Part II – Estate Planning
In this second installment of the Taming the Planning B.E.A.S.T. series, we turn our focus to the “E” in “B.E.A.S.T.” – which stands for Estate Planning. What makes Estate Planning so critical for the entrepreneur is that – if you have not figured it out yet – the entrepreneur’s business usually is the estate…
While we may not have any control over the timing of our ultimate days, we can act today to control the ultimate impact of our death on the disposition of our estate, and ease the administrative difficulties for descendants. With a few carefully worded documents, the entrepreneur can ensure that his or her Estate Plan accomplishes the following objectives:
1) ensure privacy through the avoidance of probate;
2) establish a cost-effective and expedited estate administration,
3) provide for a proper, customized disposition of business and assets;
4) maximize estate value;
5) minimize estate tax;
6) protect distributed estate assets from claims of a beneficiary’s creditors;
7) designate preferred agents to act on one’s behalf if incapacitated prior to death;
8) ensure provision of, or withholding of, life-sustaining treatment; and
9) appoint best-suited guardians for minor children.
Estate Planning starts with establishing one’s Core Plan. While the Core Plan may differ per person, the typical core plan for the entrepreneur will include the following documents: Revocable Living Trust, Pour-Over Will, Power of Attorney for Property, Power of Attorney for Health Care, Limited Power of Attorney for Business Decisions, and a Living Will. Each will be discussed below.
The Revocable Living Trust
When one embarks on the task of creating an Estate Plan, the common statement made is that he or she needs to “do a will.” While this may be appropriate and true in some cases, it is usually not appropriate for entrepreneurs or high net worth clients. It remains unknown by many that there are actually two options when preparing a document to provide for the disposition of assets at one’s death: 1) a Will, or 2) a Revocable Living Trust. These two documents accomplish the exact same thing with respect to asset disposition and tax planning, but with one fundamental difference – THE REVOCABLE LIVING TRUST AVOIDS PROBATE!
If an individual dies with a Will in place, or with no Estate Planning documents at all, then that individual’s estate must be administered through the probate courts. Probate is a formal judicial process in which a judge oversees the administration of the estate while working with the executor (who is appointed by the deceased party or by the court if not otherwise provided).
Because it is a formal legal process involving a separate court system, estate administration through the probate court can be very expensive and involves mandated time frames, such as a notice period for creditors to sue, which results in unavoidable delays. In addition, and perhaps most importantly, probate is a public process. This means the court records, the assets, the amounts received by beneficiaries, and all other personal probate estate information, are available for anyone to see. This is the key problem with using wills for the entrepreneur or high net worth client. Most value their privacy, and want to ensure that their estates are administered in a confidential manner. The Revocable Living Trust, as opposed to the will, is the document you should use to avoid probate and protect your privacy at death. It also makes for a simpler, more expedited, and less costly administration for your survivors to handle.
In addition to using the revocable living trust, you may benefit from investing in certain assets, or titling assets in a specific way, which will inherently avoid probate. Assets with beneficiary designations – such as IRAs, 401(k) plans, life insurance and annuities – automatically avoid probate since the contract provides for a beneficiary, and is administered by a third party at death. Also, by titling assets “jointly, with rights of survivorship,” the decedent can co-own property with another person, and at death, the asset automatically passes to the surviving co-owner per its joint ownership terms. This can be used for bank accounts, personal property, and real property.
Given that entrepreneurs either have complexity to their estates, or significant value, or both, the goal to maintain privacy is paramount.
The Pour-Over Will
Although the Revocable Living Trust should serve as the primary dispositive estate planning document, the core plan still requires a will in some form. When the Revocable Living Trust is used, it should be coupled with what is known as a “Pour-Over Will.”
A Pour-Over Will is a short-form, simple will that basically accomplishes two things: 1) it appoints guardians for your minor children, and 2) it transfers any assets that remain titled in your individual name (as opposed to the trust) into the Revocable Living Trust at death for ultimate administration.
It is important to carefully appoint guardians for your children and have a few successors in your document. If guardians are not named by you, with whatever preferences or conditions you may dictate, then the state will get involved and the court will simply appoint a guardian in its discretion. The outcome is usually different than what you would otherwise dictate.
Next, although the goal is to fully fund the Revocable Living Trust during your lifetime by transferring title of all individual assets into it, people usually die with some assets still in their individual name. It is these assets that are simply “poured” into the Revocable Living Trust at the time of death. Many states have “small estate exemptions” that allow you to avoid probate if the probate assets are minimal. This amount varies from state to state, but is commonly between $50,000 and $100,000. Therefore, if a person fails to fully fund the Revocable Living Trust, then the hope is that any individually titled assets have a value less than the state’s small estate exemption amount.
Powers of Attorney – Property and Health Care
While much focus is understandably on planning in the event of death, the truth is we are all more likely to be disabled than die at any given moment. The role of a Power of Attorney is to appoint an agent who is authorized to make decisions and act on your behalf in the event of your mental incapacity.
Logically, the law has separated your world into two parts for this purpose – property/financial decisions on the one hand, and health care on the other. Therefore, your Core Plan should also have a Power of Attorney for Property and a Power of Attorney for Health. Since these are two very different areas of knowledge and experience, the agents you should appoint in one may be very different from the agents you should appoint in another.
As with guardians, if you fail to properly appoint your property or health care agents in documents while you have the capacity to do so, then the court will decide for you in its wisdom. This is the outcome you want to avoid.
Limited Power of Attorney for Business Decisions
One of the biggest oversights I see in the estate planning documents for the entrepreneur is the failure to include perhaps the most important power of attorney document – the Limited Power of Attorney for Business Decisions.
In most business settings, the most suitable person to help the business continue to prosper in the event of the entrepreneur’s incapacity is not the person he or she appoints as the agent to have authority over personal bank and investment accounts. While a spouse may be appropriate for general personal financial decisions, most business owners would not turn to the spouse to effectively manage the business to maintain its viability and value. Moreover, in many cases where there are multiple business owners, the owners have very expressly stated or provided in the documentation that there is no intent to work with spouses.
Therefore, in order to specifically protect the business, the entrepreneur should create a special form of power of attorney, called the Limited Power of Attorney for Business Decisions. This document specifically references the business, the individuals to be appointed, and the scope of the decision making. This is the best approach to protect the golden goose.
There have been multiple widely publicized instances in which an individual has been put on life support and the courts have been involved to try to settle the dispute between warring family members. The debate is whether to keep someone alive who has no quality of life where death would be imminent but for the life support, or to allow the individual to die naturally and avoid unnecessary or undesirable depletion of estate assets. The Living Will is your opportunity to state your life-sustaining treatment desires very clearly up front so there are no questions or court involvement when the time comes.
Other Benefits of the Core Plan
Properly crafted, the estate planning documentation of the Core Plan should provide a variety of other benefits that are meaningful to the individual and the family:
1) Keeps the State out of your affairs. If you die without a will, your State will direct the disposition of your assets per its statute and the court discretion. If you don’t appoint guardians or powers of attorney, your State will do so for you at the time. You do not want State intrusion into your affairs, and you want to ensure that all matters are handled pursuant to your specific desires only, then you need to be responsible and create your documents in advance.
2) Protected, customized distribution of wealth. You are able to create customized distribution standards that match your personal philosophies of wealth. You can break free from the “forms” and accomplish your objectives by disposing assets to descendants at the times, in such amounts, and under such conditions as you wish. Also, to ensure that your wealth never ends up in the hands of creditors or ex-spouses of your descendants, you can ensure that all distributions are done “in trust” with asset protection features. You can effect pre- and post-nuptial planning for your descendants without their involvement.
3) Maximize value. By providing for certainty, a smooth transition, a cost-minimized administration, and the best-suited individuals to manage your business affairs, you will maximize the value of your estate to be passed on.
4) Minimize taxation. The structure of the documents can also be used to minimize estate and generation skipping taxes. We can create “pots” within the documents that isolate tax exemptions for federal estate tax, state estate tax, and multi-generational giving. The goal, of course, is to make your Estate Plan as tax-efficient as possible.
Asset Protection and the Core Plan
In the last 20 years, estate planning has seen a new insertion into the Core Planning discussion – Asset Protection. It is useless to plan for the ultimate disposition of one’s wealth, or create structures to avoid estate tax, if one’s wealth has been lost prior to death as a result of a lawsuit. Therefore, the optimal Estate Plan necessarily involves structuring one’s assets in a way that they are insulated from, and not exposed to, creditors. Asset Protection is the “A” in the planning “B.E.A.S.T.” – and it will be discussed in the next installment…
By: James M. Duggan, MBA, JD