The Basics

For many families, a proper estate plan consists of the preparation of a Will, Advance Directive (Living Will and Health Care Power of Attorney) and a General Durable Power of Attorney.  Various trusts can be employed as well to achieve goals such as the avoidance of probate and minimization of death taxes.  Parents who have children with special needs must do more though.

When planning for children with special needs, a family needs to insure that the personal, medical and financial needs are met.  Although there are some children who work through their disabilities to live and work independently, most need significant support.  As such, three essential documents should be explored:

Special Needs Trust

A special needs trust meets two goals.  First, if properly drafted, it preserves a child’s eligibility for public benefits such as SSI and Medicaid.  Second, it can protect the child from exploitation.  To make sure this document is effective, a trustee should be carefully selected.  Based on the complexity of public benefits laws, strong consideration should be given to the use of a corporate trustee that specializes in the administration of these trusts.

Guardianship Nomination

A parent’s Will should include a guardianship nomination any minor children.  However, when a child turns 18 years of age, he or she is considered to be an adult by law regardless of the severity of his or her disabilities.  If a child is high functioning mentally, he or she should execute a living will and power of attorney of their own.  However, if they are unable to do so, a guardianship nomination clause should be included in a parent’s Will.  This allows for appointment of a competent individual to manage the personal, medical and financial affairs of  a child with disabilities when his or her parents are deceased.   Although the nomination is not binding upon a probate court, it is considered persuasive and is often accepted.

Letter of Intent

We live in a world where children with disabilities are often pigeon holed by the term “disabled”.  It is imperative that they are evaluated and treated based on their individual strengths and limitations, and not as part of a stereotype.  A Letter of Intent is a non-binding document that captures vital information about a child for future caregivers, guardians and trustees. It can include information about his or her child’s routines, preferences, medical history and  allergies among other areas. Parents have gathered a lifetimes worth of information about their children information that will be invaluable to their future caregivers. Thus, this document should be prepared and kept with one’s other estate planning documents.

Parents who have children with disabilities face a myriad of legal, medical and financial issues.   There are a host of government programs which can provide assistance in a variety of forms including housing and medical coverage.   Two programs, Social Security Disability Income (SSDI) and Supplemental Security Income (SSI), provide cash.

In order to obtain the proper benefits, applicants need to understand three core differences between the programs:

1. SSDI is an insurance-based program whereas SSI is means-tested.

Two criteria need to be met in order to obtain eligibility for either program.  For both programs, one criteria is that an applicant must demonstrate that he or she is classified as disabled by the Social Security Administration (SSA).  To do so, among several factors, it must be shown that an applicant’s impairment renders him or her unable to work at a job in which he or she can earn $1,070 or more per month.  (This figure, set in 2014, is adjusted periodically by the SSA).  Specifically, the IRS has just released Announcement 2014-32, which directs the one-rollover-per-year limitation of Individual Retirement Accounts and Individual.

The second criteria is different for each program.  To attain SSDI, the applicant must have worked for ten (10) years.   If he or she has done so, eligibility should be granted regardless of any other factor.

For SSI, though, the work history is irrelevant.  SSI is designed to meet the needs of the elderly and blind, as well as disabled, to insure that they can pay for food and shelter.  To be eligible, one’s income has to be meager, if not non-existent, and resources (i.e. liquid assets) cannot exceed a small amount (typically $2,000).

2. Each program provides different access to healthcare.

If an individual receives SSDI, he or she is generally eligible for Medicare after two years.  Medicare is a federal health insurance program that covers routine hospital services and most but not all primary medical care.

If a person receives SSI, he or she typically qualifies for Medicaid benefits immediately.   Unlike Medicare, Medicaid usually pays for all primary medical care for its recipients.

3. The amount of the cash payments can vary

The SSDI payment is based on the earnings record of the recipient.  The SSI payment is a flat $733 per month (augmented with a small supplement by most states).

In short, it is possible to receive both SSDI and SSI.  SSI is a floor.  If an individual’s SSDI payment is less than the SSI amount, SSI will supplement the difference.  So, for example, if a recipient gets SSDI in the amount of $533 per month, SSI will pay $200 per month to get the overall payment to $733.  On the other hand, if the SSDI payment is more than $733, that will be the only benefit received.

Part One: For Parents

Drew and Libby have two children, Becca and Corky.  Corky has Down’s Syndrome.  Although he is on the high end of moderate functioning, he won’t be able to handle more than a minimum-wage job.  Outside of being able to purchase small items at convenience stores, he has little understanding about financial affairs and does not have sufficient skepticism to avoid being exploited by others.  They are both concerned about how to provide for Corky when they are gone.

There are three choices available to Drew and Libby.  The first option is to leave Corky an inheritance outright in his name.  This option is disastrous but occurs too often in our world.  When they die, Corky will be automatically disqualified from needs-based government benefits, such as Supplemental Security Income (SSI), Medicaid and Section 8 housing.  These benefits can insure that he has a source of income, housing and medical care.  However, in order to be eligible for these benefits, Corky cannot have more than $2,000 in his name.  Receiving an inheritance will violate this condition of eligibility.  Moreover, Corky could fall prey to a so-called “friend” who could scam him out of his money.

The second choice is that Drew and Libby can leave their entire estate to Becca.  Becca loves her brother and promises to take care of him when they are gone.  However, there are enormous risks with this option.  Becca could predecease Corky.  Becca could be married to a spendthrift who mismanages and depletes the inheritance.  Becca could be a spendthrift herself or subject to the claims of creditors.  Although Becca loves her brother, she many spend some on herself to compensate for the extra attention Corky received from their parents while they were alive.

The third choice is a trust.  There are a variety of trusts.  However, the two primary types are known as a support trust and a special needs trust.  A support trust appoints a third party to manage Corky’s inheritance and states that it can be used for his health, support and maintenance.  Although  this should protect Corky from exploitation, it will disqualify him from government benefits.  These trusts are occasionally appropriate but they are more often than not drafted accidentally by an attorney not qualified to handle proper estate planning.

The optimal trust is almost always what is known as a special needs trust.  A special needs trust affirmatively states in its language that it is to be used to supplement rather than replace government benefits.  To be valid, it must meet a number of criteria such as being irrevocable and subject to the sole discretion of the trustee as to decisions regarding distribution.  Payments are to be made to third parties for goods and services on behalf of Corky rather than directly to Corky. It should be drafted to reflect Corky’s abilities as well as his limitations.  Without question, though, this is the optimal result for Corky, as it will allow him to keep his benefits, yet allow for a fund to enhance his quality of life.

The effects of divorce upon the right to life insurance are often greatly misunderstood,  and many individuals don’t realize the impact that divorce has upon this asset. As such, upon death, many policies are paid in a manner which is unintended.

Divorce Supersedes Beneficiary Designations

When individuals obtain life insurance, the insurer requires that they designate beneficiaries to their policies in order to determine who should receive the proceeds or benefits of the policy when the insured dies.  Typically, when an insured is married, he or she names his spouse as the primary beneficiary.  Divorce changes the legal right of that spouse, as the black letter law states that when divorce occurs, the rights of that spouse are automatically extinguished and no further action need be taken.

Four Problem Scenarios

1. Harry and Sally divorce.  Sally was the beneficiary of Harry’s $500,000 life insurance policy.  Because the divorce is amicable and Harry wishes Sally to have a good life, he leaves her as the beneficiary of his insurance policy.  Harry dies.  Knowing that he meant for her to have the insurance, Sally files a claim with the insurer.  The insurer denies same.  Sally has no right to the policy.  In order for her to have had any right, Harry would have had to restate his beneficiary designation, noting that Sally, now his “ex-spouse”, was to the beneficiary.
2. Harry and Sally divorce under the same circumstances.  However, the insurer, not knowing of the divorce, or for some other inexplicable reason, pays the claim.  The contingent beneficiaries are entitled to these funds.  However, Sally doesn’t want to pay them over.  In order to get them, they have to file a lawsuit against her and/or the insurer.  Even if they recover, the cost of legal fees and time will be significant.
3. Harry and Sally divorce.  As part of their Property Settlement Agreement, Sally is to receive $500,000 when he dies and same is to be secured through his insurance.  Shortly after the divorce, Harry remarries.  He changes the beneficiary of his insurance to his new wife, Floozy.  He dies.  Floozy gets the money. Sally is entitled to it, but has to file an action against Floozy and Harry’s estate to recover.  Once again, more legal fees and time.
4. My favorite (said with sarcasm): Harry and Sally divorce.  As part of the Property Settlement Agreement, Harry obtains a $500,000 policy, of which Sally is the beneficiary, so that she can have money to take care of their three young children.  I have always had two concerns with this approach.  First, if Sally doesn’t handle money well, there is no assurance that the funds will be used for the children.  Second, let’s assume Sally is a great money manager with impeccable integrity.  Several years after the divorce, she marries Bob.  Harry dies first and she receives $500,000 in cash. Sally subsequently dies while the children are still young or gets divorced from Bob.  Bob may get some or all of these funds, which is certainly not a desired result.  A trust for the benefit of the children would have been a better plan.

In short, upon divorce, it is imperative that one evaluate his or her estate plan.  Frankly, it should be done contemporaneously with the initiation of the divorce proceedings. In doing so, the manner in which life insurance is distributed will properly effect the intent of the insured in a pragmatic manner which conforms with his or her legal obligations.

Any individual, who aspires to practice estate planning or elder law, must be proficient in the areas of will drafting, trusts, and basic taxation. One of the fastest growing areas of litigation throughout the country is will contests. The primary reasons for this growth are: (1) the increase in our elderly population and (2) inadequate preparation of estate planning documents. The latter reason stems from the fact that many attorneys utilize a boilerplate approach to estate planning, believing that “one will fits all.” This problem is also found in the utilization of trust mils and computer programs.

Competent attorneys recognize that individual and financial factors must be evaluated prior to preparing a will. An evaluation of these factors will determine what clauses should be utilized in drafting a will, whether a living trust should be utilized as an alternative to a will, and the extent to which federal and state death taxes must be addressed. The focus of this article is on the proper recognition of estate planning issues and competent drafting of wills.

WILLS
The will is the centerpiece of estate planning. It provides for the legal transfer of assets upon an individual’s death, names an individual or entity to settle the probate estate, names a trustee to administer any testamentary trust established therein, and appoints a guardian for any minor or disabled children. However, it is not the only estate planning document nor does it dispose of all assets.

There are three basic estate planning documents: (1) a will, (2) an advance directive, and (3) a power of attorney. Due to the continued increase in the elderly population, as well as the commensurate growth in medical costs (most notably, nursing home costs), it is imperative to prepare all three documents for clients. Simply put, a will may have little value if an individual’s estate is dissipated by such expenses. A properly prepared advance directive and power of attorney can minimize the severity of these costs.

Moreover, it is imperative to recognize that a will does not necessarily dispose of the entirety of an individual’s estate. It only disposes of the probate estate, which primarily consists of assets owned by an individual in his or her sole name. Assets which are owned with a right of survivorship or beneficiary designation pass outside of a will. Thus, an attorney must evaluate the manner in which assets are held to ensure that the testamentary intentions of the client are met.

Intestacy
An individual who dies without a will subjects his or her estate to the laws regarding intestacy. Intestacy is a state’s statutory scheme governing the disposition of any estate and the direction of its administration absent a valid will. In many states, intestacy laws demonstrate the need for individuals to execute wills. For example, some states divide probate property between children and surviving spouse although there are very few wills that would ever be prepared with such a division. Whether or not an individual has children from a prior marriage or relationship will effect this division.

Disposition of Assets
A prerequisite of will or trust drafting is an understanding of how assets pass from an individual to his or her heirs. In general, property may pass from an individual in four ways during lifetime or at death:

(1) Lifetime Gifts – An individual may transfer, by gift, part or all of his or her property during lifetime. Gifts can be made for a variety of reasons, ranging from simple benevolence to a desire to minimize death taxes. Gifts can be made outright or into a trust.

From a basic standpoint, there are three forms of gifts. One form of gift is that which qualifies for the federal annual exclusion (currently $13,000 per year per donee). Pursuant to the Taxpayer Relief Act of 1997, this amount increases from the long-standing amount of $10,000, in increments of $1,000, as indexed for inflation, commencing retroactively from January 1, 1998. The second form of gift involves gifts in excess of the annual exclusion amount. Such gifts require either the payment of a tax, or a reduction in the exemption amount which can pass free from federal estate tax at an individual’s death. The first two forms involve gifts of present interests. The third form is the gift of a future interest, which can range from the transfer of a remainder interest in real property by a deed to a sophisticated tax planning trust, such as a Qualified Personal Residence in Trust (QPRT) or a Grantor Retained Annuity Trust (GRAT).

When gifts are made, a donor should be aware of the concepts of basis. Gifts, made during lifetime, will be accepted by the donee with the same basis as received by the donor. This particularly impacts gifts of stock and real property which are subject to capital gains taxation upon sale. If held until death, these assets receive a “step up” in basis so that the donee’s basis will be the value of the asset on the donor’s date of death.

(2) Joint Ownership
There are three forms of joint ownership: tenancy by the entirety, joint tenancy with right of survivorship, and tenancy in common. An interest in property, held as a tenancy in common, will pass through an individual’s probate estate. However, a tenancy by the entirety automatically passes to an individual’s spouse upon death. Likewise, a joint tenancy with a right of survivorship passes to a surviving interest holder upon the passing of the first interest holder.

(3) Contract Assets
By contract, two sets of assets do not pass through probate. One set involves assets which have beneficiary designations. These assets include retirement plans, individual retirement accounts, life insurance, and annuities. The second set involves assets which have designations for transfer upon death. These include pay on death (POD) and transfer on death (TOD) accounts.

(4) Probate Assets
Property, held in an individual name, shall pass into an individual’s probate estate upon death. Such property shall pass either through a valid will or, in the absence thereof, the laws of intestacy.

Statutory Basics
In order to prepare a will, an attorney must review the statutory requirements of the state in which the testator resides. These requirements will vary from state to state. In general, they will set forth a minimum age requirement for a testator (typically, eighteen years of age) as well as the number of witnesses required to ensure the validity of a typewritten will or to make same self-proving.

In some states, a holographic will is recognized. A holographic will is one which is written entirely in the hand of the testator and typically does not require witnesses. Some of the state limit the use of holographic wills such as restricting their acceptance to members of the armed services serving overseas. In many states that do accept holographic wills, a formal court proceeding must be held in order to determine if it will be admitted to probate.

In all states, a testator must have legal capacity to execute a will. Capacity is contextual; as such, the standard to execute a will varies from that to execute a contract or to be determined as incapacitated in a guardianship proceeding. In general, testamentary capacity is a four-prong test. The testator must know: (1) the objects of his affection (i.e. his beneficiaries), (2) the nature of his bounty (i.e. the type and extent of his holdings), (3) the document that he is executing (i.e. a will), and (4) the interrelation of the first three factors. In most states, there is a strong presumption to uphold wills. As such, the threshold to maintain testamentary capacity in will contests is typically slight.

Intake Information
Many wills are deficient because they are boilerplate in nature. A will cannot be properly drafted unless an attorney understands the personal background of the testator. This background will reveal whether or not special needs and circumstances exist, such as children from a previous marriage, disabled or mentally ill beneficiaries, or spendthrifts. Moreover, it is imprudent to draft an estate plan without knowing a testator’s financial background. This background will allow an attorney to ascertain whether there are non-probate assets and the extent they will affect a testator’s overall estate plan. In addition, this information is necessary to determine the potential effect of the federal estate tax and state inheritance taxes upon an individual’s death.

When gathering intake information, an attorney should acquire the following information:
– the full name and address of the client(s), as well as their date of birth, medical condition, and whether or not they are a United States citizen;
– the names, addresses, and ages of children and any other estate beneficiary;
– the names and addresses of any individual or entity which the client may wish to act in the capacity of executor, trustee, guardian, health care representative, and agent under a general durable power of attorney; and
– a complete list of the client’s assets and liabilities.

Naming Fiduciaries
There are three primary fiduciaries that can be named in a will. In every will, an executor is named. In some states, this role is referred to as the personal representative. The executor can be an individual or a corporate entity, or a combination of both. The role of an executor is to marshal the decedent’s assets, pay any liabilities lawfully assessed to the individual or his estate, and to distribute the net estate to the estate beneficiaries.

When the beneficiary is a trust, rather than an individual, a trustee should be appointed. A trustee administers and makes payments from a trust to the trust beneficiaries, which may be either individuals or charities, subject to the directions set forth in the will. Like an executor, a trustee may be either an individual or a corporate entity, or a combination of both.

When an individual has minor children, or has a disabled adult child, a guardian may be named. In the case of a minor child, the role of the guardian is to make personal and medical decisions on behalf of a decedent’s minor child until that child attains the age of majority. Many individuals mistakenly believe that the guardian has a financial role as well. This assumption is flawed. Funds for a minor child are managed in trust by a trustee. The client may decide whether or not the guardian or trustee be the same or different.

In the case of a disabled individual, a guardian is typically named as persuasive evidence to name an alternate guardian when a testator dies. Basically, when an individual becomes an adult, he or she is generally recognized as emancipated even if he or she is mentally incapacitated. Parents can become legal guardians upon application to the court system. In order to name a successor guardian, in the event of the parents’ death, a preference may be stated in the will.

A prudent attorney should distinguish between the aforementioned roles to his or her clients. Moreover, the attorney should discuss the need for a client to make wise choices. Many executors are chosen because of their age, gender and proximity to the decedent. Such selections are inappropriate as none detail the qualifications needed to fill the fiduciary role. An attorney must emphasize the need to appoint a qualified representative rather than merely asking for a name.

Types of Bequests
There are four types of bequests which may be made in a will: (1) specific bequests, (2) demonstrative bequests, (3) general bequests, and (4) residuary bequests.

Specific Bequests – Specific bequests are those that allocate a particular asset to a particular beneficiary. This bequest can include personal effects, jewelry, collectibles, automobiles, and real property, among other items. In many estates, with the exception of real property and liquid assets, such bequests may be made by a handwritten note or memorandum rather than in the will itself. In the general will, a clause should be used to dispose of personal effects not mentioned in any such note or memorandum. This clause should either provide for the disposal or sale of such property. If such property is to be divided among estate beneficiaries, such as children, such shares should be approximately divided subject to the discretion of the executor in the event of a disagreement over who shall take a particular item. This particular direction is important as it is virtually impossible to divide property equally.

Demonstrative Bequests – These bequests include precise distributions from or of a particular asset. Examples would include “100 shares of General Electric stock” or “$10,000 to be paid from my mutual fund at Salomon Smith Barney”. An attorney must be very careful to ascertain the intent of his client in the event this particular asset is sold or is subject to a change in name. When distributing stocks or funds, it is advisable to state that the bequest of the stock in a company shall survive in the event the company is acquired by another entity.

General Bequests – A general bequest is a precise dollar amount not designated from any asset. In making such a bequest, as well as a specific or demonstrative bequest, an attorney should evaluate the need to adjust this bequest should the value of an estate increase or decrease. For example, if a client is concerned that his or her assets may dissipate, the attorney can draft language tying in the bequest to a percentage of the estate as a limit. As such, if the size of the estate decreases substantially, the bequest can be adjusted downward as well. This drafting philosophy is important in protecting the distribution to the residuary beneficiaries who are typically the most important to the client.

Residuary Bequests – This bequest includes all property not disposed in the other three forms of bequests and usually represents the bulk of the estate.

Contingent Beneficiaries
In the event a beneficiary predeceases the client, direction must be given as to the disposition of property. As such, an attorney should note whether contingent beneficiaries will inherit or whether the bequest shall lapse.

Tax Allocation
As indicated throughout this writing, taxes are imposed upon an individual’s estate upon death. It is imperative that a will contain a clause which allocates the responsibility of taxes. The estate taxes – both federal and state – are generally considered the obligation of the testator and paid by his or her estate. In determining whether such taxes are to be assessed, both probate and non-probate assets are to be considered. However, the Internal Revenue Service initially looks to probate assets for payment of this tax as do the states for their levies. Thus, an attorney must calculate estimated tax when undertaking estate planning for a client and set forth the manner in which assets will be distributed from contract assets, assets with right of survivorship, and probate assets.

Many states impose an inheritance tax. Like the estate tax, it is a levy based on the value of both probate and non-probate assets. Unlike the estate tax, it is a levy on the beneficiary. As such, the taxes do not necessarily have to be paid from probate funds. In addition, the tax may be imposed upon each beneficiary’s share of the probate estate rather than from just the residuary.
Common Drafting Considerations

Many attorneys frequently utilize boilerplate documents which do not adequately discuss routine situations which may occur. For example, many wills only name one executor. In the event the executor predeceases the client, it is preferable to have a successor executor named. In addition to a spouse, two successor executors should be named. Likewise, at least one successor trustee and one successor guardian should be named when such roles are used.

Perhaps, the biggest area of concern involves the treatment of minors. Many testamentary documents state that the share of a minor is to be held in trust upon attaining an age such as eighteen (18) or twenty-one (21). In addition, such wills shall neglect to appoint a trustee. As indicated previously, a trustee should be appointed in this situation. Moreover, a sober analysis should be undertaken to determine the appropriate age for distribution. A prudent attorney should note that the age of majority does not necessarily equate with an age of maturity. On the other hand, principal may need to be distributed for health, education, maintenance, support, and other objectives of the client. In light of the foregoing, the attorney should note that distributions for the needs of a minor should be made, but that outright distributions of principal will be stayed until a more mature age such as thirty (30) or thirty-five (35).

Special Needs and Circumstances
When drafting a will, an attorney must recognize that individuals have different backgrounds. In an initial client interview, an attorney must determine whether the special needs or circumstances exist. These needs and circumstances include, but are not limited to:

(1) Disabled beneficiaries – Outright bequests to disabled beneficiaries may disqualify them from government benefits which they are receiving and may be mismanaged in the event the disability is mental. However, a special needs trust can be established to protect a bequest for a disabled beneficiary while maintaining his or her government benefits. This trust may be testamentary or it can be established as a stand-alone document.
(2) Spendthrifts – Occasionally, families have a child who has significant financial problems. This definition can vary from a child who merely lives paycheck to paycheck to one who is beset with judgments or bankruptcy. Individuals with mild problems can have their distributions staggered, but more serious cases warrant the use of a spendthrift trust. A spendthrift trust can provide support for a spendthrift. However, the trust assets will not be subject either to the claim of creditors or the poor habits of the spendthrift child.
(3) Second marriages – This issue arises far too often. In the case of a second marriage, where both spouses have children from a prior marriage, simple wills are ill-advised. If one spouse leaves the entire estate to the survivor, then the surviving spouse frequently will distribute most, if not all of the combined estate to his or her own children, leaving little or no assets for the family of the spouse who died first. A distribution in a trust, such as a Q-Tip Trust, can ensure that a surviving spouse will have economic protection yet allow for any remaining principal and interest to be distributed among the decedent’s family.
(4) Non-citizen spouses – non-citizen spouses do not qualify for the unlimited marital deduction. In order to accommodate the competing needs of such a spouse, who would like access to the decedent’s assets, and the Internal Revenue Service, which would like to tax any assets of a decedent in excess of the applicable exemption amount, a Q-DOT trust may be established to provide for access to funds by a non-citizen spouse until their death so long as there is an independent trustee and location of trust assets within the United States.

Any individual, who aspires to practice estate planning and elder law, must be proficient in the areas of will drafting and trusts, and basic taxation. Competent attorneys recognize that individual and financial factors must be evaluated prior to preparing a will or trust. An evaluation of these factors will determine what clauses should be utilized in drafting a will or trust, whether a living trust should be utilized as an alternative to a will, and the extent to which federal and state death taxes must be addressed.

This article shall focus on the basic elements of drafting for trusts in the context of estate and tax planning.

TRUSTS
Many types of trusts exist to assist an attorney in drafting an adequate estate plan for his or her clients. These trusts can be broken into three categories: (1) simple estate planning trusts, (2) tax planning trusts, and (3) public benefits planning trusts.

Simple Trusts
In general, there are two types of simple trusts. They are: (1) minors’ trusts and (2) revocable living trusts.

Minors’ Trusts – Many boilerplate wills provide that any minor have his or her distribution from an estate held in trust until attaining the age of eighteen (18) or twenty-one (21). This notion is unfortunate as many individuals are incapable of handling assets until a much more mature age. In addition, many of these boilerplate clauses do not provide for either a trustee or for maintaining the basic needs of a minor.

Any basic will should provide for an age requirement clause. This clause will state the requirement to hold any distribution in trust for a minor. It is frequently prudent to state that such distributions be held in trust until a particular age is reached, such as thirty (30) or thirty-five (35). Prior to attaining this age, the trustee can be given the power to make distributions of income and/or principal for a number of purposes, including: (1) the health, education, maintenance and support of a beneficiary, (2) assistance in making a down payment on a residence as well as closing costs for such a purchase, and (3) assistance with starting a business so long as the Trustee feels it is a worthwhile venture.

In the event a client has more than one minor or young adult child, the use of a sprinkle and share trust system should be implemented. A sprinkle trust directs that the entire estate be placed in one collective trust for all children, recognizing that the needs of young children should be addressed prior to unrestricted distributions. This trust will also recognize that different children have different activities and may require varying distributions from the estate. For example, parents typically will not adjust estate plans just because one child participated in soccer versus theater, or because one child went to an Ivy League school versus a state college.

When the youngest child attains a particular age, or completes college, the sprinkle trust is discontinued and the remaining principal and accrued income, if any, is separated into as many trusts as there are children. These trusts are known as share trusts. Subject to the exceptions set forth in the age requirement trusts, shares will be held in trust until an age at which the client feels his or her children will be financially responsible to receive an outright distribution.

Revocable Living Trusts
Revocable living trusts, for lack of a better term, are a substitute for a will. Their genesis was the response to the costs and delays of administering estates due to the probate laws of many states. Their primary purpose is to avoid probate. In essence, a living trust is established with similar dispositive provisions as a will and uses a trustee rather than an executor to administer the trust estate after the death or incapacity of the client. It is formally a contract between the client, who is known as the grantor (or in the alternative settler or trustor), and a trustee. In most instances, the client will be initial trustee so that he or she may manage their assets until death or incapacity. The client will name a series of successors to serve as trustee in response to either of those events.

In order for the trust to be effective, a client’s assets must be re-titled so that they are owned by the trust rather than by the client. Of course, this cannot occur with tax deferred investments such as 401ks and Individual Retirement Accounts (IRAs). Changing the ownership of these assets will precipitate an immediate tax obligation. As such, it is advisable to name individuals (or if necessary, the trust) as the beneficiary of such assets to maintain the avoidance of probate.

Tax Planning Trusts
A variety of trusts exist to minimize or eliminate federal estate tax. They include:
(1) Credit Shelter Trust – This trust is also known as an applicable exemption trust, a bypass trust, and a unified credit trust, among other titles. It is the most commonly used trust in representing married couples who possess estates in excess of the federal applicable exemption credit amount.

A federal tax is assessed upon an individual’s estate upon his or her death. This tax has varied over the years; however, it has ranged in progressive rates from 37% to 55%. In general, there are two exceptions to this tax. First, if the surviving spouse is aUnited   Statescitizen, no tax will be imposed due to the unlimited marital deduction. Second, distribution to any other class of individuals will be given a set monetary exemption, known as the applicable exemption amount.

Many estates are unnecessarily taxed when married couples, with significant net worth, utilize simple wills. These wills provide for outright distribution to a surviving spouse, then distribution to the children or other beneficiaries upon the survivor’s death. By utilizing this approach, one of the spouse’s applicable exemptions is wasted.

By using a credit shelter trust, the first spouse will leave his assets in trust for his spouse, allowing her to utilize same during her lifetime, but precluding such assets from being taxed when she dies. The trust must provide that the spouse have the right to the income generated off of the trust assets as well as any amount of principal to maintain the health, education, maintenance, and support of the surviving spouse. This latter right can be extended for the needs of the decedent’s children. In addition, the client can choose to include the right of the surviving spouse to invade 5% or $5,000 of the trust corpus, whichever amount is greater, on a non-cumulative annual basis without restriction as to how the funds are used. This right is commonly known as the “5 and 5 power”.

(2) Disclaimer Trust – An alternative to the credit shelter trust is the disclaimer trust. The disclaimer trust can provide the same tax benefits as the credit shelter trust, but it provides flexibility to the surviving spouse. Whereas the credit shelter trust is mandated upon the death of the first spouse, a disclaimer trust is an option for the surviving spouse who can decide whether to set up the trust or to take her spouse’s estate outright. In addition, if the disclaimer trust is elected, the spouse can decide to what extent it will be funded so as to allow for a combination of trust establishment and receipt of an outright bequest.

If a disclaimer trust is utilized, it provides for the right to income as well as health, education, maintenance, and support. However, it does not provide for the 5 and 5 power.

Traditionally, this trust was infrequently used as the benefits to a surviving spouse, under a credit shelter trust, were greater. However, in light of the increases in the exemption under the federal death tax structure, as well as new and/or increased death taxes from the states, this trust has become very attractive. It allows for greater flexibility in post-mortem planning which has become an important factor in light of the number of important changes to death tax laws over the past ten years.

(3) Irrevocable Life Insurance Trust. Life insurance can provide ready cash for estate taxes. However, life insurance is included in the policy owner’s estate. The majority of clients with life insurance policies designate the insured as the owner and the surviving spouse as beneficiary of the policy. Accordingly, the policy death benefit is included in the survivor’s estate. Some clients try to circumvent this problem by naming their children as both owners and beneficiaries of the policies. However, problems can arise if a child is beset with financial trouble or predeceases the parent. Furthermore, the surviving spouse would not have access to any of the life insurance proceeds.

In order to avoid these problems, yet still shield the life insurance proceeds from estate tax, an individual can transfer ownership of his or her policy or policies into an irrevocable trust. The trust becomes both the owner and the beneficiary of the policy. When the insured dies, the trustee collects the insurance proceeds on behalf of the trust and reinvests or distributes the money in accordance with the terms of the trust. The trust can remain in effect after death. Typically, the surviving spouse is given the right to income and principal during his or her lifetime. At the surviving spouse’s death, the remaining assets pass to the beneficiaries. Provisions can be made to continue the trust even after the surviving spouse’s death by establishing an age requirement for distribution. This maintains the assets beyond the reach of creditors and limits the beneficiaries’ ability to spend the proceeds immediately.

Although a life insurance trust saves estate taxes, it has certain drawbacks. For instance, the life insurance trust is irrevocable. The terms cannot be altered or amended once executed. Second, the previous owner of the policy must relinquish control over the insurance. That means that the insured cannot be the trustee.

(4) Qualified Personal Residence Trust. A qualified personal residence trust can be used to reduce estate taxes on a primary or secondary residence, or both. To establish a qualified personal residence trust, a homeowner must transfer title of a residence to a trust, the terms of which provide that the trust grantor retains the use of the residence for a specified period of years. Thereafter, the residence will pass to designated beneficiaries (usually the children). For a qualified personal residence trust to work, the person establishing the trust must outlive the term of the trust, or the residence will be included in that person’s estate.

During the trust term, so long as the trust is structured as a “grantor trust,” the grantor is entitled to the same income tax deductions as if he held the property individually. For instance, the grantor should be entitled to the income tax deduction for real estate taxes and mortgage interest, and he should be entitled to exempt up to $250,000 ($500,000 if married filing jointly) of gain upon the sale of the property.

If during the term of the trust the residence is sold and a new house is purchased for less, the sale proceeds must be otherwise invested in the new residence. If the entire proceeds from the sale of the old residence are not reinvested in the new residence within a certain period of time, the trust converts to an annuity trust for the benefit of the person establishing the trust for the remainder of the term of years specified. At the end of the trust term, the donor has to vacate the property or enter into a lease to pay rent at the market rate.

The trust establishes a means to leverage the applicable exemption amount and remove all future appreciation from the estate. Since the beneficiary of the trust does not receive the property immediately, the I.R.S. discounts the value and reduces the amount of the gift. The amount of the discount depends on the owner’s life expectancy, the terms of the trust, and the current interest rate. If the value of the property increases from the inception date of the trust, the appreciation is removed from the estate.

(5) Grantor Retained Annuity Trust – A Grantor Retained Annuity trust can be established to undertake with liquid assets the same function a Qualified Personal Residence Trust does for real property.

(6) Family Limited Partnership. A Family Limited Partnership can be an attractive method of shifting wealth to younger generation family members to reduce federal estate taxes. Transferring assets to a Family Limited Partnership permits older family members to retain management and control of assets while making tax-free gifts of equity in the asset to intended beneficiaries. Typically, assets that are placed into a Family Limited Partnership include stock in a family owned business, rental real estate, or liquid investments such as stocks and bonds. The partnership creates two classes of partners: general and limited. The general partner makes all decisions relating to the partnership, while the limited partner has no voice. In a typical Family Limited Partnership, the husband and wife are the general partners. In some partnerships, however, they are the limited partners. The children, grandchildren, or other family members can also be limited partners.

Each year, the parents may amend the partnership agreement to decrease the share of their limited partners’ interest and increase the share of the other family members. If the partnership is properly structured, the family can also obtain valuation discounts for having a minority interest and a lack of marketability. Since children are limited partners and the parent is the general partner, the children, initially, would not have any control over the partnership assets. In addition, a properly drafted partnership agreement would provide that the children could not dispose of their interest without first offering it to either the remaining partners or the partnership.

These restrictions placed upon the limited partners’ interest allow a discount to be taken for the value of the partnership interest transferred. Therefore, it may be possible to transfer an amount in excess of the annual exclusion gift amount to each of the beneficiary children without triggering any gift or estate tax consequences. Also, while maintaining control of the assets, the general partners are removing the partnership assets from their estates.

(7) Charitable Remainder Trust. Individuals with assets that have a low cost basis should consider gifting to charity. Due to its nonprofit status, the charity would then be able to sell the assets without paying any capital gains tax. Out of the proceeds, the charity would then pay the trust grantor an income stream based on a market rate of interest for the full value of assets which were initially transferred.

The charitable remainder trust setup routinely reduces income taxes for clients because they receive a substantial charitable gift income tax deduction which can be spread over five years. Furthermore, the value of the property that will pass to charity will be excluded from the trust client’s estate.

Because with this planning technique, the donated assets will not be distributed to children, it is recommended that a life insurance policy be used to replace the value of the investment. The insurance policy should be of an amount at least equal to the value of the transferred assets. Premiums may be paid out of the income stream from the charity. Moreover, the value of the life insurance policy can be excluded from the estate as well through an irrevocable life insurance trust.

Public Benefits Trusts
There are a range of trusts available to assist individuals who require Medicaid planning. The rules regarding these trusts have changed substantially over the past decade and many state Medicaid offices seek to challenge such trusts on a regular basis. At this time, the most significant Medicaid planning trusts are: (1) under 65 disability trusts, (2) pooled trusts,
(3) real estate preservation trusts and (4) “sole benefit of” trusts.

Without question, the discussion of these trusts is beyond the scope of this introductory article. However, the need for public benefits planning must be recognized by attorneys who represent elderly or disabled clients and their families.