Hey, get back here! It’s uncomfortable, yes. But why not keep some control over your investments from beyond the grave?
There are certain things in life you don’t like to think about: root canals, the mysterious leftovers in the back of the refrigerator, septic-tank maintenance. And that brings us to estate planning. You probably don’t want to think about that either, since the main focus is on the unfortunate topic of your death. But if you don’t go there, you could stick your loved ones with just the same kind of painful, stinky, expensive mess you’re trying to avoid.
One common mistake: if you think your assets are less than the federal estate-tax exemption of $5,120,000, you don’t need a plan. Sure, that threshold means the tax man can’t get at your hard-earned money. But potentially neither can your heirs if there’s no plan in place. That’s right. Your assets could sit on the sidelines while fees and court costs eat away at your stash. Bottom line: everyone should take up some degree of estate planning.
First, let’s determine just what we’re talking about. Estate planning can mean putting together everything from a will, and a health care directive, to life insurance, naming guardians, and figuring out who gets your cash. Even something as simple as selling your car, or paying your credit cards, can be a long, expensive hassle for those you leave behind.
Your first step is determining beneficiaries (including charities) for your insurance and retirement accounts. Just remember to track, and if necessary update, your beneficiaries so you don’t end up sending a fat insurance check, or a hefty IRA payout, to an ex-spouse or, if the beneficiary has died, to probate court.
Your will gets reviewed by probate court, becomes public, can be legally challenged by disgruntled relatives, and generally takes more time and money than you may have banked on before it gets where you intended.
That, in fact, introduces a little irony, and one of the first rules of estate planning: keep as much as possible out of your estate.
One option is making gifts of your assets while you’re still alive. Under current law in late 2012, free of a gift tax, you can give up to $13,000 annually to anyone. If you and your spouse team up, that’s $26,000.
And, rather than leaving $100,000 for a grandchild’s college education, you can make contributions to a 529 college savings plan, potentially lowering your tax bill. Keep in mind that if the child’s parents set up the plan, they qualify for the tax treatment; only when the grandparents (or any another party for that matter) create the account do they get the break from Uncle Sam. It is important to note that each child can be the beneficiary on more than one account.
You can front-load up to five years of 529 contributions—totaling $65,000 per child, per individual contributor (that doubles to $130,000 if you are a married couple filing jointly)—without hitting IRS gift-tax rules. So, if you front-load the full amount in 2013, the next year you’d be able to contribute again would be 2018. Please check individual plan rules for more details.
Under Lock and Key
Trusts are another way you may be able to keep your assets away from probate and the IRS. To get a tax break, though, you’ll need to keep assets in an irrevocable trust, which means you give up control, but not necessarily the benefits.
One consideration is the Qualified Principal Residence Trust, where you put your home into a trust for whomever you designate. This lets you stay in the home if you pay rent. Also, you might put the home in a trust for a family member then pay that family member rent, in order to pass on additional cash outside of your estate. Consult your financial planner to determine if such a trust makes sense for your situation.
Yet another tactic is a life estate. You donate your house to a charity now, but continue to live in it for the rest of your life. After your passing, the property goes to the charity, which can use it or sell it. Here, you get two benefits: a tax deduction while you’re alive and you keep the property out of your estate, thus lowering your estate’s taxable value.
For The Cause
Another challenge lies in balancing your family’s unknown future financial needs and your desire to benefit those charities near and dear to your heart.
One approach is a charitable remainder trust, which is tax-exempt and irrevocable. The trust actually buys an insurance policy on you (and your spouse if you like), equal to the size of your gift, naming your family members as beneficiaries. The trust pays the insurance premiums, and your family gets the income from the policy. Then, after the established time period of payouts has passed, the remaining assets go to the assigned charity.
There are naturally costs associated with set-up and maintenance for all these plans. But, if you end up preserving more of your estate in the long run, it could well be worth it. Start by visiting an experienced lawyer to create a will, a health-care proxy, and other basics. Then move on to an experienced financial planner, insurance expert, and estate or tax attorney. This team can show you how tax shelters, trusts, and insurance can give you peace of mind now (maybe tax benefits, too). And you make sure everybody’s covered later, while keeping their tax hassles to a minimum.
Sure, it’s called estate “planning,” but the selfless message therein makes it more like estate “giving.” Get it all done then have some fun. You’ve earned it.
The information presented is for informational and educational purposes only. Content presented is not an investment recommendation or advice and should not be relied upon in making the decision to buy or sell a security or pursue a particular investment strategy.