By Robert J. Lord
I like to view estate planning as having two components. One component, and the one to which all estate planners and their clients pay careful attention, is the tax component. Estate planners do a fine job on tasks such as maximizing the benefits of their clients’ unified tax credits and generation skipping tax exemptions, keeping life insurance proceeds out of the estate, and making sure that any amount passing to a so-called “QTIP” trust qualifies for the unlimited marital deduction.
The other estate planning component, which in many estates is far more important than the tax component, is the practical, or non-tax, component. The practical component includes such decisions as when automatic (i.e., mandatory) distributions of trust property are made to beneficiaries of the estate, who to name as trustee of the children’s inheritances, and whether direct bequests should be made to grandchildren. All too often, less attention is paid to this practical side of estate planning than is paid to the tax side of estate planning. Why is this? Probably because the failure to accomplish proper tax planning translates neatly into a hard dollar cost, whereas the failure to address practical considerations carries with it only an intangible cost. But is the emphasis on tax planning appropriate? In most cases, no. While it is obviously important to plan in the most tax efficient fashion, it is equally important (in most cases, more important) to make sure the estate is used in the desired fashion. After all, if Junior squanders his inheritance on fast cars and entertainment instead of using it to pay for college, the wonderful tax planning you implemented won’t mean terribly much.
With that as background, here are a few of the practical issues to consider when structuring your estate plan:
Should Your Spouse Be the Sole Trustee of Your Estate Assets Upon Your Death? Ordinarily, your estate plan will provide that upon your death at least a portion of your estate to be held in trust for the benefit of your spouse, with the remainder passing to your children upon your spouse’s death. In most cases, your spouse will serve as the trustee of that trust. In some cases, however, it may be appropriate to name a co-trustee to serve with your spouse, or not to name your spouse at all. For example, if there are children from prior marriages on both sides, do you want to take the risk that your spouse will use his or her position as trustee to divert the inheritance you intended to go to your children? If your spouse is a spendthrift, an independent trustee may help to ensure that he or she will not go through the trust too rapidly.
Should Your Children From a Prior Marriage Inherit Upon Your Death, or Only Upon Your Spouse’s Death? Most married couples provide in their estate plans for all of their wealth to be held for the benefit of the survivor of them and pass to children only on the death of the survivor. In some cases, that is not appropriate. For example, if you have children from a prior marriage and your second spouse is fifteen years younger than you and lives a long life, the receipt of an inheritance upon your spouse’s death will do little to benefit your children, as they will be in the last years of their lives at that time. In this situation, you should consider whether a portion of the estate should pass directly to your children at the time of your death.
How Should The Estate Be Divided When You and Your Spouse Both are Deceased? Most people treat their children “equally” in their estate plans. Whether that is appropriate raises philosophical questions that only you can answer. For example, if one child has children and the other does not, do you divide the estate into equal shares or do you adjust the shares such that that first child’s inheritance will buy the same lifestyle for that child and his or her children as the second child’s inheritance will buy for a single person? Is it appropriate to have wealth pass directly to your grandchildren, or should the wealth pass entirely to your children on the theory that they are in the best position to determine what is best for your grandchildren? There are no right or wrong answers to these questions.
When and Under What Circumstances Should the Children’s Inheritances Be Paid Out to Them? Many estate plans provide for the distribution of each child’s inheritance to that child in increments at specified ages, such that the child has received his or her entire inheritance by age forty. There are strong, in many cases, compelling, reasons not to structure your estate plan in this manner. If your child’s inheritance is held in trust, it is there when he or she needs it. If the inheritance is distributed to the child, it can be lost to the child’s irresponsibility, a creditor, or a divorcing spouse. Although there are disadvantages to leaving a child’s inheritance in trust indefinitely (ongoing trustee fees for example), in many situations those disadvantages are far outweighed by the advantages.
Who Should Serve as Trustee? Do you want an individual to serve as trustee, or would your beneficiaries be better served if you chose an institutional trustee. Each choice has its advantages and disadvantages. For example, an individual trustee, especially a relative, may be better suited to making decisions regarding distributions to the beneficiaries. An institutional trustee may be more reliable in terms of administrative matters and may be better suited to managing the investments of the trust. An institutional trustee, however, may be rigid in its decision making and typically will charge significantly higher fees than an individual.
What Limits Should Be Placed on the Trustee’s Discretion? Ideally, the person you name to serve as trustee will be one whose honesty is beyond reproach, who is a brilliant investor, and who would do exactly as you would wish in determining whether and when to make distributions to your children. However, we don’t live in a perfect world. Thus, you need to consider whether you want the trust agreement to force the trustee to make decisions consistent with your intent. For example, do you want to limit the amount that can be made available to a child for investment in a business? Do you want to limit the types of investments into which the trustee may enter? Do you want to preclude the trustee from opening a margin account?
Who Should Inherit in The Event of a Common Disaster? Who will inherit if you, your spouse and all your descendants are wiped out? Although the likelihood of this situation arising hopefully is remote, it does happen. You should consider whether there are friends, relatives, or charities who you especially would want to inherit from you in this situation.
Obviously, these are not the only practical issues you will want to consider when creating your estate plan. The important point to remember is not to get lost in the tax planning. It’s important, but there’s more to a good estate plan than tax avoidance.
This article contains only general information and is not to be relied on as legal advice. For advice on your individual situation, consult a lawyer in your jurisdiction. No attorney/client relationship arises from use of this article.