Living Trusts

Family Values, Vision and Planning

As the use of a revocable living trust for estate planning increased in popularity over the past two decades, it was seen primarily as a planning tool to be used only by families with taxable estates. While a revocable living trust can be designed to deal quite effectively with estate tax issues, its real superiority over other methods is its focus on planning for the myriad of non-tax family issues.

Many think of estate planning as being synonymous with tax planning, but estate planning more fully encompasses issues far beyond the financial size of the estate. The revocable living trust provides a mechanism to meet the diverse and complicated issues of planning for families.

For those who do not thoroughly understand trust planning, the assumption is that trusts are only for large estates. How many times have you heard, “We don’t need a trust, our estate is less than $1 million dollars”?

The majority of individuals agree that tax planning – be it estate or income taxes – is an important facet of estate planning. However, one of the best benefits and often overlooked benefit of a carefully designed living trust is that it is a tool for the preservation of family values and family vision. It is difficult to overemphasize the importance of the “people aspect” of estate planning. Or, to put it another way, think of your estate planning documents as a way to communicate your values when you are no longer here to do so in person. Consequently, your plan should encompass all that is important to convey to your beneficiaries how you have planned for their inheritance.

Explore some of the more common issues you may face as you plan for yourselves and future generations in the sections below.

Plan for the ones you love!

1. Passing property in trust to a surviving spouse does a better job of making sure that a married couple’s plan stays on track.

Most married couples, particularly in a first marriage, share these basic planning goals: the property of the first spouse to die should pass to the survivor who can use, control and enjoy all of the property until the survivor’s death; then, at the survivor’s death, the remaining property should pass to that couple’s children in equal shares.

The revocable living trust is one of the best tools available to assure that all of the goals of this plan are met. If a trust is not used and property is transferred outright to the surviving spouse, the couple’s goals may be partially or completely defeated, particularly if the surviving spouse remarries.

A typical married couple has wills that leave everything to the other. Often, married couples own some assets jointly. The survivor “inherits” the marital assets by simply being the surviving spouse. Similarly, each spouse will typically name the other spouse as the primary beneficiary on property that passes by beneficiary designations such as life insurance, annuities, IRAs and qualified benefit programs. Consequently, all the marital assets end up in the name of the survivor.

Upon remarriage, property received by a spouse outright may be lost to a new spouse. This can happen either inadvertently or intentionally. If the surviving spouse remarries after the death of the first spouse, the spouses in this new marriage may, without really thinking about it, title some or all of their property in joint tenancy or create marital property interests.

If the original surviving spouse is the first to die in the remarriage, the property titled with a marital interest in the new marriage will pass automatically to the new spouse who then has no obligation to pass that property to the children of the original couple.

Although the children of the original marriage were meant to receive the property, it will likely pass to the family of the new spouse. The children of the first marriage are “disinherited” simply because the parents did not understand the impact of spousal transfers. In addition to the possibility of outright spousal transfers inadvertently causing problems, the surviving spouse who receives his or her property outright may simply give some or all of the property to the new spouse.

As we can see, transferring property outright leaves the surviving spouse with the ability to transfer the inherited assets, either mistakenly or intentionally, to a new spouse thus preventing the property from ending up in the hands of the children of the original marriage. This is not what most couples intend. The most effective solution to these problems is for each spouse to leave property to the other in trust, rather than outright.

Property left to the surviving spouse in trust can contain the simple directions that the surviving spouse may control, use and enjoy the property but only for himself or herself and the children. Property in a properly designed trust cannot inadvertently end up as joint tenancy property nor can it be gifted by mistake to a new spouse.

When the surviving spouse dies, the trust provides that any of the property not consumed by the surviving spouse or their children will pass to the couple’s children or other designated beneficiaries based on the terms of the trust. The use of a trust may also prevent the surviving spouse from being free to give the deceased spouse’s property to a new spouse at death.

With a trust, a couple can establish an estate plan that virtually eliminates the possibility that either through inadvertence or intention his or her property will end up in the hands of a new spouse or the new spouse’s family, rather than the original couple’s family. For most couples, it will be the most effective way to meet this basic estate planning goal.

2. Passing property in trust to a surviving spouse provides protection from that spouse’s creditors, including a future spouse.

Married couples have the choice of leaving property outright to each other when the first of them dies. When this is done, either by use of a will, joint tenancy or a beneficiary designation, the surviving spouse becomes the new owner of all the property left to him or her by the deceased spouse.

A person’s own property is subject to the claims of his or her creditors. These creditors can include exposure for liability due to professional or business activities, or inadequate homeowner’s or automobile insurance coverage.

If the surviving spouse chooses to remarry, the problem may multiply, as the surviving spouse’s assets may become subject to the new spouse’s creditors.

What will become of the surviving spouse’s assets in case of divorce after remarriage? The divorce laws of California provide some protection for property brought to the marriage and inherited property. However, that protection is not ironclad and may be very weak.

It is not uncommon for married couples to commingle their separate and community assets. Figuring out what his, hers, ours, or part community and part separate can become quite costly.

A trust can be drafted so that property left in trust to a surviving spouse will not be subject to the claims of the surviving spouse’s creditors since trust property, unlike property transferred outright, will not be seen as owned by the surviving spouse. This is true even though the trust allows the spouse to use the property to support his or her existing lifestyle.

One important part of creditor protection planning is considering the implications of California being a community property state.

The good news is that community property gets a full step up in basis for income tax purposes when the first spouse passes away. The take away is that there is very little one acquires during marriage that remains separate property.

The assets a surviving spouse has before he or she chooses to remarry are his or her separate property. In addition, any inheritance he or she receives while married is his or her separate property.

The problem is that most individuals do not understand the community property presumptions and inadvertently transmute their separate property to community property by doing such things as opening joint accounts. The result is a loss of a level of creditor protection from new spouse’s creditors.

3. Passing property in trust avoids probate.

At the time of death there are costs associated with passing property held in the deceased spouse’s individual name to the designated beneficiaries, including a spouse. Unless a trust is used to transfer property to the designated beneficiaries, property that is owned in your individual name will go through the probate process as part of post-death administration.

The cost associated with probate can be substantial. Most of expense is made up of attorney’s fees. A fully funded revocable living trust, regardless of the size of the estate, can reduce much of the cost of post-death administration..

Moreover, the transfer process is mostly private and is usually completed more quickly, particularly if there is no estate tax return involved. Speed and privacy can be of particular importance when passing on the family business or other sensitive assets or if family issues dictate private settlement.

4. The Trustmaker names the trustee.

Having the right person in charge of managing property is an essential element of good planning. If a person becomes incapacitated, he or she can leave detailed instructions concerning the desired level of care. Just as importantly, a Trustmaker can personally select the trustee who will carry out the instructions. Knowing who will serve as trustee gives the Trustmaker the opportunity to discuss how the Trustmaker wants the trustee to make future decisions.

Through planning with a trust, the Trustmaker has the opportunity to distinguish which person may best serve in any number of circumstances, such as: (i) incapacity of the trustmaker; (ii) death of the Trustmaker; (iii) where trusts were created in the event there are surviving minor children or surviving immature adult children; (iv) the desire to include creditor protection for the surviving spouse; (v) a surviving heir with special needs; (vi) the desire to leave the inheritance in some sort of protective trust for beneficiaries; (vii) the need or desire for professional management; or (viii) heirs who suffer from addictions or who are susceptible to undesirable influences.

In the event the pre-selected trustee is unable to serve when the time arises, a Trustmaker can name any number of alternate or -succes sor trustees. Since a trustee has the fiduciary responsibility to follow the instructions left in the trust, the Trustmaker can be assured that the designated plan will be followed.

5. A trust is the best way to manage property during a period of incapacity.

An often overlooked value of trust planning is the management of property during periods of mental incapacity. The Trustmaker not only has the ability to name who will serve as the disability trustee, but with proper design the trust will establish the guidelines and instructions for the care of the Trustmaker, the spouse, and other beneficiaries.

For example, these instructions may express various preferences during a period of incapacity, such as:

(a) whether home care should be provided to the disabled Trustmaker rather than care outside the home;
(b) instructions to provide assistance to children, grandchildren, parents, or other relatives who incur an emergency situation; or
(c) instructions foRcare of a non-disabled spouse; or
(d). instructions to continue an established pattern of gifting.

If there is no trust, the two most common methods to manage a person’s property, if he or she becomes incapacitated with a stroke, Alzheimer’s, or other illness or injury, is a conservatorship or a durable power of attorney. Neither is as effective as a trust.

Those who do not engage in any planning usually need a family member to petition the court to have a conservator named. Court proceedings are expensive, time consuming, and impose limits that may not always serve a family’s needs. Continuous annual reporting to the court results in further cost and court intervention.

“The only thing you take with you when you’re gone is what you leave behind.”

The durable financial power of attorney might be used to avoid the need for conservatorship, but this technique also has limitations.

A power of attorney names a person who is in charge of the incapacitated person’s property. However, most durable powers of attorney do not effectively leave detailed instructions for the management of property.

As a result, the person holding the power of attorney has “blank check” access to the assets of the incapacitated party with little or no oversight.

Placing detailed disability instructions in the financial and health care powers of attorney is seldom done and is typically not very effective. For guiding instructions to work best, they should be part of a Revocable Living Trust.

In addition, trusts seldom suffer from the reliability problems that plague durable powers of attorney when there is an actual need for use.

6. Families with minor children should use trust planning.

Parents routinely name minor children as primary or contingent beneficiaries on life insurance policies or retirement benefits without realizing the potential planning nightmare. Minor children, by law, are not permitted to inherit property or receive property by beneficiary designation.

Therefore, if upon the death of a parent, a minor child receives a distribution, the court imposes a court directed guardianship over the proceeds which only lasts until the child’s eighteen birthday.

This can result in a number of undesirable consequences. While the spouse is usually the “guardian of the person” of the children, the court may exercise its discretion to appoint a third party as the “guardian of the estate.” Is it desirable that the surviving parent be dependent upon another party to dole out money for the care of the family?

When a court sets up a guardianship for a minor beneficiary, it supervises the administration of the child’s assets through an annual accounting. Consequently, even when a spouse is named as the guardian of the estate for the children, the spouse must account to the court as to how the money is spent. This reduces family flexibility and adds to the cost of administration.

The court’s jurisdiction over a minor ends upon the child’s attainment of age eighteen. Few eighteen year olds are sufficiently mature to receive an inheritance. This may result in the “Red Ferrari Syndrome.” The money that has been carefully saved for college gets invested in a shiny new sports car.

Rather than involving a court, a parent can create a trust for the benefit of the children and select the trustee. The trust will not end until the time the parent designates. Now the college savings will be used for the intended purpose.

7. Equal is not always equitable.

Without planning, property will be distributed equally to the children when both spouses are gone. Is that the best plan for the family? Should the cardiologist get the same distribution as his “special needs” brother? What if the children are four years apart in age? If distribution to the children occurs when one is age 18 and the other is 22, it is likely that the older child received help with post high school education while the younger child received none. If they inherit the same amount, the younger child will spend the inheritance on college expenses, while the older child, whose college was paid by the parents, is left with a windfall.

A trust allows parents to create the plan that is right for their family and equitable to all beneficiaries.

8. Translation of No Plan:”Mom and Dad didn’t care.”

With no plan in place, the message sent to the family is that Dad and Mom did not care sufficiently about the family to create a plan. The children are left to untangle the legal web and are reminded at each step that their parents did not think they were worth the time to plan.

9. Passing property in trust to children and other beneficiaries provides them with creditor and failed marriage protection.

We have already seen that trusts can provide remarriage and creditor protection for the surviving spouse. There are also significant benefits to passing property in trust to children and other beneficiaries rather than distributing the property outright.

Property left to a child or other beneficiary in a correctly designated trust will be seen as owned by the trust rather than the individual beneficiary.

The beneficiary may be a co-trustee of the trust, have the use of the trust assets and income to maintain lifestyle, and control the investment of the trust property, but the property will still be protected from the beneficiary’s creditors, including a failed marriage, or the creditors of your beneficiary’s spouse.

It is always possible your beneficiaries may receive their gifts at just the wrong time in life. Forcing an outright distribution may only add to their troubles.

10. Property transferred in trust can protect a beneficiary from investment mistakes or the schemes of predators.

When property is left outright to children or other beneficiaries, all in a single lump sum, that property may or may not be invested wisely depending on the choices the beneficiary makes. If the beneficiary is free to make decisions with respect to the entire amount left to the beneficiary, then one mistake could cost that beneficiary his or her entire inheritance.

One way to avoid this difficulty is to leave property in trust, at least for a period of time, and then allow payouts to be made on an installment basis. That way only the portion of the property that is distributed free of trust would be lost because of a poor investment choice or because the beneficiary was scammed by an unscrupulous person. The property which remains in trust may have a Co-trustee to prevent this sort of tragedy from occurring.

11. Maintenance of family values through multi-generational planning is possible.

Particularly in larger estates, the assets available for distribution to children may exceed the amount needed for maintenance of their lifestyle. Rather than leaving all of the property to children, lifetime trusts for the benefit of children can be created, with the unused assets remaining available for the use of all future generations. As each generation passes, the trust fund continues to benefit grandchildren, great grandchildren, and beyond. Incentives can be designed into the trust plan so that the Trustmaker’s family values can be weaved into the distribution requirements and beneficiaries will not be eligible to receive distributions unless certain standards of conduct are maintained.

The trust can pay for the professional help necessary to return a beneficiary with drug, alcohol or emotional problems to a meaningful role in society. These trusts can also be designed so that there is no estate tax as the trust assets pass for the use of each subsequent generation.

12. It is possible to capture your voice in the trust document-to pass your values, wisdom, and personal messages.

If you were the Trustmaker of a Trust, would you want your heirs to remember you through the trust that appears to be tax motivated or to hear your voice in the Trust document?

Basic “form” documents are usually focused only on probate avoidance and distribution to heirs. Frankly, such documents are pretty sterile and uninspiring to read.

Remembering that your trust is one of the last documents your heirs will read that you had a hand in writing, you may wish to personalize it. There are areas of the Trust where the Trust can (and perhaps should) be personalized:

- Frequently, a Trustmaker wishes to pass an item of tangible personal property with a message or an explanation of the gift’s purpose or why the item had special meaning to the Trustmaker.

- A Trustmaker may want to leave a love-letter or message relaying core-values, hopes, dreams, or special memories.

- Provide guidelines to the Trustee as to how distributions should be made to heirs, e.g., promote education and limit “wants.”

A “Trust Compass” or Guidelines can provide a positive expression of the Trustmaker’s vision-a lasting expression of stewardship-that heirs can turn to for years to come.

CONCLUSION

At Wright & Wright we are committed to drafting trusts that not only give instructions for your life time and for your beneficiaries after you are gone, but are customized a little or a lot – whatever you need – to make sure your intentions are clear. This is particularly important in planning for the possibility of disability (cognitive impairment) and the inevitable transfer of your assets. We believe that it truly difficult for your beneficiaries to grasp what you accomplished and the steps taken throughout your life time that result in gifts – money and assets you did not have an opportunity to consume.

Detailed disability instructions are invaluable when you can no longer instruct your trusted successor on how to spend your money and where you want to live. Outright gifts sometimes fail to to be the best answer. Learning about inheritance trusts is an important part of your discussion with your attorney.

Finally, trusts have proven themselves to be a less expensive, quicker and more private way to transfer property at death as compared to probate administration.