A recent survey found that nearly 50% of individuals with children do not have a Will and over 40% of individuals over the age of 55 do not have one. Whether a person is 18 or 98 with net assets of $200,000 or $20 million, an estate plan is one of the best gifts we can give to our families. I like to think of an estate plan in terms similar to building our home – everyone wants a solid and complete home.
Similar to the foundation of a house, the foundation of our estate plan is our legacy – – to whom do we want our assets to go upon our death: family, friends or the community. Building up from this foundation we have four walls, two walls support us during our lives and the other two support our family, friends and community upon our death.
The first wall is a healthcare power of attorney. Through a healthcare power of attorney, an agent is appointed to help make healthcare decisions when we are unable to make such decisions for ourselves. Coordinated with the health care power of attorney is an advanced directive (or living will) which allows healthcare providers to know the type of end of life care we desire.
The next wall is our financial power of attorney. Under a financial power of attorney, an agent is appointed to coordinate our financial and other daily activities such as buying or selling a house, potentially making gifts to family members or charity, buying and selling stock, coordinating with our insurance companies and handling our day-to-day expenses.
The third wall supports our family, friends or community upon our death and this is our Will which may or may not have an associated trust within it or separate from it. When we die, our assets can be distributed in one of four ways. By the intestate law of the state in which we live, which means the legislature determines where our money goes. The second is by creating a Will and/or revocable trust, which establishes to whom and how our assets will be distributed and whether someone will get these assets outright or over a period of time through a trust. The third distribution avenue is through joint ownership of an account or real property. The joint owner (if living) automatically receives the assets upon our death.
The fourth avenue in which our assets are passed is also the fourth wall – distribution by operation of law (i.e. beneficiary designation). By operation of law, our IRAs, 401k, pensions and life insurance is distributed contractually to people who are named as our designated beneficiaries. Because this is a contractual relationship between the account holder/insured and the entity holding the asset, it does not matter how our Will distributes our other assets. Accordingly, we want to have a seamless joining between our Will and the designated beneficiary so that everything is coordinated and the administration process is as straightforward as possible.
The chimney of the house represents any business interest we may own. We do not want our business to go up in smoke. Only 30% of businesses are successfully transferred to the next generation. It is critical to establish a succession plan to ensure the business transition.
The roof or last building block of our estate plan is the tax liability that may occur upon our death. We don’t want the tax liability to crumble and destroy the estate planning we have done. So woven into our Will, trust(s) and beneficiary designations is the coordination between our legacy (i.e. the individual or charities that receive our assets) and tax planning (i.e. how can we minimize the tax liability to maximize our legacy). For many individuals the federal estate gift or generation skipping tax is no longer applicable. At the federal level, each individual has $5.49 million (2017) that can be distributed tax free. Any distributions over $5.49 million is taxed at a rate of 40%. For individuals impacted by this, there are some advanced estate planning tools that can be implement to cut down on the taxes.
In addition to exploring the impact of federal estate taxes, it is important to explore the impact of state estate or inheritance taxes. In Pennsylvania, there is an inheritance tax and an individual’s estate will be taxed based on the relationship of the beneficiary to the decedent. In New Jersey, there are two taxes to be concerned about — an estate tax and an inheritance tax. The “good news” is that in New Jersey we only pay the higher of the estate tax or the inheritance tax. The New Jersey estate tax allows you to transfer $2 million without paying taxes. Anything above $2 million is taxed in a bracketed system similar to our income taxes, but a good rule of thumb is that the tax is between 10% and 15% of the estate. Once the estate tax is determined, we then turn to the New Jersey inheritance tax. Similar to the Pennsylvania inheritance tax, the New Jersey inheritance tax taxes individuals based on their relationship to the decedent.
Once the estate plan is in place and our “house is built,” we want to insure that we do regular upkeep similar to renovating a kitchen or re-doing a bathroom. The rule of thumb is to take a look at an estate plan every five years to see if something has changed. Other reasons to update an estate plan are: