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Estate Plans Require Proper Structuring of Assets

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The Asset Ownership Issue

Your estate consists of everything you own.  This includes real property (houses and land), tangible personal property (furniture, jewelry, and automobiles), and intangible personal property (stocks, bonds, and bank accounts).  The estate also may include proceeds of life insurance policies and death benefits under retirement or pension plans.

In estate planning it’s important to understand how property passes at death based on the ownership and titling of your assets.

Most people take how they own their assets for granted; married people put everything in joint names and single persons own assets either in their individual names or in joint names with an adult child or parent.  Proper asset ownership is essential to an estate plan that works.

Here are Examples Asset Ownership that Causes an Estate Plan to Fail:

  • Assets in your individual name will likely go through probate when you die.  If probate avoidance is a goal, your plan will fail if you own assets, e.g., your home, in your individual name.

  • Your Will only controls assets in your individual name, no matter what your will states.  This means that it will not control any assets you own in joint tenancy with someone else, won’t control assets titled in a trust, and won’t control assets that have a specific beneficiary designation.  If your goal is to have your will control any of these assets, your estate plan will fail.

  • Your trust (and your successor trustee) will only control assets in the name of your trust.  Your plan will fail unless your assets are properly titled.  With a trust-based plan, special attention must be paid to assets such as life insurance, retirement accounts (e.g., IRAs, 401(k)s, etc.) and annuities.  Making the wrong beneficiary designation could expose these assets to avoidable taxes and unintended distributions.

Here are Examples of Asset Ownership that Work:

  • If you have a living trust, fund your assets into the trust.  This means changing the title on non-retirement assets to the name of your trust; and, depending on your circumstances, possibly changing the beneficiary on beneficiary designation assets to the name of your trust.  An experienced, qualified estate planning attorney can guide you with these decisions.

  • If you have a will (and no trust), it’s likely in your best interest to own assets in your individual name.  Joint tenancy ownership, though common, has many pitfalls.

Different Types of Asset Ownership

Property can be owned in many different ways.  It might be helpful to think of the different types of ownership as follows:

Single Ownership Property

This is when a person holds title to an asset (a bank account, for instance) in his or her sole name.  The person can do whatever they want to do with the property.  Their Will controls what happens to the property when they die.

Beneficiary Designation Property

This is property that is owned by one person and that passes at death not by will but by beneficiary designation.  Property that passes by beneficiary designation includes life insurance and annuities, IRAs, 401(k) plans and many types of employment benefits, such as stock options and deferred compensation.  If no beneficiary designation is completed, or if it is invalid for any reason, the property passes under the person’s will.

Co-ownership Property

Co-ownership can take the following forms:

  • Joint Tenancy – Each party owns equal shares and has the right to alienate (transfer the ownership of their interest/share).
  • Tenancy by the Entirety – Each party owns equal shares but neither tenant has the right of alienation without the consent of the other.  Property owned by “husband & wife” generally falls into this category.  When a tenant by the entirety dies, the surviving spouse receives the deceased spouse's interest/ownership.  However, the property cannot be taken to satisfy one spouse’s debts until the other (non-debtor) spouse dies.
  • Tenancy in Common – Tenants in common may hold unequal interests, and they may acquire their interests from different instruments.  Each party has the right to alienate.
  • Right of Survivorship – Some property that is co-owned with another person cannot be separately disposed of at death; rather, the deceased co-owner’s interest passes automatically to the other co-owner.  This property is commonly known as joint tenancy with right of survivorship (JTWROS).  It is similar to Tenancy by the Entirety except that is it not protected from the co-owner’s debts.

Community Property

Certain states are Community Property states, which means generally that any property acquired through a person’s earnings while that person is married is owned one-half by that person and one-half by his or her spouse.  This is true even if the property is owned in one spouse’s name only.  Property acquired before the marriage, or by gift even during the marriage, is typically referred to as “separate property.”  Community property can be converted to separate property, and vice versa, by using a community property agreement signed by both spouses.


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Trust Property

A trust is a legal arrangement involving three parties:

  1. The person creating the trust (known as the grantor),
  2. The trustee (who owns legal title to the property), and
  3. The person for whom the trust is administered (known as the beneficiary).

The grantor gives legal title of assets to the trustee, who in turn agrees to administer and ultimately dispose of the property for the benefit of the beneficiary in accordance with the terms of the trust agreement.  In the case of Revocable Living Trusts, the grantor is often both the trustee and the beneficiary.  In other words, the grantor gives property to himself or herself as trustee and agrees to administer it for his or her own benefit as beneficiary.

However, a trust agreement operates only over those assets held in the name of the trustee.  So if a grantor creates a trust but fails to transfer assets to it (known as “funding the trust”), it may not work as it was intended.

Power of Appointment Property

One final (and usually minor) category also involves trusts.  Many trust agreements give a beneficiary a “power of appointment,” which allows that beneficiary to circumvent the trust terms by appointing certain trust property to a pool of possible additionalbeneficiaries.

How Property Passes at Death

At death, a person's property (assets) is transferred to new owners either as a non-probate transfer or as a probate transfer.  In a non-probate transfer, property passes to the new owner(s) because of the way the property is titled or the designated beneficiary.  In a probate transfer, the decedent's property passes to specific individuals based on their Will, or according to inheritance laws if the decedent had no will.

Non-Probate Transfers

Non-probate assets generally fall into three categories: those which are transferred by title, by contract, or by trust:

  1. Title: Assets transferred by title include property held in joint tenancy with right of survivorship, such as a house, car, or bank account, or bank accounts payable on death to a named individual.  Note that co-ownership property owned as a joint tenancy or tenancy in common has no rights of survivorship and is probate property.

  2. Contract: Assets transferred by contract include life insurance policies, pension and retirement plans, and any other asset in which the owner names the beneficiary to receive it upon the owner's death.  These fall under the “beneficiary designation property” described earlier.

  3. Trust: If the decedent has created and funded a trust, the trust will generally contain provisions regarding transfer of the assets at the time of death.  These assets fall under the “trust property” ownership described earlier.

Title to these non-probate assets passes automatically at death without any court proceeding.  Even if a person has arranged for non-probate transfer of ownership through title, contract, or trust, this does not mean that a Will is unnecessary.  A Will still may be needed to distribute probate assets, deal with situations when the joint owner or beneficiary dies, determine who will handle the business affairs of the estate, etc.

Probate Transfers

Probate is a court proceeding to determine who should receive an individual's property at death, who should handle the business affairs of the decedent, and who should care for the decedent's minor children (if any) and their property.  If a person prepares and executes a Will, they are considered “testate”, and their Will governs probate decisions.  With a valid Will, a person can, within certain limits, distribute their assets to anyone they desire.

The two exceptions or limitations are as follows:

  • A husband or wife cannot disinherit the other, as a spouse has a statutory right to a share of the estate.  The exception is if the spouses have executed a valid marital agreement.
  • A parent cannot disinherit a minor child for whom the parent has an ongoing support obligation.  Adult children may be omitted as they have no legal right to receive an inheritance from their parents.

A person is not obligated to leave property to family members, other than the two exceptions above.  Some people leave assets to friends and distant relations.  Others make charitable gifts to organizations they wish to support.

Conclusions

The Wills & Trusts page of this Estate Planning section discussed your need to establish Living and Credit Shelter trusts.  This section described the various types of asset ownership and how your assets are transferred at death.  This is so that you can properly title your assets and beneficiaries.

In summary, to assure that your estate is handled the way you want it to be (in your absence), you need to follow these rules:

  1. Transfer the majority of your assets into your Revocable Joint (Living ) Trust, including bank accounts, brokerage accounts, real estate, loans, etc.
  2. Title your life insurance policies with the trust named as the primary beneficiary.
  3. Title your individually owned qualified (pre-tax) assets with your spouse as the primary beneficiary and the Living Trust as your secondary beneficiary.  These include IRA;s, 401(k)’s, 403(b)’s, qualified annuities, etc. You may alternatively wish to consider naming one or more individuals as secondary beneficiaries of your IRA(s) in order to "stretch" the payouts over the life expectancy of the oldest beneficiary.