Protecting Your Family’s Inheritance

Protecting Your Family’s Inheritance
Bank vault closeup sideview. 3D Render

The label of “irrevocable trust” sounds like you might be trying to keep children and grandchildren from being irresponsible with the assets you’ve amassed through a lifetime’s work, but irrevocable trusts can also offer a flexible solution. They are especially helpful in cases of divorce, substance abuse and other situations, reports The Chattanoogan in an article titled “Keeping Your Family from Losing Its Inheritance.”

If we are lucky, we are able to leave a generous inheritance for our children. However, that doesn’t necessarily mean we should give them easy access to all or some of the assets. Some people, particularly younger adults who haven’t yet developed money management skills, or others with problems like a troubled marriage or a special needs family member, aren’t ready or able to handle an inheritance.

In some cases, like when there is a substance abuse problem, handing over a large sum of money at once could have disastrous results.

Many people are not educated or experienced enough to handle a large sum of money. Consider the stories about lottery winners who end up filing for bankruptcy. Without experience, knowledge, or good advisors, a large inheritance can disappear quickly.

An irrevocable trust provides protection. A trustee is given the authority to control how funds are used, when they are given to beneficiaries, and when they are retained for continued investment. Depending on how the trust is created, the trustee can have as much control over distributions as is necessary.

An irrevocable trust also protects assets from creditors. This is because the assets are owned by the trust and not by the beneficiary. An irrevocable trust can also protect the funds for a beneficiary from divorces, lawsuits and bankruptcies, and manipulative family members and friends.

Once the money leaves the trust and is disbursed to the beneficiary, that money becomes available to creditors, just as any other asset owned by the person. However, there is a remedy for that, if things go bad.  Instead of distributing funds directly to the beneficiary, the trustee can pay bills directly. That can include payments to a school, a mortgage company, medical bills, or any other costs.

The trustee, not the beneficiary, is in control of the assets and their distributions.

The person establishing the trust (the “grantor”) determines how much power to give to the trustee. The grantor determines whether the trustee is to distribute funds on a regular basis, or whether the trustee is to use their discretion, as to when and how much to give to the beneficiary.

Here’s an example. If you’ve given full control of the trust to the trustee, and the trustee decides that some of the money should go to pay a child’s college tuition, the trustee can send a check every semester directly to the college. Some trusts are written so that the trustee can also put conditions on the college tuition payments, mandating that a certain grade level be maintained or that the student must graduate by a certain date.

Appointing the trustee is a critical piece of the success of any trust. If no family members are suitable, then a corporate trustee can be hired to manage the trust. Speak with a qualified estate planning attorney to learn if an irrevocable trust is a good idea for your situation. A professional can also determine whether or not a family member should be named the trustee.

Reference: The Chattanoogan (July 5, 23019) “Keeping Your Family from Losing Its Inheritance.”

What Will New Acts of Congress Mean for Stretch IRAs?

The SECURE and RESA acts are currently being considered in Congress. These acts may impact stretch IRAs. A stretch IRA is an estate planning strategy that extends the tax-deferred condition of an inherited IRA when it is passed to a non-spouse beneficiary. This strategy lets the account continue its tax-deferred growth over a long period of time.

Congress is considering legislation with the SECURE and RESA Acts, that would eliminate the ability of children to create a stretch IRA, one that would let them to stretch distributions from the inherited IRA over their lifetimes. The proposed SECURE and RESA Acts under consideration state that the maximum deferral period will be 10 years. If the beneficiary is a minor, the period would be 10 years or age 21.

If Congress does pass the SECURE and RESA acts, people will need to change the way they financially plan for their retirement accounts. If a parent doesn’t need to spend any of her Required Minimum Distributions, does it make sense to do a gradual Roth IRA conversion and use the RMDs to pay taxes on the conversion? Or should the parent invest the RMDs in a brokerage account?

There are several options in this situation, according to nj.com’s recent article, “With Stretch IRAs on the way out, how can I plan for my children’s inheritance?”

As with many things related to financial and estate planning, the best planning strategy for a parent would depend on her overall finances and what she wants for her children’s inheritance.

The conversion to a Roth may be a good planning move if the parent’s tax bracket makes the income tax rate reasonable. Putting the money in a brokerage account is also an option.

A parent may also want to think about using the RMD proceeds to purchase a life insurance policy held by an irrevocable trust for the benefit of her children.

It’s best to contact an experienced estate planning attorney, so he or she can review the details of the parent’s finances and help her choose the best options for her situation.

Reference: nj.com (October 15, 2019) “With Stretch IRAs on the way out, how can I plan for my children’s inheritance?”

How Do I Deed My Home into a Trust?

Say that a husband used his inheritance to purchase the family home outright. The wife signed a quitclaim deed to him to put the property into his individual living trust with the condition that if he died before his wife, she could live in the home until her death.

But what if the husband or the creator of the trust never signed the living trust? In that case, what would happen to the property if the husband were to die before the wife?

This can quickly become even more complicated if it’s a second marriage for each of the spouses and they have adult children from prior marriages.

The Herald Tribune’s recent article, “Home ownership complications need guidance from estate planning attorney,” says that in this situation it’s important to know if the quitclaim deed was to the husband personally or to his living trust. If the wife quitclaimed the home to her husband personally, he then owns her share of the home, subject to any marital interests she may still have in the home. However, if the wife quitclaimed the home to his living trust, and the trust was never created, the deed may be invalid. The wife may still own the her original interest in the home.

It’s common for a couple to own a home as joint tenants with rights of survivorship. This would have meant that if the wife died, her husband would own the entire property automatically. If he died, she’d own the entire home automatically.

If the wife signed a quitclaim deed over to him or his trust, and the deed was recorded, then she would have transferred her ownership rights to her husband and he would be the sole owner of the home.  If the deed was never even filed or recorded, the wife could simply destroy the document and keep the status of the title as it was.

If the trust doesn’t exist, her quitclaim deed transfer to an entity that doesn’t exist would create a situation where she could claim that she still owned her interest in the home. However, the home may now be owned by the spouses as tenants in common, rather than as joint tenants with rights of survivorship.

To complicate things further, if the husband fully owned the home at the time of his death and the wife has marital rights in the home, then she may still be entitled to a share of the home under her husband’s will, if he has one, or by the laws of intestacy. However, the husband’s children would also own a share of his share of the home. At that point, the wife would co-own the home with his children.

You can see how crazy this can get. It’s best to seek the advice of a qualified estate planning attorney to guide you through the process and make sure that the proper documents get signed and filed or recorded.

Reference: The (Sarasota, FL) Herald Tribune (September 8, 2019) “Home ownership complications need guidance from estate planning attorney”

As a Trust Beneficiary, Am I Required to Pay Taxes?

As a Trust Beneficiary, Am I Required to Pay Taxes?
Tax return check on 1040 form background

Beneficiaries who receive distributions from a trust often have tax questions about whether they have to pay tax or not. Fundamentally, whether a beneficiary pays taxes on distributions or not depends on whether the money they receive is considered “income” or “principal”.

When an irrevocable trust makes a distribution, it deducts the income distributed on its own tax return and issues the beneficiary a tax form called a K-1. This form shows the amount of the beneficiary’s distribution that’s interest income, as opposed to principal. With that information, the beneficiary knows how much she’s required to claim as taxable income when filing taxes.

Investopedia’s recent article on this subject asks “Do Trust Beneficiaries Pay Taxes?” The article explains that when trust beneficiaries receive distributions from the trust’s principal balance, they don’t have to pay taxes on the distribution. The IRS assumes this money was already taxed before it was put into the trust.

After money is placed into the trust, the interest it accumulates is taxable as income—either to the beneficiary or the trust. The trust is required to pay taxes on any interest income it holds (in other words, the income it doesn’t distribute by the taxable year-end). If the trust distributes the interest income, though, it is considered taxable income to the beneficiary who gets it.

The money given to the beneficiary is considered to be from the current-year income first. That means that a distribution to the beneficiary will first be categorized as “income”, and the beneficiary will have to pay taxes on it. If a trustee gives a beneficiary a distribution that is more than the amount of the current-year income, then it is considered to be a distribution from the accumulated principal. This is usually the original contribution that was placed into the trust account, plus any subsequent deposits.

Capital gains may be taxable to either the trust or the beneficiary. All the amount distributed to and for the benefit of the beneficiary is taxable to her to the extent of the distribution deduction of the trust.

If the income or deduction is part of a change in the principal or part of the estate’s distributable income, then the income tax is paid by the trust and not passed on to the beneficiary. An irrevocable trust that has discretion in how much to distribute and how much to keep as retained earnings will pay trust tax based on the rate schedule for trusts and estates, but a beneficiary will pay income tax based on the rate schedule that applies to the beneficiary (single, married, head of household, etc.).

The two critical IRS forms for trusts are the 1041 and the K-1. IRS Form 1041 is like a Form 1040. This is used to show that the trust is deducting any interest it distributes to beneficiaries from its own taxable income.

The trust will also issue a K-1. This IRS form provides details about the distribution. Specifically, it will tell the beneficiary how much of the distributed money came from principal and how much is interest. The K-1 is the form that allows the beneficiary to see their specific tax liability from trust distributions.

The K-1 schedule for taxing distributed amounts is generated by the trust and given to the IRS. The IRS will deliver this schedule to the beneficiary so that they can pay the tax. The trust will fill out a Form 1041 to determine the income distribution deduction that’s conferred to the distributed amount. Your estate planning attorney will be able to help you work through this process.

Reference: Investopedia (July 15, 2019) “Do Trust Beneficiaries Pay Taxes?”

The Biggest Estate Planning Errors

The Biggest Estate Planning Errors
Young woman making a mistake on a pink background

Nobody likes to plan for events like aging, incapacity, or death. However, failing to do so can cause families burdens and grief, thousands of dollars and hundreds of hours. Fox Business’ recent article, “Here are the top estate planning mistakes to avoid,” says that planning for life’s unexpected events is critical. However, it can often be a hard process to navigate. Let’s look at the top estate planning mistakes to avoid, according to industry experts:

1. Failing to have a will (or one that can be located). The biggest mistake is simply not having a will. Many people wait for “a more appropriate time” to put a will together. The truth is, we all need estate planning, no matter the amount of assets a person may have. In addition to having a will prepared and executed, it needs to be findable. The Wall Street Journal says that the biggest estate planning error is simply losing a will. Make sure your family has access to any estate planning documents you create.

2. Failing to name and update beneficiaries. An asset with a beneficiary designation supersedes any terms in a will. Review your 401(k), IRA, life insurance, and any other accounts with beneficiaries after any significant life event. If you don’t have the proper beneficiary designations, income tax on retirement accounts may have to be paid sooner and your heirs will have to pay a lump sum tax immediately. Without a life insurance policy, the proceeds will have to go through probate, which means they are subject to creditors’ claims.

Another mistake that impacts people with minor children is naming a guardian for minor children and then naming the guardian as the outright beneficiary of their life insurance. If money is left to the guardian, then the proceeds are now considered the assets of the guardian and do not transfer to the minors. The cash also now faces exposure to the creditors and spouse of the guardian named as a beneficiary Instead, parents should leave the money to a trust for the children and name the guardian, or another trusted and responsible person, as the trustee of the trust.

3. Failing to consider powers of attorney for adult children. When your children reach age 18, they’re adults in the eyes of the law. If something unfortunate happens to them, you may be left without any say in their treatment or even access to their medical records. In the event that an 18-year-old becomes ill or has an accident, a hospital won’t consult with their parents if a power of attorney for health care isn’t in place. Further, without a financial power of attorney, a parent may not be able to take care of bills, make investment decisions or pay taxes without the child’s signature. This could create an issue when your child is in college—especially if he or she is attending school abroad. It is very important that when your child turns 18 that you have powers of attorney put into place.

Reference: Fox Business (October 15, 2019) “Here are the top estate planning mistakes to avoid”

How Can Life Insurance Help Me with my Post-Divorce Estate Planning?

How Can Life Insurance Help Me with my Post-Divorce Estate Planning?
Agent protects family figures. Life Insurance policy on a desk.

Divorce can be extremely stressful in and of itself as you work through you and your ex-spouse’s current financial landscape. To add insult to injury, divorce can bring some extra challenges to estate planning. The good news is that there are some easy solutions that can help. In many instances, a frequently overlooked strategy can provide real solutions for divorcees as they go through a divorce, as well as provide for future blended families. That’s life insurance. Using life insurance to address some of these issues, can help you create an estate plan that really fits your needs, goals and unique family circumstances.

Insurance News Net’s article “5 Ways Life Insurance Eases Post-Divorce Estate Planning” provides us with five ways life insurance can help you in the event of a divorce:

Have money for divorce-related expenses. If the divorce is contested or includes child custody issues, the proceedings be quite long, maybe months or years. As a result, your attorney’s fees could be hefty. Those with an established permanent life insurance policy can take withdrawals or loans from the policy’s cash value to help pay expenses. If the policy is designed effectively, you won’t have to liquidate other assets or take money from your estate that was designated for beneficiaries.

Protect your income post-divorce. Your income can change significantly after a divorce, especially if one spouse was a stay-at-home parent. They may get alimony payments to help make up the difference, but if the payor unexpectedly dies, the lost income can create a lot of stress and financial hardship for those left behind. Permanent life insurance on the paying spouse can help provide coverage and replace any income lost in the event they pass away suddenly.

Preserve your estate post-divorce. Life insurance can also provide funds to pay off existing debt held by the deceased ex-spouse, which may otherwise eat through the estate. This also can eliminate the need to liquidate other assets from the estate that would have gone to the surviving spouse or other heirs. Take withdrawals or loans from the policy–tax-free, if the policy is set up correctly–and you can effectively plan your legacy, even if your ex-spouse hasn’t been financially responsible.

Ensure that children get a fair inheritance. If you have children from a previous marriage, it may make sense to provide for them through life insurance, rather than passing their assets through a new spouse first. In the alternative, you can provide for your new spouse through life insurance and leave the estate to the children outright or in a trust. With either option, dividing how you leave assets to biological children and a new spouse in a blended family can eliminate stress and bad feelings, especially if the new spouse has children of their own.

Help fund college or other expenses for your children. There is a lot of value in getting life insurance on the lives of both parents, even if only one of them previously worked. Protecting the lives of both parents with permanent life insurance allows you to make certain that the expenses for the children are addressed. Therefore, if the former spouse is responsible for paying medical expenses, college expenses, or other costs for the children, life insurance can provide needed funds if that ex-spouse passes. Permanent life insurance with cash value can also provide funds during the insured spouse’s lifetime (if cash isn’t readily available) to pay college tuition or help adult children repay student loan debt.

You should also look at permanent instead of term insurance. Term insurance may be less expensive, but permanent insurance can accumulate cash value that can be drawn from the policy while the spouse is still alive, as well as providing a death benefit. You may want to also look into adding riders to customize your policy. With a permanent life insurance policy and a long-term care rider, you have the ability to accelerate the policy’s benefit while you’re alive to pay for long-term care costs. This can put to rest some of the concerns for divorcees about who will take care of them if they can’t take care of themselves.

A carefully planned permanent life insurance policy can help you protect yourself, your income, and your estate throughout your lifetime, even if you experience divorce.

Reference: Insurance News Net (November 5, 2019) “5 Ways Life Insurance Eases Post-Divorce Estate Planning”

Is a Retirement Community in Your Future?

At some point in life, many people face the decision of moving into a retirement home or welcoming in-home care. Living in these communities has some advantages that are not present when you age in a place, and it actually gives you more independence. This is because you are not busy caring for a house or being confined to a solitary life in a private home. In fact, according to the article “The Many Faces of Aging” from Harrisburg Magazine, it can be a very flexible and dynamic option.

Deciding to buy or rent a home in an age-restricted community is a major step toward achieving a new lifestyle. If you think this is the right choice for you, you should keep a number of factors in mind as you look for the community best for you. Here are some questions and answers to consider.

What’s your budget? Make sure that you have the numbers right. Consider additional expenses, like yearly or monthly resident fees. Some luxury communities have equity memberships, which require extra financial investment. Don’t forget taxes.

What are the rules and covenants? Every community will have some kind of homeowner’s association that governs what residents can and cannot do. If you want to have grandchildren stay with you for an extended period of time, make sure that this is permitted in the communities you are considering. The homeowner’s association will implement and enforce restrictions, so know what they are beforehand.

What are the neighbors like? Your future social life is key to your enjoyment of the new community. If you are seeking like-minded people, be sure you’ll know what kind of people live there. Get a sense of the general vibe and personalities. Will you feel included and accepted?

What will a different climate feel like year-round? If you are thinking about moving far from your current home, be sure the new climate suits you. Rent before you buy, if at all possible. A southern home is great during the winter, but if you’re too uncomfortable with summer heat, or dislike living most of your summer in air-conditioned spaces, it may not be for you.

Are there activities you’d enjoy? Make sure the activities you like are offered. If you are a reader, you’ll prefer a community with an active lending library and book groups. A golfer will, of course, want a high-quality golf course (although there will likely be additional fees).

Is good medical care nearby? When it comes to convenient medical care, every community is different. In large communities, there may be on-site health care services. Some may rely on local ambulance companies and hospitals for all medical care. Medical services that are five minutes away may be a better choice than those that require a one-hour transport to a hospital.

As you look around, one of the biggest questions is: can you imagine yourself being happy in the community? If it represents a chance to thrive and grow safely as you age, then it just may be the right place for you.

Reference: Harrisburg Magazine (Nov. 8, 2019) “The Many Faces of Aging”