Avoid some common estate plan mistakes
A few years ago, I received a phone call from a woman understandably upset that she might not inherit any of her deceased father’s large 401(k) plan, even though he was divorced and she was an only child. Unfortunately, about a year before, her father divorced for the second time and failed to remove his ex-wife as the beneficiary of his 401(k).
While the man probably never intended for his ex-wife to receive his assets and entirely cut out his only child, that is exactly what happened.
An estate plan consists of three primary documents that will provide clarity about how you would like your wishes carried out both during life and after you die: a will, a durable power of attorney and a healthcare power of attorney.
The latter two legal documents designate individuals to help make decisions involving your finances or health in case you cannot while you’re still living.
In my work helping families design estate plans that effectively reflect their wishes, here are five common mistakes I see:
1. No estate plan at all
A will provides specific information about who will receive your money, property and other assets. It’s important even for people with minimal assets. Without a will, state law decides who will receive your assets, and it’s not likely they will be distributed the same way you would want.
Dying without a will, known as dying intestate, involves a time-consuming and costly process for your heirs that can easily be avoided by simply having a will.
A will provides the opportunity to appoint an executor to carry out the business of closing your estate and distributing your assets. In lieu of a will, these appointments will likely be made by a probate court.
2. Missing or incorrect beneficiaries
Many people are surprised to learn that some of their assets, such as retirement accounts and life insurance policies, are not controlled by their will.
To make certain the right person inherits these assets, a specific person or trust must be named as the beneficiary for each account. Without updating the beneficiary, the amount in that account will go to the person they named decades ago, instead of a spouse, their children or both.
3. Incorrect joint title
Married couples can own assets jointly, but they may not realize that there are different types of joint ownership:
Joint Tenants with Rights of Survivorship (JTWROS): If one person passes away, their spouse or partner will automatically receive the deceased person’s portion of the asset by order of law. This transfer of ownership bypasses a will entirely.
Tenancy in Common (TIC): Each joint owner has a separate transferrable share of the asset. Each person’s will dictates who inherits the share.
It is not uncommon to see improper joint asset titling become an issue if a deceased person’s share of a joint asset is intended to be used for a specific purpose, such as funding a trust, following their death.
For example, George and Mary are a married couple with a large amount of investment assets. Their non-retirement accounts are all owned together as Joint Tenants with Rights of Survivorship.
Assuming George passes away first, his wish is to use a portion of the investments to fund a trust created by his will for their four grandchildren. However, because all of the assets automatically go to Mary once he dies due to the JTWROS titling, there will be no assets available from George’s estate to fund the grandchildren’s trust.
4. Failure to fund a revocable living trust
A living trust allows a person to place assets in a trust with the ability to freely move assets in and out of the trust while living. At death, assets continue to be held in trust or distributed to beneficiaries, all of which is dictated by the terms of a trust document.
The major advantages of a revocable living trust are twofold: First, it reduces or eliminates the time and expense associated with the probate process, which is necessary with a will.
Second, it provides privacy and protection from the probate process. (A will, when submitted to probate, becomes public record, which makes it not only visible but able to be challenged.)
The most common mistake made with a revocable living trust is failure to retitle or transfer ownership of assets to the trust. This critical step is often overlooked after the “heavy lifting” of drafting the trust document is completed. However, the trust is of no use if it does not own any assets.
5. It may not make sense to name a trust as a beneficiary of an IRA.
The new SECURE Act, which went into effect on January 1, 2020, calls for the removal of a provision known as the stretch IRA.
This provision allowed non-spouses inheriting retirement accounts to stretch out disbursements over their lifetimes. The stretch IRA allowed assets in retirement accounts to continue their tax-deferred growth over many years — a very powerful strategy.
But the new law requires a full payout from the inherited IRA within 10 years of the death of the original account holder, in most cases, when a non-spouse individual is the beneficiary.
Because of these changes, it may no longer be ideal for a person to name a trust as the beneficiary of their retirement account. It is possible that either distributions from the IRA may not be permitted when a beneficiary would like to take one, or distributions will be forced to take place at an undesirable time and unnecessary taxes will be generated.
Speak with an attorney and revisit estate plans to ensure that the new SECURE Act provisions do not create unintended consequences.
This article was written by and presents the views of the author, not the Kiplinger editorial staff. Check adviser records with the SEC or FINRA.
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