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GLOSSARY
This brief glossary is designed to help you understand some basic estate planning terms. Not all of the concepts or devices described will be relevant to every estate plan. Nor is this glossary exhaustive. If you have any questions, please do not hesitate to call me at (415) 883-0365.
ESTATE PLANNING CONCEPTS
Community / Separate Property - When one has a living spouse, for purposes of estate planning it is important to determine which property is owned as community property and which is owned as separate property. Basically, community property is all property acquired during marriage which was not acquired by gift, devise, or as a result of a personal injury judgment, and/or which was not acquired as the direct result of an increase in value of property owned separately before marriage. Each spouse owns a 1/2 interest in community property. Separate property, by contrast, is property owned by one spouse only. One may do whatever one wishes with his or her separate property. There are, however, some limitations on what one may do with community property assets.
Intestate Succession - The way in which, by operation of law, property is divided between and passes to one's heirs when one dies without a will.
Probate - The process by which one's estate is settled, including collecting and inventorying assets, paying creditor claims, and distributing the remaining assets to those persons entitled to receive them either under the terms of one's Will or under the laws of intestate succession (if one dies without a Will). If one's probatable estate is less than $166,250 (2021), summary proceedings can be used. The use of certain types of joint ownership and/or Trusts can remove property from one's probatable estate.
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Advantages of Probate:
1. Probate is a formal process supervised closely by the court.
2. Creditor's claims generally are extinguished within four months of the issuance of letters after the opening of probate. Thus, if someone receives property after the court's distribution of assets at the close of the probate process, it is very unlikely that he or she will be subject to the claims of the deceased's creditors.
3. There may be some tax advantages relating to losses from rental real estate activities.
4. Alternatives, such as Living Trusts, initially may be more expensive to draft than a Will.
Disadvantages of Probate:
1. In many cases the costs of probating a decedent's estate will exceed the costs of transferring the same estate without probate. Administration (executor and lawyer) fees are fixed based on the gross amount of the estate to be probated.
2. The transfer of a decedent's assets often may be accomplished more quickly outside probate. Probating an estate often will require months or even years to complete.
3. Probate proceedings are public proceedings. Accordingly, every document filed (including the Will) with the court in a probate proceeding becomes a matter of public record and available for public inspection. Non-probate methods of transfer often can avoid unwanted publicity.
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Estate Taxes / Gift taxes
Unified Credit - Exempts a certain amount of every person's estate from estate and gift taxation. In 2013, Congress and the President made the unified estate and gift tax permanent, and made spousal exemptions "portable" to the surviving spouse. Efffective 2024, the estate tax exemption amounts are $13.61 million per individual and $27.22 million per married couple, indexed annually for inflation. NOTE: If Congress does not act again, at the end of 2025 exemption amounts will revert to $5 million per individual and $10 million per couple. (Most estate planners believe that Congress will not allow this reversion to occur no matter how dysfunctional Congress may be.)
Marital Deduction - All property which passes from one spouse to another, whether while both are alive or upon the death of the first spouse, passes tax free.
Annual Gift Tax Exclusion - During life, one may gift (effective 2024) $18,000 per year each to any number of people without incurring gift tax (or reducing the Unified Credit available upon one's death). A married couple may gift $36,000 per year each to any number of people.
ESTATE PLANNING DEVICES
Wills - The basic tenet of every estate plan. Every person should have a Will. In a Will one can nominate an executor (the person who will administer one's estate at one's death), can nominate a guardian for one's minor children, and can dispose of one's property in any manner one sees fit. If one dies without a Will, the court assumes responsibility for administering one's estate, and one's estate is divided by set formulas amongst one's heirs. Even if one creates a Trust or Trusts, one still should have a Will to dispose of any property one has at death which was held outside the Trust(s), at the very least to pour such property into the Trust, so that it gets distributed in accordance with one's wishes.
Pour-Over Will - Pours all probatable assets not in Trust at one's death into an existing Trust to be administered in accordance with Trust instructions. Such property, however, still will pass through probate.
Trusts - Trusts may be created to work in combination with a Will to do many things. Trusts are administered privately by a person (trustee) chosen by the creator of the trust (trustor/settlor) for the benefit of a beneficiary or beneficiaries. In certain circumstances, the trustor, trustee, and beneficiary of a trust can be one and the same person. Assets properly placed in a Trust do not pass through probate upon the death of the trustor.
Testamentary Trust - Trust which is created by a Will, usually to provide for the benefit of one's children, where either they are minors or one does not wish them to receive all of the devised property at once (e.g., a Spendthrift or Sprinkle Trust). Such Trusts also can be created to operate as Bypass Trusts in order to optimize estate tax savings for married couples.
Revocable Living (Inter vivos) Trust - May be used to avoid probate administration if properly funded during the life of the trustor. May be used to plan for possible incapacity of the trustor. May be used to create a Bypass Trust. May be created so that they are revocable up until the moment of death.
Bypass Trust - Historically were used to maximize the use of the Unified Credit in combination with the marital deduction by removing property from the surviving spouse's estate. By making the deceased spouse's exemption "portable" to the surviving spouse in 2013, Congress essentially eliminated this function. Such trusts can be used, however, to make irrevocable the deceased spouse's intentions upon his or her death. Such Trusts can be created as Living Trusts or Testamentary Trusts.
Irrevocable Living (Inter vivos) Trust - May be used to create significant tax savings. During the trustor's lifetime the trustor will not be taxed on the income of the Trust; on the trustor's death, the Trust assets will not be included in the trustor's gross estate for tax purposes. In addition, properly structured gifts into the Trust may be shielded from gift tax under the annual exclusion.
Trusts for Minors - Can be tailored to the specific needs of a minor child, and can continue beyond the mandatory termination ages for either a guardianship (18) or custodianship (25).
Permanent Trusts - May be used to remove property from the trustor's estate for income or estate tax purposes. May be used to provide for college education of children and/or for elderly parents.
Life Insurance (Crummey) Trusts - May be created to own life insurance policies. Properly structured (drafted with Crummey powers), gifts into the Trust to pay policy premiums will qualify for the annual gift tax exclusion. Moreover, as long as the trustor holds no strings on the policy, the proceeds of the policy will not be included in the trustor's estate for tax purposes. Typically, such Trusts are used to provide cash for payment of estate debts, estate administration, and estate taxes, or for the direct distribution of proceeds to beneficiaries.
Split-interest Charitable Trusts - May reduce taxes (particulary capital gains taxes) through the use of federal income tax, estate tax, or gift tax deductions for charitable contributions.
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Two types:
Charitable Remainder Trust - Income interest is given to a non-charitable beneficiary, and the remainder interest is given to a charitable institution.
Charitable Lead Trust - Income interest is given to a charitable institution, and the remainder interest is given to a non-charitable beneficiary.
Special Needs Trust - Generally created to provide benefits to an elderly or disabled beneficiary without impairing the beneficiary's eligibility for public benefits, such as Medi-Cal and Supplemental Security Income (SSI). May be revocable or irrevocable.
QTIP (qualified terminable interest property) Trust - Qualifies income (for life) payable to a surviving spouse for the marital deduction, while allowing the decedent spouse to designate the final beneficiaries of the property in the Trust. Also functions as Bypass Trust for purposes of gaining the benefits of the marital deduction.
Durable Power of Attorney - A written instrument by which one authorizes another to act as one's agent or Attorney in Fact in the event that one becomes incapacitated. Typically created in order to obviate the need for a cumbersome court administrated public conservatorship under such circumstances.
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Two types:
Durable Power of Attorney for Health Care – Advance Health Care Directive - may be used to appoint someone to make one's health care decisions in the event of incapacity.
Durable Power of Attorney for Property Management - may be used to appoint someone to make one's financial decisions in the event of incapacity.
CO-OWNERSHIP ARRANGEMENTS
Joint Tenancies - Each owner has an equal right to possession, and an equal interest in the property. Upon the death of one owner, the property immediately transfers to the other. This manner of holding property allows the property to pass without going through probate. It may, however, have tax disadvantages for spouses without the use of additional estate planning devices. Also, a joint tenancy can be severed if one joint tenant disposes of his or her interest during his or her lifetime.
Tenancies in Common - Each owner has an equal right to possession, but not necessarily an equal interest in the property. Each owner can sell, gift, or devise (by Will) his or her interest to another. Often TICs are governed by a special written agreement among the owners.
Community Property - Owners must be husband and wife. Such ownership can be tax advantageous for spouses (the surviving spouse will receive a double stepped-up basis on the death of the first spouse). Each spouse may dispose of his or her half of the community property as he or she wishes. A deceased spouse's interest in the property, even if left to the other spouse, will pass through probate (though summary proceedings may be possible). Spouses may elect to title real property as “community property with right of survivorship” to gain the benefits of both the double step-up in tax basis and non-probate transfer akin to joint tenancy.
Partnership - An association formed by two or more persons to carry on a business for a profit. |
Two types:
General Partnership - The partners have equal rights to control and manage the business, and are jointly and severally liable for the debts of the business.
Limited Partnership - The general partners have equal rights to control and manage the business, and are personally liable for the partnership debts, while the limited partners do not participate in the management and control of the business and are not generally liable for the partnership debts beyond the amounts of their capital contributions.
INSURANCE
Life Insurance - Can be an effective tool (possibly in combination with a Crummey Trust) to provide one's heirs with cash which can be used to pay living expenses, estate taxes, and probate fees. Otherwise, one's heirs may be forced to sell real or personal property to raise the money to pay such expenses, taxes, and fees. Most common types:
Term Insurance - Remains in effect until a date certain, at which time it automatically expires. No cash surrender value, and no loan value.
Whole Life Insurance - Permanent insurance for a fixed sum at a definite annual premium. Also incorporates a savings feature which allows the insured to save funds for retirement and/or to borrow against the policy's cash value.
Universal Life Insurance - Provides for flexible premiums and adjustable benefits.
Endowment Contracts - Contract under which the insurer agrees to pay the insured, or a designated beneficiary, a specified sum at the maturity date. |
RETIREMENT VEHICLES
Pension and Profit-Sharing Plans - May provide valuable retirement and death benefits. Generally, one's gross estate will include the value of benefits payable under such a plan for estate tax purposes. Principal types:
Defined Benefit Plans - Pays retirement benefits by a fixed formula usually based on years of service and compensation received.
Defined Contribution Plans - Pension, profit-sharing, stock bonus, or employee stock ownership plan that provides benefits to employees based on the amounts contributed by the employer.
Employee Stock Ownership Plans (ESOPs) - A defined contribution plan designed to invest in and distribute the employer's stock.
Keogh Plans - Retirement plan that covers one or more self-employed persons.
ACCOUNT TITLING
Multiple Party Accounts - One's interest transfers immediately at death. Three types are possible in California:
Joint Accounts - Payable on request to one or more of two or more parties.
P.O.D. Accounts - Payable on request to one person during his or her lifetime, and to another person or persons upon his or her death.
Totten Trust Accounts - Held in the name of one person as trustee for the benefit of another person or persons.
MISCELLANEOUS TOOLS
Lifetime Gifts - The annual gift tax exclusion, coupled with the exclusion for tuition and medical care payments permits many lifetime gifts to be made without any gift, estate, or generation-skipping transfer tax consequences.
Buy-Sell Agreements - Arrangements by which the surviving owners of a business entity agree to purchase the interest of a withdrawing or deceased owner of the same entity. Often funded by life insurance policies.
Disclaimers - Any writing by which a person declines, refuses, renounces, or disclaims an interest in property he or she otherwise would have been entitled to receive - whether by virtue of a Will, Trust, multiple party account, or some other arrangement.
Spousal Contracts - It may be beneficial to transmute (change) the way in which spouses hold property (separate or community). |
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