proceeds of the life insurance will be subject to federal estate tax before it passes to the children upon the death of the surviving spouse. This result can be avoided with an Irrevocable Life Insurance Trust. With such a trust, the insured’s family will have the use of the proceeds of the life insurance following the insured’s death, but the proceeds will not be subject to federal estate tax in either the insured’s estate of the estate of the insured’s spouse. 

Fourth, if the client’s estate is greater than the federal estate tax exemption ($5,450,000 per individual in 2016), he should consider making annual tax-free gifts to reduce his taxable estate. A gift of up to $14,000 per year can be made by a donor to as many recipients as he likes free of federal gift tax. This applies to both the client and his spouse, so the couple jointly can gift up to $28,000 per year to as many recipients as they like free of federal gift tax. Also, payments of tuition made directly to the school for the benefit of another, such as a grandchild, are not subject to federal gift tax.      

Fifth, an estate plan should consider leaving a beneficiary’s inheritance in trust rather than outright. In the case of a young beneficiary, a trust would be used in order to provide management of the beneficiary’s assets by a trustee who would be more suitable to perform that duty. In such a case, distributions would be made to the beneficiary in increments as the beneficiary needs resources. In the case of an adult beneficiary who is suited to manage his own assets, a trust is useful to protect the inheritance of the beneficiary from the beneficiary’s creditors or from a bad marriage. Depending on the size of the estate, the client may want an adult beneficiary’s inheritance to remain in trust indefinitely due to the asset protection features of a trust.

With nearly 10,000 baby boomers expected to retire daily, now is the time to start thinking about estate planning. We never know when somebody may die unexpectedly, and in the case of an estate subject to federal estate tax, the more time we have to work on reducing the size of the client’s taxable estate, the more successful we will be in reducing the client’s federal estate tax.