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MULTI-PART
ESTATE PLANNING INFORMATION MEMO Including Explanation of
Equivalent Exemption Amount, NOTE: This outline takes into account modifications to estate tax law made by the 2001 Federal Tax Act. The Federal Tax Act repeals the estate tax for 2010 only; in 2011, the estate tax exemption is reduced to $1.0 million and a modified carryover tax basis of assets is instituted. Until 2010, the current §1014, IRC tax basis adjustment to fair market value and date of death remains. PRACTICE TIP: In 2011 and after when the modified carryover tax basis takes effect, clients will need to have cost basis information for all assets; therefore, clients should begin keeping meticulous records as to the cost of assets, including investments and real estate along with the cost of improvements to the real estate and all other assets. year of death
minimum/maximum Each person may own at death net value of property up to the then equivalent exemption without incurring any estate tax (see the table above). The value is not based upon cost or tax basis, but is fair market value at the date of death minus any outstanding liens such as a mortgage. The net estate includes all life insurance as well as qualified plan and IRA benefits. Property owned by an individual over the equivalent exemption at death is taxed at a rate beginning at 41% progressing to a top rate of 50% in 2002 reduced gradually to 45% in 2009; as an example, if a single individual or surviving spouse dies in 2002 owning $100,000 of net value of property over the then $1.0 million exemption, the estate tax would be $41,000 ($100,000 times 41%). A married couple with net value of property over the equivalent exemption, which would include life insurance and qualified plan/IRA benefits, should consider utilizing an AB Trust arrangement to have the advantage of two exemptions – see the AB Trust form below. Property transferred on the death of a first spouse to the surviving spouse qualifies for the marital deduction and is not subject to estate tax. If a married couple has property with net value over the equivalent exemption and institute a ‘sweetheart’/everything to each other on the death of the first spouse type plan, upon the death of the second spouse (assuming the value of the net estate did not decrease below the then existing equivalent exemption), estate tax would be due upon the death of the second spouse. Instituting an AB Trust allows both spouses the utilization of his and her own equivalent exemption. The AB Trust functions to avoid or minimize estate tax as follows. Upon the death of the first spouse, separate property of the first spouse to die and 1/2 of the community property totaling up to the then existing equivalent exemption is placed into a bypass (also known as credit shelter and decedent’s) trust and if not withdrawn by the surviving spouse is not subject to estate tax upon the death of the second spouse. The surviving spouse may be trustee of the assets placed in the bypass trust as well as receive all income and have access to principal if needed for health or reasonable living needs. Excess property (over the equivalent exemption amount) of the first spouse to die along with the property of the surviving spouse (any separate property of the surviving spouse and 1/2 of the community property) is placed in the survivor’s trust over which the surviving spouse has complete control. No matter how large the estate, there is no estate tax on the death of the first spouse because of the utilization of the marital deduction, but if the property of the surviving spouse outside of the bypass trust upon death of the surviving spouse is over the then equivalent exemption, estate tax is incurred at the death of the second spouse. The following three topics (Q-tip trust, generation skipping and irrevocable life insurance trust options) generally apply to larger estates (a single individual with a net worth over the equivalent exemption or a married couple with a net worth more than twice the equivalent exemption). Q-TIP TRUST OPTION: A wealthy married couple with a net worth more than double the equivalent exemption has the option to add a third trust known as a Q-tip trust. The Q-tip trust is funded with the property of the first spouse to die over the then equivalent exemption. While the surviving spouse may be trustee, is required to receive all income and may have limited access to principal if needed for health or reasonable living needs, the main purpose of the Q-tip trust generally is to attempt to preserve the property for the beneficiaries desired by the first spouse to die - in most cases that would be children and grandchildren of the marriage with the Q-tip trust in essence to protect against remarriage and a beneficiary designation change for the property at the disposal of the surviving spouse. GENERATION SKIPPING OPTION: For estate planning clients with large estates, another option is to either directly skip a generation or use a generation skipping trust to avoid estate inclusion in the estate of the middle beneficiary. The most typical arrangement would be upon the death of the last parent or single parent to place estate assets in trust for a child with the child having income distributions as well as distributions of principal under the ascertainable standard if needed for health or a reasonable standard of living with remaining assets on the death of the child passing to grandchildren. Remaining assets would then not be taxed to the estate of the child, which would be desirable, if the child has a large estate himself/herself. Each individual may only make a $1.0 million skip without incurring tax on any amount above that at the then highest estate tax rate. A trust arrangement may be drafted such that up to the exact amount of the $1 million exemption is placed in a generation skipping trust. IRREVOCABLE LIFE INSURANCE TRUST OPTION: Generally life insurance proceeds are taxed in the estate of the insured, but wealthy individuals or married couples should consider placing life insurance policies in an irrevocable trust to avoid estate tax. If an existing policy is placed in an irrevocable life insurance trust, to avoid estate tax, the insured must live 3 years pursuant to §2035, IRC. A new policy placed initially in an irrevocable trust avoids the 3-year delay. Proceeds when collected are available to be transferred to the taxable estate in a non-taxable exchange for other assets with the cash from the life insurance proceeds utilized to pay any estate tax. Additionally, irrevocable life insurance trust assets generally would have the same beneficiaries as the overall estate plan. The client needs to understand specific gift tax rules apply to payment of premiums and the life insurance policy is not available for future borrowing or cash value utilization. REQUIRED QUALIFIED PLAN/IRA/ANNUITY MINIMUM DISTRIBUTIONS: An estate planning client needs to be warned that beginning at least by age 70½, minimum distributions must be made from qualified plan, IRA and annuity assets to avoid a 50% tax penalty. See the topic entitled IRA and Qualified Plan Minimum Distribution Rules. The client would generally determine required minimum distributions with the help of his/her tax preparer. The following is an outline that leads the estate planning attorney and client (clients in the case of a married couple) through the estate planning process. If a married couple has a net worth more than the equivalent exemption (see the table above), an AB Trust should be considered (as opposed to a sweetheart will or trust arrangement leaving everything to the surviving spouse). Besides tax considerations, the outline/checklist emphasizes handling different types of assets including trust titling and beneficiary designations for life insurance, qualified plans/IRA funds and annuities. Numerous other considerations are also highlighted.
Benefits Of and Determining Need for A Trust Arrangement As Opposed To Utilizing A Will without A Trust A trust arrangement for a single person or a married couple provides successor trustees to act in the event of severe disability or death of the single trustor or both married trustors; the successor trustee(s) acts on behalf of assets held in the trust and the control is more lasting than a power of attorney (designed also to handle and manage assets) which grows stale (for example, a title company generally does not want to utilize a power of attorney more than 5 years old). If all assets with a title are placed in the name of the trust at the death of a single trustor or death of the second spouse, probate is avoided; even though probate in Arizona is informal, the cost and time involved with establishing a trust and retitling assets and making appropriate beneficiary designations (see below) is quite a bit less than that involved with probate. A trust functions just as a will and would contain the same dispositive provisions for the particular client. The author suggests the following described single individuals or married couples institute a trust arrangement to obtain the benefits above: 1. Anyone over age 50 or 55. This would apply to a married couple if one spouse has reached that age. A relatively wealthy married couple of any age would wish to institute an AB Trust arrangement to obtain the benefit of two exemptions (see above) and at a lower wealth level a married couple would either institute a sweetheart everything to each other trust arrangement (generally a first marriage situation) or institute two trusts to benefit two sets of children (a second marriage situation). 2. Anyone in ill health. 3. Anyone owning real estate out of Arizona so that title may be transferred to the trust with the Arizona situs to avoid an out-of-state probate which generally would be more costly than an Arizona informal probate. 4. If a married couple with a will arrangement suffers the death of one spouse, at that point the surviving spouse should probably institute a trust arrangement to obtain the benefits above. On the death of the first spouse, probate probably would be avoided, as property would be in community property with a title with right of survivorship or joint tenancy with right of survivorship. 5. While Arizona law allows financial assets to be payable on death, real estate is always subject to probate. Thus, if the estate planning client owns real estate, generally a trust would be recommended to avoid probate, especially once the client is age 50 or over. See the trust forms below. Estate Plan
Document Definitions WILL: If a client institutes a will and no trust, the will provides for ultimate beneficiaries and specific property (real estate, vehicles, financial investments not designated payable on death, a business interest such as closely held corporate stock and perhaps other assets) will be subject to probate proceedings on the death of a single individual or surviving spouse. While a will may contain an AB two exemption type arrangement, the author always suggests a married couple utilize a revocable living trust to incorporate the AB arrangement. The type of will which would accompany an AB revocable living trust or a revocable trust of a single individual or of a married couple not containing an AB arrangement (meaning a sweetheart trust/everything to the surviving spouse) is known as a pour over will which states any assets outside of the trust not passing by a beneficiary designation or otherwise are transferred to the trust and distributed according to the provisions of the trust (to the ultimate beneficiaries). Either type of will arrangement generally contains an estate tax allocation clause which those with this material provide beneficiaries are to bear a proportional share of estate tax (proportional to the percentage of the total estate property received by each beneficiary) whether the share of property is passed by will, trust, beneficiary designation or otherwise. A will arrangement appoints a personal representative as well as nominations for guardian of any minor child of the testator/testatrix (maker of the will). A personal representative winds up affairs of the decedent including collecting benefits such as life insurance, keeping debts current, such as expenses of last illness, preparation of the final income tax return of the decedent and transferring remaining estate property according to the terms of the will which would entail a probate on the death of the second spouse or single individual for items of property with a title that have not been placed in a trust or financial assets not titled in the name of the trust which have not been given a payable on death designation before death. TESTATRIX: A woman who executes a will. TESTATOR: A man who executes a will. REVOCABLE TRUST: A revocable trust is sometimes known as a living trust or revocable living trust. A trust has several purposes with one being to avoid probate on the death of the second spouse or a single individual with the proviso that assets with a title need to be placed in the name of the trust before death to avoid probate. The trust provides successor trustees to manage trust assets if the trustor (or married couple trustors) becomes unable to handle financial affairs. Additionally, a married couple with a substantial net worth may utilize an AB Trust arrangement to obtain the benefit of two equivalent exemptions and avoid or minimize estate tax. TRUSTOR: A Trustor is the individual or one of the spouses creating a Trust. TRUSTEE: A Trustee in effect is the manager of Trust assets and is oftentimes the same individual(s) as the Trustor(s). GENERAL DURABLE POWER OF ATTORNEY: Powers of attorney may be utilized only during the life of the person creating the power of attorney (the principal) and are designed to allow the attorney to handle affairs in the event of disability (temporary or permanent), and the financial power of attorney may be designed/drafted to be effective at all times until revocation or only upon/during disability. Since both financial and medical powers of attorney as well as a living will should be updated and re-executed about every 5 years, a better long-term financial arrangement for assets that have a title would be to create a trust and title the assets in the name of the trust allowing the priority order of successor trustees to act if necessary (in event of disability of the trustor) on a long-term basis. MEDICAL POWER OF ATTORNEY: In event of illness or disability, the medical power of attorney allows the attorney to make surgical and other medical decisions. However, one main purpose is to allow the appointed medical power of attorney to help make the determination as to whether to institute a living will - see below. LIVING WILL: The statutory form of a living will is entitled Declaration pursuant to guidance in the Arizona Probate Code. While a living will may be in any lawful form, the statutory suggested language indicates if two licensed physicians certify in writing that a person is terminal (generally meaning irreversible coma), expensive medical procedures are to be avoided and even though the principal/ill person may be kept comfortable (such as through administration of fluids or medicine), the terminal person is to be left to die without extraordinary medical procedures (meaning not incurring extensive medical expenses). The declaration/living will form with this material directs that before such a decision ‘to pull the plug’ is made, the medical power of attorney is to be consulted. BENEFICIARY DESIGNATIONS: Life insurance, qualified plan benefits including IRAs, annuities and probably other financial assets have beneficiary designations which pass such benefits without direction in a will or trust (no probate is ever necessary). The client should have copies of such beneficiary designations along with the executed estate documents referenced above and other organizational information (see the estate planning, property, debt listing and letter of intentions in that regard). If a trust were instituted, generally life insurance would have the trust as the primary beneficiary as generally no income tax is incurred upon the receipt of life insurance. On the other hand, qualified plan funds including those in an individual retirement account and annuities have built-in income tax, and generally a surviving spouse would be the primary beneficiary to allow rollover and deferral of income tax with the trust as the secondary beneficiary (meaning the beneficiary on the death of the surviving spouse). A single individual generally would name a revocable trust as the primary beneficiary. CAUTIONARY NOTE: Large life insurance policies as well as qualified plan including IRA and annuity benefits require special planning and sometimes custom beneficiary designations. if a Revocable Trust is named in any portion of an ira or qualified plan beneficiary designation (as primary beneficiary or otherwise), specific requirements must be met in order that trust beneficiaries be considered designated beneficiaries, to allow deferred payments and income tax – that is a crucial issue addressed with the minimum distribution topic. trust as life insurance beneficiary designation caution: 20 ARS 1131A provides life insurance proceeds paid to an individual beneficiary (such as a child) are not subject to creditor claims of the insured, who has died; if proceeds are paid to a spouse or the Revocable Trust of a single individual or married couple, it appears as if life insurance proceeds would be subject to creditor claims of the deceased insured. As examples of such potential claims, those could include any unresolved lawsuit requesting substantial damages or professional malpractice exposure, whether or not any claim(s) is known or not. Therefore, please notify the attorney of any potential substantial claims before naming a Revocable Trust as beneficiary of life insurance proceeds. However, it is beneficial to name the Revocable Trust as beneficiary of life insurance proceeds, if the funds will benefit young beneficiaries (such as children or grandchildren) in order that funds are held in trust until a certain age (such as age 30). Oftentimes, the Revocable Trust must be the beneficiary of life insurance proceeds, if a married couple institutes an AB Trust, in order that the credit shelter Trust is fully funded upon the death of the first spouse to die. IMPORTANT NOTE: The above discussed documents and beneficiary designations during competency of the client may be amended in any way. As indicated throughout this material, an estate planning client needs to review such documents and beneficiary designations at least every 5 years with powers of attorney and living wills strongly suggested to be redone and revised at the discretion of the client at least every 5 years. See the estate planning client update memo below. APPOINTMENT OF REPRESENTATIVES ISSUE: A client is encouraged to name a number of representatives for each appointed position (financial and medical powers of attorney, trustee, personal representative, guardian of minor children, personal representative and perhaps other positions); the number of appointments for each position is basically limited by the number of available, capable and willing individuals. The author generally suggests appointing a series of individuals followed by a bank or trust company that will always be available in the event all individuals are unwilling, unable and/or unavailable; however, some estate planning clients desire to appoint an institution as first line representative, such as personal representative or trustee (only individuals may act as a power of attorney or guardian of minor children). Generally, the author cautions against making co-appointments (meaning appointing several individuals as the primary appointment). The reason is all individuals that are co-appointed must act together and always agree (unless another arrangement such as a majority vote is set forth in which case several appointees must agree and act together which can be cumbersome); however, some estate planning clients desire nonetheless to make co-appointments for personal reasons, such as the amount of money involved, the family situation or other factors. Some clients feel it is important to have co-appointments in order that a check and balance system is in place even though the co-appointees must always agree and work together and are available to make decisions. It is not unusual to name co-guardians for minor children who generally would be a husband and wife team the married parents or single parent would wish to have a minor child/children in order that both male and female influence is involved as the child matures. While it is convenient that an appointee live in the same location as the client making the appointment, the author advises clients that ability is more important than proximity given easy communication by phone, fax, e-mail, express mail and so on. Estate Planning
Attorney Conference Checklist The following is a typical order of information gathering and client education that generally takes place during the client conference, which follows client review of memos such as above: 1. The attorney is informed of the family situation such as first, second or other marriage situation, number of children and whether or not all are common to the married couple client, any family problems such as a difficult child, health problems and so on, beneficiary wishes including secondary beneficiary designations in the event no issue (children or grandchildren) survive the single client or married couple as well as any other relevant family issues. 2. Calculation of net worth to determine what type of plan should be suggested with the calculation generally to include all life insurance proceeds as well as qualified plan benefits including IRAs, equity in real estate (current value minus the principal balance of liens such as mortgages), an estimate of the value of any closely held business, the value of special assets, such as art or other collectibles, the value of vehicles minus any outstanding debt, a reasonable value for household furniture, appliances, etc. as well as any other assets the client might own. The client using the pre-conference estate planning client questionnaire will make the net worth calculation before the conference. 3. A client listing of appointees in order of priority for financial and medical power of attorney, personal representative and any trustees. NOTE: Those appointments would be shown in order of priority on the pre-conference estate planning client questionnaire. 4. Educate the client that all assets are not created equally for tax and titling purposes. Clients should be informed that life insurance is generally received income tax free by beneficiaries, but qualified plan benefits including IRA funds are always subject to income tax as are installment note gross profit amounts. The client(s) should be told that some assets do not have a title, such as a desk and a computer, even though it might have a serial number and in essence pass by will or through the trust without probate while other assets have a title and are subject to probate with remaining assets having beneficiary designations. Assets with a title include real estate, financial assets including bank, savings, brokerage and other accounts as well as a partnership interest investment, vehicles, a closely held business interest, such as a corporation or limited liability company the clients own and operate and perhaps other assets. Assets/funds with beneficiary designations include life insurance, qualified plan benefits including IRAs and annuities. Again, life insurance is generally received free of income tax, but qualified plan benefits including IRAs and annuities have built in income tax no matter who receives the funds. Large life insurance and qualified plan benefits present special estate planning and income tax issues, and those topics are dealt with in the material below. Clients also appreciate an explanation of income tax issues involved with appreciated property and the problem with joint tenancy vs. community property with right of survivorship. Clients that institute a trust need to understand that joint titling, even community property with right of survivorship, is not appropriate to avoid probate on the death of the second spouse and generally is totally inappropriate if an AB type trust arrangement is utilized as assets need to be titled in the name of the AB Trust to be available for funding the bypass trust upon the death of the first spouse. In that regard, life insurance is generally paid to a trust if the clients have instituted such, including a trust arrangement for the benefit of a child or children upon the death of the second spouse as well as any revocable type trust including an AB Trust, but qualified plan benefits because of the built in income tax would have a surviving spouse as the first beneficiary, as only the surviving spouse may roll over and defer income tax, or other individual beneficiaries to avoid a shorter required payout period that accelerates income tax. PROBATE COMMENTS: Clients should be informed that the institution of a revocable trust may avoid probate so long as all assets with a title are titled in the name of the trust. The author informs clients that it makes good sense to institute a revocable trust if the client is in very poor health or over age 55 or 60. The author informs clients that probate in Arizona is informal, meaning only one court appearance in the form of a visit to the probate registrar is necessary, but that the cost of a probate averages about $2,500, requires some time of the personal representative and takes about 5 or more months to complete because of the 4-month notice to creditor waiting time. On the other hand, to transfer assets to beneficiaries following the death of the Trustor under a trust arrangement takes a very short period of time and perhaps a $500 fee, but the trustee and beneficiaries must be cautioned that enough assets must be withheld to pay debts, which are currently due. However, whether a will arrangement or trust arrangement is instituted, the beneficiary of an asset with a monthly payment such as a house or car would accept the asset subject to continuing such payments. The author charges about $350 for a will arrangement including financial and medical powers of attorney and living will as well as direction as to life insurance and qualified plan beneficiary designations as well as client organization instructions (that would be for client profile (a) below). The author charges about $500 to $600 to institute a revocable trust with no estate tax planning including required pour over will, powers of attorney, living will, explanation and instruction letters as well as transfer of Arizona real estate to trust titling (that is client profile (b) below). The author generally charges $1,500 to institute an AB Trust arrangement, including powers of attorney, living will, pour over wills as well as letters of explanation, completion and instruction and Arizona real estate titling in the name of the trust (that is client profile (c) below). 5. Determination of the type of estate plan for the particular client and drafting of such. Typical client profiles would include the following: A. A young first marriage couple situation with children that need a straightforward will arrangement leaving everything to each other and then in trust for children. B. A single individual or married couple either in bad health or somewhat older (say over age 55) that are best advised to institute a revocable trust arrangement to avoid probate. See the probate comments just above. C. Any married couple with a high net worth needing an AB Trust arrangement so both spouses use the equivalent exemption and avoid or minimize estate tax as well as avoid probate. A married couple with a net worth of more than the equivalent exemption (see the table above) should consider instituting an AB Trust to allow the utilization of the equivalent exemption by both spouses. Without an AB Trust, generally, assets would be transferred to the surviving spouse and then assets on the death of the second spouse would be subject to estate tax beginning at a stiff rate of 37% (higher minimum rates apply after 2001 – see the table above) for value above the equivalent exemption. LARGE LIFE INSURANCE POLICIES DILEMMA: It is not unusual for the author to have married clients with a net worth over the equivalent exemption (see the table above) which is almost all life insurance proceeds to be collected on the death of husband and wife. Most married clients (especially young married clients who have the life insurance policies as income replacement protection) will opt to institute simple wills leaving everything to each other with the life insurance beneficiary designation to the surviving spouse upon the death of the first spouse. The attorney needs to caution that in the event the clients die within a relatively short period of time that the estate of the surviving spouse will be over the equivalent exemption subject to estate tax, which would short the beneficiaries - generally children. In any event, it is the author’s experience the married clients will not institute a more costly AB Trust or an irrevocable life insurance trust to hold the policies to avoid or minimize estate tax. However, in such event that the ‘sweetheart’ will arrangements are instituted, the author would suggest placing a disclaimer/renunciation provision the wills of the spouses allowing a spouse the flexibility to disclaim life insurance proceeds on the death of the first spouse; see the disclaimer provision in the will arrangement with this material that states in the event of such a disclaimer the disclaimed property would be in equal shares for the benefit of issue by right of representation. D. A married couple that is a second marriage situation, such as the remarriage of a widow and widower might entail the need for separate trust arrangements to preserve assets owned by each respective spouse for the children from the previous marriage of each respective spouse. LONG-TERM CARE INSURANCE NOTE: Probably all estate planning clients and especially any client over age 40, should be made aware of long-term care insurance options. This type of insurance is not health insurance, but covers day-to-day expenses of care needed to assist in living such as hygiene, cooking, household chores and so on, at any age, because of a severe disability such as caused by a car accident or old age. NEED FOR A TRUST AS OPPOSED TO A WILL: A trust is a device to avoid probate if all assets with a title are in the name of the trust and provides a long-term manager (the successor trustee or trustees) in the event the trustor becomes unable to handle financial affairs during lifetime because of election to do so (which does not take place very often) or in the event of a severe mental or physical disability. The author believes that anyone over age 50 or 55, anyone owning any real estate outside of Arizona, or anyone in ill health should institute a trust to avoid probate - especially a probate outside of Arizona (which would be caused by out-of-state real estate). See the probate law and forms outline with the estate planning material. TRUST CLIENT MISCONCEPTION/CAUTION: Clients instituting a revocable/grantor trust should be informed that the trust in no way protects assets placed in the trust from creditors of the client/trustor. See the client cautionary note at the end of the letter entitled explanation and completion to be given to different type of trust clients. Just as clients believe by incorporating personal assets are totally protected (that is not true as the shareholder may not protect personal assets from his/her own negligence), some clients believe by placing assets in a revocable trust creditors are defeated - that is totally untrue. Clients need to be informed creditors have the same rights as to assets held personally as well as to assets held in the name of a revocable trust. 6. The author begins the estate plan drafting, no matter the type of plan profile dictates, with the estate planning client letter following the AB Trust entitled, Estate Planning Property, Insurance and Debt Listing and Letters of Intentions. The client should be informed to assume that he/she is unable to communicate because of a difficult lifetime disability or because of death, and the letter informs and the attorney should tell the estate planning client(s) to make a clear listing of how to locate checkbooks, payment books such as for a house or car loan, health insurance, disability insurance, tax records and so on. The pre-conference estate planning client questionnaire is also designed to begin and complete that process of information listing. This will enable appointed individuals (a power of attorney or trustee) to continue financial affairs. The author informs clients that estate planning information and documents generally should be kept at home rather than in a safety deposit box because a safety deposit box is not easy to access. Generally a fireproof safe or box (available in hardware stores, department stores or discount stores) should be utilized; that would contain information requested on the pre-conference estate planning client questionnaire as well as the property, insurance, debt listing and letter of intentions client letter including information on how to easily locate appointed individuals (again, such as a power of attorney or a trustee). In the box would be the client documents which would include any revocable trust, will, financial and medical powers of attorney, living will, along with real estate deeds, car titles (only the registration and proof of insurance need to be kept in a vehicle), life insurance and perhaps other insurance policies as well as a listing of financial assets including bank accounts, brokerage accounts, IRAs and other qualified plan benefits such as through a closely held business pension plan or a client/employee qualified plan such as a 401(k). The financial assets can be documented generally with monthly statements reflecting account number, institution, address, phone number and perhaps contact person, such as a personnel director at work handling a qualified plan for an employee. 7. The author then prepares financial and medical powers of attorney in which clients that are married generally designate the other spouse first with several other individual successors such as siblings, parents, older children or even close friends. Clients should be told they might have different individuals or a different order for financial and medical purposes. The medical power of attorney goes ‘hand in hand’ with a living will, and clients should be told a living will in Arizona generally states that if two physicians certify in writing that a person is terminal (meaning irreversible coma and basically no more intelligent thought) that life is not to be prolonged by spending money; however, the client should be told the medical power of attorney references the living will and those appointed (such as a spouse) would be involved in the final ‘pull the plug’ decision. 8. The author will then draft the will arrangement or a Revocable Trust along with the necessary pour over will based upon the client profile (see Item 5 above). Clients should be informed if the value of the estate on the death of the client or surviving spouse is over the then equivalent exemption (see table above), that estate tax must be paid on the excess beginning at 37% (higher minimum rates apply after 2001 – see the table above). Clients should be told Paragraph 3 of the Will (see the pourover will above accompanying the AB Trust) has what appears to be a complex estate tax allocation provision, but that clause provides that beneficiaries are treated equally and bear any estate tax equally (meaning on a pro rata basis to the amount of estate distribution to each beneficiary). Clients will need to decide upon death how the estate is to be distributed, and generally a married couple would have assets of the first spouse to die at the disposal of the surviving spouse with an outright distribution or in the bypass/decedent’s trust if an AB Trust is utilized. Again see the pre-conference estate planning client questionnaire, which is designed to help clients with the important dispositive determinations. Clients need to be told to assume if they are not survived by any children or grandchildren, a decision needs to be made as to the secondary beneficiaries; in the case of a married couple, no matter which spouse dies first, generally the estate upon the death of the second spouse would be split and distributed equally for beneficiaries of both sides of the family (various secondary beneficiary suggestions are set forth in the wills and revocable trusts in this material). CLIENT DOCUMENT DRAFTING TIPS AND CAUTIONS WITH EMPHASIS ON SECONDARY BENEFICIARIES AND SECOND MARRIAGES: Throughout the conference clients will be making a number of decisions including, if younger beneficiaries are involved, how long to hold assets in trust for children and grandchildren and at what ages to make distributions. The author is able to tell clients what are standard, but always cautions that clients need to make decisions, which suit them, and their family situation. The author informs clients that it is typical if parents survive any of their children who leave grandchildren of the parents/clients; it is not typical that all property would pass to surviving children with grandchildren cut out - in other words, the primary beneficiaries would be issue by representation rather than children per stirpes. The author tells parents/clients that it is typical after the death of both parents that property including life insurance be held in trust for children and possibly grandchildren with the trustee always distributing for any health and any education as well as reasonable living needs. The author always gives the example that a trust beneficiary reaching driving age always asks for a sports car, and the trustee at that point would buy the young adult a practical vehicle. The author tells clients that it is typical that each child and/or grandchild trust beneficiary would receive, say, half of trust property at age 25 and the remainder at age 30; however, the attorney should emphasize to the clients that those type of decisions rest with the clients. The estate planning material with the various will and trust forms sets forth numerous different secondary beneficiary designations (to the author, secondary beneficiaries are those if no issue survive). The clients need to be aware after the death of the first spouse; the surviving spouse may change certain distributions. For example, if a ‘sweetheart’ will is instituted with all property to the surviving spouse, the clients need to realize the surviving spouse could remarry and conceivably cut out the issue of the first marriage, foolishly spend all of the money (such as purchasing a restaurant that fails), spend all of the money for health needs or for other reasons transfer nothing to the issue (children and grandchildren) of the first marriage. The AB Trust arrangement locks in the beneficiaries of the decedent’s trust, but the clients have the flexibility to allow the surviving spouse to change beneficiaries after the death of the first spouse so long as limited to a certain class of individuals (see the topic Who Should Be Trustee) and the decedent’s/bypass trust funds could be all utilized during the life of the surviving spouse. Other assets passing to a surviving spouse by will or trust is subject to dissipation and beneficiary change, such as to the spouse of a second marriage. Upon the death of a first spouse, even if all property is community property, the property of the deceased’s spouse could be placed in a trust with an independent trustee with the surviving spouse given controlled access to income and principal to attempt to preserve that property for the issue of the first marriage; however, it is the author’s experience that clients do not opt to take that complicated route - but elect to trust a surviving spouse. If substantial separate property of one or both spouses is involved such as because of an inheritance or a second marriage situation, separate trusts do make sense and are instituted by clients to protect the property of each respective spouse or the issue of that spouse - especially in a second marriage situation. CLIENT LETTER OF INTENTIONS: With the client letter entitled Listing Of Property, Insurance and Debts, clients are invited to prepare a letter of intentions which would include why a particular beneficiary is cut out and if younger children are involved especially parental desires for the children directed to guardians - in that regard, the directions oftentimes would be as to which school or schools, such as a private high school, are preferred, religious activity directions and overall living instructions such as regarding sports and hobby activities such as a request the child or children take music lessons. Another direction to guardians might be that he/she/they may spend trust funds of the children to make an addition on the home of the guardian(s) if adequate quarters do not exist for the children in the home of the guardian(s) perhaps with a dollar limit in today’s dollars and only if the children are say under age 16. In a second marriage situation, if the parent/ex-spouse of a child or children of the client is not suitable to have the care and custody of the child or children of the first marriage, the letter of intentions as well as the guardianship clause of the will probably would be best to state just that and the reasons. FIRST MARRIAGE DEATH OF ONE SPOUSE SUBSEQUENT REMARRIAGE ISSUE: In the event after the death of the first spouse the surviving spouse remarries, a possible problem is raised as to whether issue of the first marriage would benefit from all property if the surviving spouse remarried. If property/net worth is substantial enough to justify the utilization of an AB Trust, the property in the decedent’s trust may have locked in beneficiaries - the issue of the first marriage; however, if the surviving spouse is trustee of the decedent’s trust, an issue of over broad invasion of decedent’s principal could develop. One possible solution would be for all or part of the property of the first spouse to die (1/2 of community property and any separate property of the first spouse to die such as an inheritance) could be at the death of the first spouse transferred at that point for the benefit of issue and away from the surviving spouse. Obviously that could create the issue as to whether the surviving spouse would then have enough assets for the rest of his/her life. Clients need to be told the difference between a division of property by representation vs. per capita; in that regard, clients will give an equal share or various percentages of the estate or various types of property to specifically designated individuals such as issue, siblings, nieces and nephews, specific individuals and so on. A designation per capita means lower generation relatives of the beneficiaries are cut out. As an example, if an equal share of the estate is given to children that survive per capita, only surviving children receive a share and grandchildren are cut out. However, if the designation is to issue (meaning lower generations below the trustor/testator/testatrix) by representation, if any child or children predecease the trustor/testator/testatrix, grandchildren are not cut out. The same would be true if the designation is to, for example, siblings and issue of siblings with the same distinction per capita vs. by representation. See the functioning by right of representation definition provision with the trust forms and simple will with this estate planning material. As an example, if a trustor has four children and two predecease the trustor with one deceased child leaving two grandchildren of the trustor and one leaving one grandchild, under the new law, the by representation formula would take 50% of the trust estate and divide it in three equal shares. Under the old law (for a will or trust executed December 31, 1994 or before), which a trust or will executed after December 31, 1994, may indicate is controlling, the two grandchildren would each receive 12-1/2% and the other grandchild would receive 25%). Clients should be given such an example and allowed to select a per capita format or a by representation format specifically under the new law or old law. 14 ARS 2709D provides that the new law will apply to a document executed on December 31, 1994 or before if a will codicil or trust amendment materially affects the dispositive provisions. Again, clients should be informed of the distinction and that they may control whether old/previous or new/current law applies; the clients should make a considered decision by selecting previous or current law by using the definition of functioning by right of representation provisions in the trust forms and simple will with this material. 9. After the main estate documents (the will or a revocable trust accompanied with a pour over will) have been drafted, property considerations need to be had. Clients should be told there are basically three kinds of property, and all assets are not created equal for tax purposes. Certain property does not have a title and generally is personal property such as home furnishings and appliances, personal effects, jewelry, art and other collectibles as well as other items, such as sports equipment. Many items of property have a title and would include a personal bank or brokerage account, vehicle, real estate as well as closely held business interest and partnership investments. Married clients must make a determination as to which property is separate and which is community property; clients should be told that separate property is that owned before marriage as well as inherited or received by gift during marriage. Clients should be told that separate property owned by one spouse does not receive a step-up for income tax purposes upon the death of the other spouse, whereas community property receives a full step-up; however, even though clients may transmute separate property to community property for income tax and estate tax benefits, before doing so, clients must be informed of the divorce detriment (in the event of a divorce, the owning spouse converting separate property to community property would basically lose 1/2 of the value of the property). However, if a client institutes an AB Trust, clients should be informed that separate property of one spouse is not available to fund the AB arrangement if the other spouse dies first. Importantly, clients instituting an AB Trust should be informed that owning property in joint form (joint tenancy or community property with right of survivorship) is not appropriate, as that property passes by operation of law on the death of the first spouse to the other spouse and outside of the AB Trust such that it is unavailable for funding the AB Trust arrangement - in order to obtain equivalent exemptions for the spouses; however, an AB Trust may hold separate property of one spouse in that form to avoid the divorce detriment (see above). The third type of asset has a beneficiary designation and generally would be in the form of life insurance, qualified plan benefits including IRA funds and annuities. Life insurance is received generally income tax free, but qualified plan benefits and annuities have built in income, no matter which beneficiary receives the funds. Thus, if a revocable trust is instituted or a will has a trust arrangement for children, those trusts would be the beneficiary of life insurance which is received free of income tax, but qualified plan benefits would have the surviving spouse generally as the first beneficiary as only the surviving spouse may roll over and defer income tax. See the topics below entitled Handling Large Life Insurance and Qualified Plan Benefits for Estate Planning Purposes. Clients should be told generally joint tenancy titling should be avoided and especially for appreciating property (meaning going up in value); appreciating property such as real estate or a closely held business interest (such as an LLC or corporation owned by the clients) should either be held as community property with right of survivorship or as community property held in a revocable trust to avoid probate. Joint tenancy property with right of survivorship would only be appropriate for property that is going to depreciate in value, but that is a very tough decision in certain cases, such as volatile financial assets. If an AB Trust is used, generally assets should not be held in joint tenancy with right of survivorship or community property with right of survivorship, as those assets are not available on the death of the first spouse to fund the credit shelter trust. CAUTION: The attorney must remember that he/she is not an investment advisor and so the decision as to titling of volatile financial assets as community property with right of survivorship or joint tenancy with right of survivorship should be left to a financial advisor. If a client has instituted a revocable trust, assets with a title need to be titled in the name of the trust to avoid probate, and the form titling and beneficiary designations letters accompanying the various trust arrangements are designed to provide the clients the exact titling for those assets as well as appropriate beneficiary designations for life insurance and qualified plan benefits (see above). The retitling letters accompanying trust arrangements caution clients that existing and future assets with a title (again, an existing or new personal bank account or brokerage account, an existing or new vehicle, an existing or new piece of real estate or a business interest, such as the starting of a new client corporation), need to be titled in the name of the trust to avoid probate; again assets that tend to appreciate in value should never be held in joint tenancy with right of survivorship. If an AB Trust arrangement has been instituted, joint tenancy titling as well as community property with right of survivorship titling also causes the asset not to be available for the AB split upon the death of the first spouse and so joint tenancy titling is to be avoided. A trust may hold property either as community property or separate property, and if the trust property is separate property of one spouse, that designation on the titling should be clearly made and the owning spouse’s social security number should be utilized for income tax reporting purposes. REAL ESTATE TRANSFER DUE ON SALE WARNING: Before transferring the title of real estate, other than the personal residence of the client or clients in the case of a married couple to the name of a revocable trust, if an outstanding lien (mortgage or deed of trust) exists, generally permission of the lender must be obtained to allow the transfer without triggering a due on sale/transfer clause - an absolute disaster; in that regard, see the form Lender Request Letter with this material. See the due on sale cautionary note in the trust asset-titling topic below. FURTHER DUE ON SALE CAUTIONARY NOTE: The author has found that estate planning clients have repeatedly purchased second homes utilized as a rental (oftentimes for children) indicating in mortgage company records that the client/borrower intends to use the home as a primary residence in order to obtain a more favorable interest rate as well as lower real property taxes; obviously the attorney has a dilemma as to whether or not to approach the lender with a request to waive the due on sale provision on a one time basis to transfer the home to a revocable trust to avoid probate (the representative of the lender will be confused as the transfer of a primary residence to a revocable trust is the one exception allowed without permission of the lender). CLIENT REQUEST RELATING TO REAL ESTATE: Clients should bring deeds to real estate to the estate planning conference, which generally are entitled warranty deed or warranty joint tenancy deed and specifically not deed of trust or mortgage. The deed would be utilized to change joint tenancy property to community property with right of survivorship if a will arrangement is utilized or to transfer property to the name of a revocable trust to avoid probate if a revocable trust is instituted. Along with informing the client that the deed is not entitled Deed of Trust or Mortgage, the client should be told that the deed needs to reflect the legal description, which may be contained on an exhibit to the deed. Again, see the client pre-conference estate planning client questionnaire. FURTHER PERSONAL PROPERTY TRANSFER TO TRUST LOAN BALANCE ACCELERATION CAUTIONARY NOTE: It is lawful for a car or other loan to provide the unpaid finance balance when it becomes due upon sale or other transfer, and so loan documents should be reviewed before transferring property other than real estate to trust. real estate transfer to trust, to llc or other transfer title insurance CAUTIONARY NOTE: It is not unusual that real estate is transferred to a trust to avoid probate or to an LLC for asset protection purposes. It was held in the year 2000 Maryland Court of Special Appeals decision, Gebhardt Family Investment, LLC vs. Nations Title Insurance of New York, Inc. that a transfer of real property to an LLC voided title insurance, even though the only two members of the LLC were the owners of the property before transfer. The Court stated that the LLC did not qualify as the insured, as it was a separate entity. Thus, when real estate is transferred for any purpose, a letter from the underlying title insurance company should be obtained, stating coverage still exists even though the transfer was made or arrangements should be made to buy further title insurance covering the property following the transfer. See the deed form with the AB Trust to transfer real estate into a revocable trust; that deed format is also appropriate for a married couple revocable trust without an AB feature; any trust property, including real estate, a closely held business interest, an investment account, a bank account, a vehicle or other item of property with a title, may be held in the name of the trust as either community property or separate property of one spouse. Titling and owning property as community property has income and estate tax benefits, but in the event that separate property has been transmuted to community property for tax benefits, upon divorce, the community property would basically be split equally rather than given to the owning spouse Property titled in the name of the trust should have a clear designation as to whether it’s held as community property or the separate property of one spouse. CAUTIONARY NOTE: Joint tenancy titling almost always is to be avoided especially for property that has appreciated in value and because it is not available to fund the bypass trust upon the death of the first spouse. ANY REAL ESTATE THAT IS NOT THE PRIMARY RESIDENCE OF TRUSTORS (OR A SINGLE TRUSTOR) WHICH HAS AN OUTSTANDING LIEN/DEBT AGAINST THE PROPERTY SHOULD NOT BE TRANSFERRED WITHOUT THE PERMISSION OF THE LENDER TO AVOID TRIGGERING ANY DUE ON SALE PROVISION IN THE MORTGAGE OR DEED OF TRUST. Again, property of a married couple should be specifically designated in the titling document such as a deed, stock certificate, brokerage or bank account titling document, vehicle title or so on, as the separate property of one spouse or community property. See the retitling and beneficiary
designation letter with this material. TRUST TITLING VS. BENEFICIARY DESIGNATIONS CLIENT CONFUSION RESOLUTION: Clients need to be informed life insurance and qualified plan and IRA benefits as well as annuities have beneficiary designations and no title, but those beneficiary designation assets may be held as community property or separate property. When an estate plan is prepared, generally, beneficiary designations are changed, and as below if a trust is instituted, life insurance would have the trust as the first beneficiary. On the other hand, qualified plan benefits (401k, pension, profit sharing and so on), IRA and annuity benefits would have generally the surviving spouse as the first beneficiary. If an AB Trust is instituted, the trust as first/primary beneficiary of life insurance would allow life insurance to be available to fund either the A or B trusts. Personal bank and savings accounts and personal brokerage accounts (meaning not in any qualified plan or IRA), vehicles, real estate, a closely held business interest of the client such as S corporation stock or an LLC ownership certificate as well as an investment partnership interest and perhaps other assets that do have a title need to be changed to the name of the trust, continuing to use the client’s social security number (in the case of a married couple either the social security number of husband or wife), for tax purposes if applicable, following execution of the trust. Clients need to be informed the same system is utilized in the future when new assets are acquired whether with a title or a beneficiary designation. The material contains retitling and beneficiary designation letters for client direction with all of the different types of plans including will arrangements, which require beneficiary designations (but not retitling as no trust would be instituted) in this text. 10. Beneficiary
designations for life insurance and qualified plan benefits as well as annuities need to
be made whether a trust is instituted or not. See the trust titling and beneficiary
designation letter with this material. Again, if a trust arrangement has been instituted,
life insurance would have a primary beneficiary of the trust and qualified plan benefits
including individual retirement accounts would have the spouse as the initial beneficiary
for income tax deferral purposes. For a client that has instituted a will arrangement, if
young children exist, generally life insurance would have as a primary beneficiary
designation after any spouse of a trust arrangement for each child. See the topics
entitled Handling Large Life Insurance As Well As Qualified Plan Benefits For Estate
Planning Purposes; if huge life insurance policies are involved, the clients should be
informed that an irrevocable life insurance trust is an option (see the discussion above). IMPORTANT NOTE IF A TRUST IS BENEFICIARY OF QUALIFIED PLAN OR IRA BENEFITS: If a trust is beneficiary of qualified plan or ira benefits, to allow the maximum income tax deferral and spread of minimum distributions, the trust must be properly drafted. See that topic with the minimum distribution outline. 11. To complete the documents, a will needs to be witnessed by two individuals over age 18 who are not involved as beneficiaries or as appointed individuals such as a power of attorney, trustee or personal representative. Although the law does not require a trust to be notarized/acknowledged, the author suggests that be done. Powers of attorney in Arizona require a witness as well as a notary. Accompanying each type of estate plan is a client execution direction as to what to do with every page - initialing, dating, signing, witnessing and notarizing. To be sure each page is handled properly, the client(s) should execute the documents in the lawyer’s office or send the lawyer an executed copy of each document. Clients should be informed that they are to keep original documents in a safe spot at home, with those involved or appointed being told where all of the information (including deeds and insurance policies and listings) are located. Clients should be informed that executed copies could (and perhaps should be) given to certain other individuals (such as those appointed) to be sure that executed copies are kept in several safe places. 12. Clients instituting a trust should be told that although assets with a title are in the name of the trust, income tax reporting or preparation remains the same and the client social security number (a married couple owning community property may use either social security number, but separate property of one spouse held in a trust should be specifically designated as such and utilize the social security number of the spouse owning such separate property titled in the name of the trust) would be utilized on such items as bank accounts and brokerage accounts even though those are titled in the name of the trust to avoid probate and for a wealthy married couple available to fund the A or B trust on the death of the first spouse. Trust clients should be given the explanation and completion letter that accompanies the various trust formats. 13. Married clients that have instituted an AB Trust as well as a married couple with generally a net worth less than the equivalent exemption that have instituted a simple revocable trust should be told that if the surviving spouse is appointed as trustee that control is not lost and the surviving spouse will manage assets as usual during competency. Assets placed in the bypass/decedent’s trust (generally, property owned by the first spouse to die in value up the then equivalent exemption – see the table above) are available to the surviving spouse generally in the form of all or some income along with a principal withdrawal power under the ascertainable standard. The property owned by the first spouse to die is 50% of the value of community property and 100% of the separate property of the first spouse to die. However, AB Trust clients with young children should be told on the death of the first spouse that assets in the bypass/decedent’s trust must not be used directly for the support of minor children, if the surviving spouse is Trustee of the bypass/decedent’s trust. The estate planning attorney needs to keep in mind that client ‘hand holding’ must be done in the form of pre-conference memos, conference explanation (see above) and post-document execution completion instructions such as retitling assets in the name of the trust as well as life insurance and qualified plan beneficiary designation changes. Clients that have instituted a revocable trust arrangement of any type should be given specific completion instructions for items that the clients need to accomplish themselves (such as retitling vehicles and personal bank accounts in the name of their trust). Married estate planning clients should be informed that if the surviving spouse is trustee of the bypass trust, that bypass trust assets should not be utilized to pay for expenses to support a child under age 18 (such expenses could be paid from income received by the surviving spouse from the bypass trust), as that causes the surviving spouse to have a general power of appointment under §2041, IRC, causing remaining assets on the death of the surviving spouse in the bypass trust to be included in the estate of the surviving spouse – the disaster to be avoided. 14. Clients with a net worth over the equivalent exemption (see the table above) need to be informed the taxable estate may be lowered by gifting should the client choose to do so. Gifting generally would be limited to slightly less than $10,000 per calendar year per donee (such as children and grandchildren). Deathbed gifts may be made, but keep in mind checks that are written or property that is given must be cashed or actually in the possession of the beneficiary/donee before death. Further, assets that have appreciated in value are generally not good candidates for gifting as the donee takes a basis, which is equal to the lower of the cost or the then fair market value. Additionally, lifetime or death gifts to IRS qualified charities will reduce a large estate and so minimize or avoid estate tax. See the charitable gifting topic with this material, which emphasizes that verification of IRS qualification must be had. It would be possible to draft a charitable gift to one or more charities that upon death of the client the gift is equal to the amount necessary to reduce the estate to the equivalent exemption to avoid all estate tax. Lifetime options include the institution of a charitable remainder trust which gives lifetime tax deductions and reduces the estate; while that topic is beyond the scope of this material, large charitable organizations such as universities generally provide the documents and legal advice at no charge if the client is willing to take action and make the immediate gift to the charity. 15. Attorney beneficiary ‘cut out’ caution: It has been the author’s experience that the only real problem after death is in a situation in which logical beneficiaries have been ‘cut out’; the most typical example would be when a parent either does not make a distribution to a child or makes a lesser than pro rata distribution for that child than other children. The author would suggest either avoiding such projects or insisting that the client correspond directly with the cut out beneficiary so there is no surprise after death; in the alternative or in addition, it is suggested that the parent or other testator/testatrix/trustor make a video tape stating clearly that a certain beneficiary is cut out and why, along with confirming testamentary capacity by having the testator/testatrix/trustor make a very clear and convincing representation as to knowledge of the extent and type of property and the beneficiaries to receive such, again emphasizing why one or more beneficiaries have been cut out. In addition, it would be suggested to have a medical doctor familiar with the client’s health issue a written report stating the client/patient is competent; the report should indicate the client/patient is fully capable of understanding the extent and type of assets owned which are subject to distribution at death as well as determine particular beneficiaries to receive a particular portion of the estate eventually (the author would suggest the medical report reference the specific cut out desire and perhaps an indication of the approximate size of the estate as referenced by the client/patient). Also, the beneficiary receiving property should be sure cut out beneficiaries do not have any claims against the estate that may be valid; if no probate is necessary, the beneficiary receiving property should request a written confirmation from other cut out beneficiaries that no valid claims exist. Obviously, a valid claim would reduce the amount of the disposition to the beneficiary, and if a probate is necessary, notice would be given to the cut out beneficiaries followed by a 4-month period during which any valid claims would need to be presented or forever barred. 16. POST-DOCUMENT CREATION CLIENT TIPS: Clients need to be told to very carefully store original documents and any amendments. Further, clients need to be told to calendar at least every 5 years to review the documents as at a minimum financial and medical powers of attorney and the living will need to be freshened (meaning redone with a current date) to avoid those documents growing stale - as an example, a real estate title company does not ever want to utilize a financial power of attorney more than 5 years old, although sometimes there is no choice. Further, clients will find that desires change as circumstances change and documents need to be revised/amended; a number of changes could cause the need to review and revise or replace the documents such as the receipt of a substantial inheritance, marriage or divorce of the client, change in dispositive provisions caused, for example, by an additional need of a specific beneficiary (increased disposition) or substantial increase in wealth of a beneficiary (decreased disposition perhaps to avoid estate tax by the beneficiary), etc. The author has found several things very surprising. First, some clients do not keep original documents, asset listings, information for successors and other original documents, such as deeds and life insurance policies protected and well ordered. Secondly, some clients tend to not understand the type of plan they have instituted, and that is why explanation and completion letters and conference ‘hand holding’/explanation is so important. The author realizes an estate planning client is faced with what appears to be a massive project generally on a one time basis, and the attorney needs to complete as much client education as possible - this estate planning attorney conference checklist is designed to help the attorney do that. HUSBAND AND WIFE PRACTICE TIP: If spouses elect not to institute an AB Trust, but if there is a potential the estate will increase above the equivalent exemption (such as because of investment growth due to increases in the stock market), the clients should be told in writing to review the net worth situation with the estate planning attorney every few years to determine if an AB Trust should be instituted to minimize or avoid estate tax in the future, at which time powers of attorney and living wills would be updated. Additionally, a husband and wife client instituting ‘sweetheart’ wills (everything to each other) or a revocable trust leaving all assets at the disposal of the surviving spouse (a husband and wife revocable trust without an AB feature) should be warned in writing also that following the death of the first spouse it is possible assets/net worth could be diminished because of bad investments or other causes and beneficiary designations could be totally altered such as in the case of a subsequent marriage by the surviving spouse. It is appropriate to tell clients one possible benefit of an AB Trust is that assets placed in the bypass decedent’s trust upon the death of the first spouse must not be withdrawn except under limited standards (the ascertainable standard under §2041, IRC and the applicable regulations). Recently a flurry of litigation has involved whether or not beneficiaries may sue an attorney. It was held in the 1996 New Jersey Appellate decision Barner vs. Sheldon that a lawyer had no duty to tell beneficiaries a disclaimer would reduce eventual inheritance tax as the attorney represented the estate and not the beneficiary. It was held in the 1994 Missouri Court of Appeals decision Donahue vs. Shughart, Thomson & Kilroy, P.C. that a lawyer could not be sued for a mistake made in drafting an estate plan as the beneficiary lacked privity of contract; on the other hand, damages were allowed in a similar situation in the 1994 Michigan Court of Appeals decision Mieras vs. DeBona. Additionally, a beneficiary was allowed to sue a lawyer in the 1998 Oklahoma Supreme Court decision Hesser vs. Central National Bank & Trust Company of Enid; the allowance of such damages even without privity of contract seems to be the growing trend which would allow beneficiaries to obtain damages against a lawyer, such as for improper drafting, failure to tell the client about estate planning options, etc. In that regard, see the husband and wife client warning at the end of the execution letter with the ‘sweetheart’ will format and at the end of the no AB Trust explanation and completion letter. AB TRUST/SURVIVING SPOUSE TRUSTEE CAUTIONARY NOTE: It has been the author’s experience almost all married couples will want to designate the surviving spouse as trustee of the bypass/decedent’s trust (and Q-tip trust if included in the AB Trust arrangement) upon the death of the first spouse to die whether or not it is a first marriage situation. It is to be noted the AB Trust form and other trust forms with this material state investments may be made without considering prudent investment requirements, which would otherwise apply. See Article VI, Powers and Duties of Trustee (A)(4) of the AB Trust, that flexibility feature is not unusual, but as the material indicates, other specific investment guidance could be given. If the surviving spouse is trustee of the bypass/decedent’s trust, principal withdrawal must be limited by the ascertainable standard to avoid remaining assets in the bypass/decedent’s trust being included in the estate of the surviving spouse – the disaster to be avoided. Regarding the ascertainable standard and withdrawal of bypass trust assets by the surviving spouse as Trustee of the bypass trust, basically withdrawal of principal should only be to maintain the same standard of living, for health needs and education needs. However, married clients cannot be given absolute assurance bypass/decedent’s trust assets will be substantial upon the death of the second spouse to die. One alternative would be to have principal invasion more specifically limited or prohibited with an independent trustee such as a bank or trust company to administer assets and help protect bypass/decedent’s trust assets for issue, but again, most spouses will not take that course of action and will decide to trust each other with the survivor as trustee upon the death of the first spouse to die. Additionally, spouses instituting an AB Trust should be informed assets in the survivor’s trust are at the complete discretion of the surviving spouse. 17. INFORMING CLIENTS WHAT HAPPENS AFTER DEATH: Generally, on the death of one spouse who has executed a companion type will with the other spouse, all property is in joint ownership which passes by operation of law and avoids probate with the surviving spouse being the beneficiary of life insurance and qualified plan benefits; as indicated above and in the property topics, appreciating property such as a business or piece of real estate should be held in community property with right of survivorship and specifically not joint tenancy with right of survivorship. On the death of the second spouse in such a situation, a probate is necessary to transfer assets without a title to other beneficiaries such as a trust for children with life insurance on the surviving spouse’s death being paid to the trust for the child and qualified plan benefits being paid according to the specific beneficiary designation. Probate may be avoided by instituting a revocable trust during the lifetime of a single individual or surviving spouse. A married couple may avoid probate during the joint lifetimes instituting a revocable trust with or without an AB feature. The AB Trust is for a married couple with a net worth of more than the then existing equivalent exemption (see the table above); as above, generally the surviving spouse is the trustee of both the A and B trusts. Notwithstanding restrictions that may be involved if the surviving spouse is trustee of the bypass/decedent’s trust, the married clients should be informed the survivor does not lose control and access of the assets – rather just the opposite as investment authority, right to income and right to principal in the event of a health or reasonable living need is allowed. On the death of a single individual or surviving spouse with assets held in trust, no probate is necessary and assets may be distributed quickly to beneficiaries or trusts for beneficiaries utilizing a death certificate, with the clients being cautioned to retain enough funds to pay all debts such as those of last illness and funeral costs and final utility bills as well as final income tax amounts. Whether a probate is necessary or not, clients should be informed generally assets are transferred subject to liens and regular monthly payments such as a home subject to a mortgage, with the beneficiary usually then continuing on the usual monthly payment. Clients should be told that when drafting documents the allocation of their assets to specific beneficiaries really is not necessary and does not make sense in that during the lifetime of the single client or married couple the asset mix could change any number of times. Clients should be told that decisions as to whether or not to sell property, such as a business, home or rental real estate, do not need to be made or addressed at the time of preparing the documents as upon death the economics of the situation would dictate whether or not, for example, a home should be sold, utilized by a beneficiary or rented allowing beneficiaries an income stream. 18. TESTAMENTARY CAPACITY: Keep in mind, generally any part or all of an estate plan may be modified at any time, but only if the estate planning client is competent. It is not unusual for an estate planning attorney to meet with an older individual or couple who are suffering some physical and/or mental disabilities. There are several issues that can arise. If, for example, a child has brought a parent to the conference, the attorney needs to make clear that direction for the completion of the estate plan must be with the estate planning client and not at the discretion of the child. The estate planning attorney needs to determine that the older individual(s) creating the estate plan has testamentary capacity (see below). Generally, testamentary capacity will exist if the testator/trustor understands the nature of a will/trust, knows the nature and extent of the property, knows the beneficiaries and is able to direct the disposition of the estate upon death. See the 1996 Arizona Appellate decision in the matter of the Estate of Killian in which it was stated that a deteriorating mental condition, mental slowness, poor memory as well as eccentricities and idiosyncrasies do not necessarily destroy testamentary capacity. See the 1995 Arizona Appellate decision Estate of Gillespie that discusses testamentary capacity during the time a person is terminally ill under obvious stressful circumstances. The client could be directed to make a video tape summarizing in the client’s own words the content including dispositive provisions of the will/trust arrangement in such a way as to make a clear indication of testamentary capacity (see above); the videotape could also be used by the estate planning client to make clear other intentions, for example, the reason for cutting out a particular beneficiary (see above) In addition to the videotape, the author suggests that a companion (consistent) written statement be signed and notarized by the estate planning client. Another device to help establish testamentary capacity would be to have the testator/trustor visit a medical practitioner who would issue a letter stating a conclusion as to whether or not the client/patient has testamentary capacity – again, knows the type of property owned, the approximate value of the property as well as the specific disposition of such to specific beneficiaries. |
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