Throughout our lives, we invest great energy in making life better for our families, so it’s only natural that we also search for ways to simplify the decisions our loved ones will have to face when we die. That selfless motivation induces many people to determine—while they’re still living—how their assets will be distributed after they pass away.
One common decision is to gift assets to children or others. Although gifting is an efficient way of transferring assets without estate tax or probate costs, there are many things to consider before you make these gifts.
• Once you gift an asset to a child, you’ve given it away. If you want or need it back, you can’t get it back.
• If your heir goes through a divorce, a daughter-in-law or son-in-law could end up owning the asset.
• The law allows you to make gifts of up to $12,000 in a single year to someone other than your spouse without any gift tax liability. Gifts in excess of that amount will require a gift tax return and will affect your estate tax exemption in the future.
• Your gift of an appreciated asset will transfer your cost basis to your child, and if your child sells the asset, they may incur capital gains tax.
Gifting can be an effective way of reducing your estate taxes if your estate is large and if you can afford to give away an asset. But if there’s even a remote possibility you may need that asset later, think carefully before you make a gift.
Beneficiary designations are a common method for earmarking assets for beneficiaries without actually distributing the asset until death. You can name a beneficiary on insurance policies, IRAs, retirement plans, some bank accounts (called Pay on Death Accounts), and even stocks and mutual funds (called Transfer on Death Accounts). And when you die, these assets can bypass probate court and be paid directly to the person(s) you’ve named.
Before you name your beneficiaries, think objectively about how effectively your potential heirs are able to handle significant sums of money. How well have they managed finances historically? Will they make poor investment decisions or be influenced by a spouse or others?
Once you’ve thought through your options and determined whom you’ll name as your beneficiary, be aware that certain situations can interfere with the smooth implementation of your beneficiary designation plans.
• If your beneficiary dies before you do or you both die at the same time, the proceeds will have to go through probate before they can be distributed with the rest of your assets.
• If your beneficiary is incapacitated when you die, the court probably will take control of your assets through a guardianship or conservatorship. Most institutions won’t knowingly pay to an incompetent person and will insist that assets be court-supervised when the beneficiary is incapacitated.
• If the beneficiary is a minor, again the probate court may become involved, requiring a guardianship or conservatorship, a legal process in which the court names an individual to take care of the child’s needs and approves the management of assets and expenditures. Few institutions will pay funds directly to a minor or to another person for the child. To avoid potential legal liabilities, institutions probably will require proof of a court-supervised guardianship before distributing assets. Consider naming a custodian for your minor beneficiaries instead.
On top of these issues, there are some very important tax issues to consider when naming beneficiaries of your IRAs. Ask your personal trust advisor for “Unleashing the Power of Your IRA”, a financial advisory newsletter.
Deciding who will receive your assets and how they should be distributed when you die is a difficult task, but by arming yourself with this information and establishing the appropriate distribution mechanisms, you can have the comfort of knowing your assets will go where you want them. And you’ll achieve what every parent strives for—making their children’s lives a little easier.
To explore your options, contact a personal trust advisor at your financial institution or consult with an attorney who has trust and estate planning experience. TPW