Retirement Income Blog

Trusts play a big part in estate planning. What you don’t know about them can hurt you and your beneficiaries’ financial health and possibly your own.
 
A trust is a legal entity - just like a corporation or a person. It holds assets for a beneficiary.  The beneficiary could be you or another person. A trust document states the purpose of the trust and how it’s to be carried out. A trustee is the person (or entity) that carries it out. The grantor (e.g. you) creates and generally funds the trust.  Trusts in estate planning play a major role as you shall see.

A trust can be revocable or irrevocable. Revocable means that the grantor can decide to revoke the trust and take all the assets back for his use. In fact, such a revocable trust is really an extension of the grantor and taxed as if all the trust assets and their income were his. The most well known type of revocable trust is the living trust.  During your lifetime, this trust is transparent–it does not affect anything.  But upon death, the living trust contains a set of instructions that states how assets are to be divided.  As you see, the use of trusts and estate planning go hand in hand.

Revocable trusts serve to avoid probate. Probate – the court process of transferring assets in a deceased’s name by will or intestate - is a very public process. Trusts are not subject to probate – being a separate entity from the deceased – and can privately pass assets according to the terms of the trust. One of the objectives of trusts and estate planning is to retain privacy.  The additional benefit of a revocable trust is that it allows the grantor to control the assets and income of the trust as he wishes while he’s alive.

An irrevocable trust –once created by the grantor – is no longer under his control. It’s controlled solely by the trust document and the trustee. In this case, it’s taxed as a separate entity –unlike the revocable trust – and has an existence all its own.  In our tax system, whoever has the ability to control an entity is taxed and responsible for what that entity does. The irrevocable nature of a trust breaks that connection relieving the grantor of any subsequent tax or control issues. However, in reality, the trustee is usually a friend, relative or confidant of the grantor over which the grantor has influence and thus, can still exert indirect control over trusts assets. In this case trusts and estate planning serve to separate control (which the grantor still exerts) from ownership.  Assets are removed form the grantor’s estate with favorable estate tax and asset protection consequences.

The legal separateness of an irrevocable trust allows key benefits. First, that the grantor determines how the assets he puts in it are to be handled and distributed to his assigned trust beneficiaries – according to how he writes up the rules of the trust document. Second, the trust as a separate entity, can survive him indefinitely allowing his wishes to continue beyond his death. Third, the beneficiary, the object of the trust, benefits from the trust. Last, the trust’s legally protected from others (i.e, creditors) who may try to invade it or take the trust assets. Trusts in estate planning play these four major roles as just explained.

The use of trusts in estate planning have a clear objective to achieve. Examples of such trusts are:
o Spendthrift protection
o Charitable trust
o Life insurance trusts
o Asset protection trusts
o Bypass Trusts
o Qualified Personal Residence Trust (QPRT)
o Qualified Terminal Interest Property Trust (QTIP)
o Generation-Skipping Trust
o Irrevocable Life Insurance Trust ILIT

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One aspect of retirement planning is protecting the assets you have accumulated.  Estate planningis also about protecting the assets you have accumulated but comes at the issue of asset protection from a different aspect. For example, in retirement planning, one is concerned with asset allocation–the idea of spreading your money among different asset classes so that a decline in one class is offset by an increase in another class.  In estate planning, you protect your assets by forming trusts which can protect assets from estate taxes and claims of creditors.  When retirement & estate planning are coordinated, they become a powerful combination of tools to create and preserve wealth.

However, sometimes, the goals of retirement planning and estate planning compete. When its time to retire, one often has the choice to leave their funds in their employer’s 401k (some companies allow retirees to leave their account with the company) or rollover their funds to an IRA.  Is this an issue of retirement or estate planning?  From a retirement planning perspective, one may have more investment choices in the IRA and thus do the rollover.  From an asset protection standpoint, one’s funds are protected from creditors by ERISA.  Such protection is not automatic once the funds are rolled over into an IRA as creditor protection of IRAs is a state law (note that we are addressing non bankruptcy creditor protection here).  In this case, retirement & estate planning objectives may be in competition–we want the rollover for investment flexibility and we want to keep funds in the 401k for ERISA protection.

Another example where retirement & estate planning compete impacts the trade-off of capital gains and estate taxes.  If, for example, you own real estate that you don’t want to see because of high capital gains tax, you are making a retirement or financial planning decision that saves tax on the gain (currently 15% federal).  However, if the asset remains in your estate when you pass, depending on the estate tax laws in effect currently for estates in excess of $2 million, your heirs will pay 45% tax on the entire asset value.  So do you sell the asset now, pay the capital gains tax, gain liquidity which can be distributed from your estate before you pass or do you leave the real estate in your estate, avoid the capital gains tax yet expose the property to estate tax?

Another example of interdependence of retirement & estate planning the naming of beneficiaries on your IRA.  One may consider this a retirement planning issue involving the proper management of your IRA.  However, it is also an estate planning issue as it involves the distribution of your estate, potentially how much estate tax is paid on your estate (e.g. IRA funds left to charitable beneficiaries are exempt from estate taxes) and also estate liquidity.  Whether one spends more of their IRA funds and less of their non-IRA funds impacts how much of each type of asset remains in ther estate and thus we see that retirement & estate planning are again intertwined.

Last, consider the issue that faces most baby boomers coming up on retirement.  Most will learn a word which is unfamiliar to them–annuitization.  This is the process of converting an asset into an income stream.  While baby boomers parents have left many of them substantial assets, many baby boomers will not be able to leave an estate to their heirs as the boomers will need to annuitize their assets in order to produce a sufficient retirement income.  This is the ultimate competition of retirement and estate planning goals.  Time to get out the retirement planning calculator and consult you estate planner.

Post provided by Javelin Marketing

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A trust serves to separate legal and equitable title.  In plain English, this means that a trust holds an asset (any asset like a house, car, or bank account) in the name of one person (called the Trustee), but that the asset is really for the benefit of someone else (called the beneficiary).  Why have trust and pursue trust planning?  The use of trusts gives flexibility and power in controlling how your assets are used if you become incapacitated or pass away or desire to control or protect your heirs.  Different types of trusts can actually be created for all kinds of purposes, and you will hear terms like “Special Needs Trust”, “Land Trust”, and “Revocable Trust”.  Trust planning requires that you simply be precise about your desires and what you wish to accomplish so that you get accurate retirement help from a trust attorney who can draft the documents properly. Proper trust and estate planning can result in several benefits:

• reduction of estate taxes
• protection of assets from creditors
• managment of assets for those who don;t have the knowledge or ability to do so
• control of how your bequest i8s used after you’re gone
• avoidance of probate

A Trust is simply words on a piece of paper–words that rare recognized by the legal system as valid documentation of your desires. The most common trust used in estate and trust planning is a revocable living trust, sometimes referred to as a revocable inter vivos trust.  Within the generic living trust are “sub parts” or flavors, such as A-B Trusts, Disclaimer Trusts, QTIP, and QDOT Trusts.  Living trusts are the most flexible type of trust used in trust planning because the trust can be amended or revoked at any time by the competent trustor (the trustor is the creator of the trust- synonymous with grantor or settlor).  Revocable living trusts are the most basic type of trust and often acts as the starting point for estate and trust planning.

Typically, you will be the initial trustee (e.g. person who controls the assets in the trust) of your trust and you will name Successor trustees to manage and control your assets when you are unable or after you pass. As long as you are living and have the mental and physical capacity to act as trustee, you will continue to do so and have full control over all of your assets as you would without a trust including spending, moving assets around, buying and selling real property and investments.  At the time you become incapacitated or upon your death, the named successor trustee (usually a family member but often an attorney or CPA) will gather your assets, pay valid debts, claims and taxes and distribute your assets according to your wishes as directed in your trust.  Selecting a knowledgeable succesor trustee is a crtical issue in trust planning as you want someone who will make good business decisions to settle your estate.

Although a trust allows assets to pass without probate (which can be lengthy and costly court process), a complete estate plan includes a pour-over Will, as a safety mechanism to move any assets into the Trust that may have accidentally been left out.  A will is also necessary to name guardians for any surviving minor children.  Even in the process of trust planning, wills are used.

A Trust can contain provisions that can reduce or eliminate some estate taxes (by divisions of an estate into parts) and a trust permits you to specify conditions for the distribution of your assets.  A living trust does not require a separate tax return during your lifetime, but other types of trusts which are irrevocable are separate financial entities and will have their own taxpayer ID and complete a tax return.   While trust planning may sound complex, it is a common and straight forward process when done by an experienced estate planning attorney.

Typically, trust planning is am arena of financial planning that does not lend it self to tools like a retirement income calculator, financial planning software or monte carlo simulations as this planning is very individualized and is qualitative vs quantitative in nature.

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Estate planning is not just for the rich. It is for anyone that cares about their heirs.  In fact, most aspects of estate planning basics have little to do with money.

Estate planning basics do address the eventual and economical distribution of your possessions and authority but more importantly, how you take care of your loved ones. Many of you may think you don’t have an estate plan - but you do! Federal and state rules will determine who gets what and how much and how you get treated if you become very ill. If not prepared with basic estate planning knowledge, it cost cost money and heartache.

Putting your estate in order can be complex. It depends on how many assets you have, where they are, your family structure – children, divorced and previous children, state laws – and more. But, no matter how small or large your estate is, here are the four tools of basic estate planning. These are your

1. will or trust
2. durable power of attorney
3. living will
4. health care proxy (medical durable power of attorney)

Your will shows your wishes for disposition of your assets and names a guardian for minors. In it state how property in your name should be distributed, name an executor to be in charge of carrying out your wishes, provide for payments of costs incurred in settling your estate. And for your minor children, designate a guardian and name a trustee to protect their inheritances. One estate planning basic is to use a trust in place of a will because it maintains privacy and avoids court involvement in the settlement of your estate.  Additionally, trusts typically contain conservatorship provisions.  If you should lose your mental capacity in your old age, do you want your family to be in court about your care or would you rather have a written plan in advance?  Estate planning basics call for planning ahead.

Also note that in the case of a larger estate proper planning will also include estate tax planning, covered in a future post.

Your Durable Power of Attorney gives someone else permission to manage your affairs if you become disabled or incapacitated. With it, as soon as you become incapacitated, your designated person, i.e. your spouse, adult child or anyone you trust, can manage (pay bills, make decisions) your affairs or you can retsrict that power to only particular assets or accounts. Don’t wait! You can’t create a durable power of attorney once you’ve become incompetent.

Your Living Will – expresses your wishes to your doctors when they must consider use of life-sustaining measures. This is your declaration on what life-sustaining medical treatments you will (or will not) allow if you become incapacitated. For example, you may request that artificial nourishment be (or not be) withheld if you become terminally ill.  You may recall the Mary Schiavo case on this issue which became a national news story only because these estate planning basics were ignored.

A Medical Durable Power of Attorney (or health care proxy) is a crucial and basic estate planning tool - designates someone to make health care decisions on your behalf in the event you no longer can. It’s a document that gives a person you designate permission to make health care decisions on your behalf if you are unable to do so in the future, and perhaps, consistent with your living will. Talk to the person before appointing him, and be sure he or she understands and is comfortable with your wishes, and is strong enough to carry them out despite some family members’ objections.

Seek professional help in planning your estate consistent with your state laws and your particular circumstances. No one will tell you about the estate planning basics.  Be proactive and ASK your retirement advisors or your CPA what you need to do to get your estate in order.

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One of the topics we cover on this blog is estate planning as its unlikely you will spend every last dime before you die.  So let’s consider trust planning and how to leave assets to your heirs, just in case there’s some money left over.

I am a big fan of leaving money in trust to provide trust income to your heirs and not leaving assets outright.  Leaving assets outright has several problems:

• Your heirs may blow the money, intentionally or not
• The creditors of your heirs can get at it
• An alienated spouse can get at it (if they are clever)

If you leave money in trust, you can set it to give your heirs a trust income and not expose the principal to any of the above problems.  Of course, you can provide additional flexibility through the trustee.  You can empower the trustee (the person who is responsible for the trust on behalf of your heirs), to make discretionary distributions of trust income.  For example, if you your heirs get $20,000 annually from the trust, you can empower the trustee to make additional distributions of trust income or trust principal for certain purposes such as education or starting a business or buying real estate.

It’s important that the trust distribute its income each year because trust income left in the trust is taxed at very high rates:

By distributing the trust income to the beneficiary, the trust will not pay any tax and the income will be taxed to the beneficiary at much lower rates.

How important is trust planning?  You can consult retirement income calculators to see how much income you need, how much of your assets are likely to not be exhausted and to what extent to carry out estate planning.

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You may hear a lot about retirement planning. Estate planning is an essential part of retirement planning although many people aren’t aware of all that it encompasses. So they put it off until it’s often too late. Many assume that trust and estate planning is for the wealthy.  But that’s not so.

Let’s take a look at what estate planning addresses and why it’s important to begin it ASAP.

Estate planning services address these key questions:
• Do you want input into how you’d like to be taken care of when you become incapacitated?
• Do you want to be sure that your assets go to the people you choose when you die?
• Would you like to eliminate or minimize needless loss of some or all of your assets when you need long term care?
• Would you like to minimize excessive taxes on what you want to give your beneficiaries?
• Do you want to prevent public exposure, costs and delays of probate?

These are important questions and virtually everyone will answer ‘yes’ to all of them. Making arrangements to satisfy each question is what estate planning services are all about.

But what’s especially important is making arrangements to address these questions ASAP because of these 4 circumstances:
1. You never know when you’ll die
2. You never know when you’ll become mentally incapacitated
3. You never know when you may need long term care
4. Arranging satisfactory solutions to some of these questions requires 3 to 5 years lead time - at least - before these circumstances occur!

Consequences of not addressing these questions are:

Incapacitation:

• You’re treated in a manner you would never wish to be.
• Someone other than your choice determines how your money is used and distributed.
• Your assets go to someone not of your choice:
• With no will, your assets will be distributed according to state rules – not your wishes.
• Without a trust, you must trust your current spouse to give assets to your previous children

Long term care:
Without long term care insurance or a lot of wealth, paying direct long term care costs can wipe out a small estate easily.  Can you afford to do so?  Check the retirement income calculator.
Gift and estate taxes:
If you’re estate is worth some millions of dollars, estate and gift taxes above an uncertain exclusion level in years beyond 2010, can rob up to 45% of it.
Probate:
Public exposure on who’s getting what can trigger legal claims and hard feelings between potential beneficiaries and other relatives.

The table shows you estate planning services to address each estate planning question.

Estate Planning Questions and Tools
Estate planning questions Tools to address it
How should you be taken care of? • Living will or
• health care power of attorney
• Springing power of attorney
Assure your assets go to beneficiary of your choice? • Will
• Trusts
• Joint ownership
• Appropriate designation for beneficiary on account type (insurance, IRAs, bank accounts)
Lose your assets to long term care costs? • Medicaid planning (early transfers and gifting)
• Long term care insurance
Lose your assets to excessive estate and gift taxes? • Annual gift exclusion
• By-pass Trust
• Irrevocable trusts
Avoid probate? • Avoid sole ownership of any assets
• Revocable living trusts

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