Planning your estate around specific assets is risky and, in most cases, should be avoided. If you leave specific assets — such as homes, cars or stock — to specific people, you may inadvertently disinherit them.
Illustrating the problem
Let’s say Debbie has three children — Abbie, Mary Kate and Lizzie — and wishes to treat them equally in her estate plan. In her will, Debbie leaves a $500,000 mutual fund to Abbie and her home valued at $500,000 to Mary Kate. She also names Lizzie as beneficiary of a $500,000 life insurance policy.
When Debbie dies years later, the mutual fund balance has grown to $750,000. In addition, she had sold the home for $750,000, invested the proceeds in the mutual fund and allowed the life insurance policy to lapse. But she neglected to revise her will. The result? Abbie receives the mutual fund, with a balance of $1.5 million, and Mary Kate and Lizzie are disinherited.
Even if Debbie continued to own the home, it could have declined in value after she drafted her will (rather than increased), leaving Mary Kate with less than her sisters.
Avoiding this outcome
It’s generally preferable to divide your estate based on dollar values or percentages rather than specific assets. Debbie, for example, could have placed the mutual fund, home and insurance policy in a trust and divided the value of the trust equally between her three children.
If it’s important to you that specific assets go to specific heirs — for example, because you want your oldest child to receive the family home or you want your family business to go to a child who works for the company — there are planning techniques you can use to avoid undesired consequences. For example, your trust might provide for your assets to be divided equally but also provide for your children to receive specific assets at fair market value as part of their shares. If you have questions regarding the division of your assets to your heirs, contact us. We can review your plan and address your concerns. 205-345-9898 and firstname.lastname@example.org.
© 2019 CovenantCPA
Life presents us with many choices: paper or plastic, chocolate or vanilla, regular or decaf. For businesses, a common conundrum is buy or lease. You’ve probably faced this decision when considering office space or a location for your company’s production facilities. But the buy vs. lease quandary also comes into play with equipment.
Pride of ownership
Some business owners approach buying equipment like purchasing a car: “It’s mine; I’m committed to it and I’m going to do everything I can to familiarize myself with this asset and keep it in tip-top shape.” Yes, pride of ownership is still a thing.
If this is your philosophy, work to pass along that pride to employees. When you get staff members to buy in to the idea that this is your equipment and the success of the company depends on using and maintaining each asset properly, the business can obtain a great deal of long-term value from assets that are bought and paid for.
Of course, no “buy vs. lease” discussion is complete without mentioning taxes. The Tax Cuts and Jobs Act dramatically enhanced Section 179 expensing and first-year bonus depreciation for asset purchases. In fact, many businesses may be able to write off the full cost of most equipment in the year it’s purchased. On the downside, you’ll take a cash flow hit when buying an asset, and the tax benefits may be mitigated somewhat if you finance.
Fine things about flexibility
Many businesses lease their equipment for one simple reason: flexibility. From a cash flow perspective, you’re not laying down a major purchase amount or even a substantial down payment in most cases. And you’re not committed to an asset for an indefinite period — if you don’t like it, at least there’s an end date in sight.
Leasing also may be the better option if your company uses technologically advanced equipment that will get outdated relatively quickly. Think about the future of your business, too. If you’re planning to explore an expansion, merger or business transformation, you may be better off leasing equipment so you’ll have the flexibility to adapt it to your changing circumstances.
Last, leasing does have some tax breaks. Lease payments generally are tax deductible as “ordinary and necessary” business expenses, though annual deduction limits may apply.
Pros and cons
On a parting note, if you do lease assets this year and your company follows Generally Accepted Accounting Principles (GAAP), new accounting rules for leases take effect in 2020 for calendar-year private companies. Contact us for further information, as well as for any assistance you might need in weighing the pros and cons of buying vs. leasing business equipment. 205-345-9898, email@example.com.
© 2019 CovenantCPA
Protecting assets from creditors is a critical aspect of estate planning, but you need to think about more than just your own creditors: You also need to consider your heirs’ creditors. Adding spendthrift language to a trust benefiting your heirs can help safeguard assets.
Spendthrift language explained
Despite its name, the purpose of a spendthrift trust isn’t just to protect profligate heirs from themselves. Although that’s one use for this trust type, even the most financially responsible heirs can be exposed to frivolous lawsuits, dishonest business partners or unscrupulous creditors. A properly designed spendthrift trust can protect assets against such attacks.
It can also protect your loved ones in the event of relationship changes. If one of your children divorces, your child’s spouse generally can’t claim a share of the trust property in the divorce settlement.
Also, if your child predeceases his or her spouse, the spouse generally is entitled by law to a significant portion of your child’s estate, including property you left the child outright. In some cases, that may be a desirable outcome. But in others, such as second marriages when there are children from a prior marriage, a spendthrift trust can prevent your child’s inheritance from ending up in the hands of his or her spouse rather than in those of your grandchildren.
A variety of trusts can be spendthrift trusts. It’s just a matter of including a spendthrift clause, which restricts a beneficiary’s ability to assign or transfer his or her interest in the trust and restricts the rights of creditors to reach the trust assets.
It’s important to recognize that the protection offered by a spendthrift trust isn’t absolute. Depending on applicable law, it may be possible for government agencies to reach the trust assets — to satisfy a tax obligation, for example.
Generally, the more discretion you give the trustee over distributions from the trust, the greater the protection against creditors’ claims. If the trust requires the trustee to make distributions for a beneficiary’s support, for example, a court may rule that a creditor can reach the trust assets to satisfy support-related debts. For increased protection, it’s preferable to give the trustee full discretion over whether and when to make distributions.
Protect wealth after transfer
Protecting your wealth after you’ve transferred it to your family is just as important as other estate planning strategies such as reducing tax liability on the transfer. One way to do this is to include spendthrift language in a trust. Contact us to learn whether a spendthrift trust is right for your estate plan at 205-345-9898 or firstname.lastname@example.org.
© 2019 CovenantCPA
No matter how much effort you’ve invested in designing your estate plan, your will, trusts and other official documents may not be enough. Consider creating a “road map” — an informal letter or other document that guides your family in understanding and executing your plan and ensuring that your wishes are carried out.
Navigating your world
Your road map should include, among other things:
- A list of important contacts, including your estate planning attorney, accountant, insurance agent and financial advisors,
- The location of your will, living and other trusts, tax returns and records, powers of attorney, insurance policies, deeds, stock certificates, automobile titles, and other important documents,
- A personal financial statement that lists stocks, bonds, real estate, bank accounts, retirement plans, vehicles and other assets, as well as information about mortgages, credit cards, and other debts,
- An inventory of digital assets — such as email accounts, online bank and brokerage accounts, online photo galleries, digital music and book collections, and social media accounts — including login credentials or a description of arrangements made to provide your representative with access,
- Computer passwords and home security system codes,
- Safe combinations and the location of any safety deposit boxes and keys,
- The location of family heirlooms or other valuable personal property, and
- Information about funeral arrangements or burial wishes.
Laying out your intentions
Your road map can also be a good place to explain to loved ones the reasoning behind certain estate planning decisions. Perhaps you’re distributing your assets unequally, distributing specific assets to specific heirs or placing certain restrictions on an heir’s entitlement to trust distributions. There are many good reasons for these strategies, but it’s important for your family to understand your motives to help avoid hurt feelings or disputes.
Finally, like other estate planning documents, your road map won’t be effective unless your family knows where to find it, so it’s a good idea to leave it with a trusted advisor (and consider giving copies to other trusted parties). Please contact us if you’d like help drafting your road map. 205-345-9898 or email@example.com.
© 2019 CovenantCPA
The right estate planning strategy for you likely is the one that will produce the greatest tax savings for your family. Unfortunately, there can be tension between strategies that save estate tax and ones that save income tax. This is especially true now that the Tax Cuts and Jobs Act nearly doubled the gift and estate tax exemption — but only temporarily. Through 2025, income tax might be a greater concern, but, after that, estate taxes might be a bigger issue.
Fortunately, it’s possible to build an “on-off switch” into your estate plan.
Why the conflict?
Generally, the best way to minimize estate taxes is to remove assets from your estate as early as possible (through outright gifts or gifts in trust) so that all future appreciation in value escapes estate tax. But these lifetime gifts can increase income taxes for the recipients of appreciated assets. That’s because assets you transfer by gift retain your tax basis, potentially resulting in a significant capital gains tax bill should your beneficiaries sell them.
Assets held for life, on the other hand, receive a stepped-up basis equal to their fair market value on the date of death. This provides an income tax advantage: Your beneficiaries can turn around and sell the assets with little or no capital gains tax liability.
Until relatively recently, estate planning strategies focused on minimizing estate taxes, with little regard for income taxes. Why? Historically, the highest marginal estate tax rate was significantly higher than the highest marginal income tax rate, and the estate tax exemption amount was relatively small. So, in most cases, the potential estate tax savings far outweighed any potential income tax liability.
Today, the stakes have changed. The highest marginal estate and income tax rates aren’t too different (40% and 37%, respectively). And, the gift and estate tax exemption has climbed to $11.40 million for 2019, meaning fewer taxpayers need to be concerned about estate taxes, at least for now.
Flipping the switch
With a carefully designed trust, you can remove assets from your taxable estate while giving the trustee the ability to direct the assets back into your estate should that prove to be the better tax strategy in the future. There are different techniques for accomplishing this, but typically it involves establishing an irrevocable trust over which you retain no control (including the right to replace the trustee) and giving the trustee complete discretion over distributions. This removes the assets from your taxable estate.
If it becomes desirable to include the trust assets in your estate because income taxes are a bigger concern, the trustee can accomplish this by, for example, naming you as successor trustee or granting you a power of appointment over the trust assets.
Of course, irrevocable trusts also have their downsides. Contact us to discuss what estate planning strategies make the most sense for you. Call us at 205-345-9898 or email us at firstname.lastname@example.org.
© 2019 Covenant CPA
A revocable trust — often referred to as a “living trust” — can help ensure smooth management of your assets during life and avoid probate at death. And you may know that the trust isn’t effective unless you “fund” it — that is, transfer ownership of your assets to the trust.
But what about assets such as automobiles and other vehicles? Should you transfer them to your revocable trust?
Navigate potential bumps in the road
If you still owe money on an auto loan, the lender may not allow you to transfer the title to the trust. But even if you own the vehicle outright (whether you paid cash for it or your loan is paid off), there are risks to consider before you make such a transfer.
As owner of the vehicle, the trust will be responsible in the event the vehicle is involved in an accident, exposing other trust assets to liability claims that aren’t covered by insurance. So you need to name the trust as an insured party on your liability insurance policy.
On the other hand, because you’re personally liable either way, owning a vehicle through your revocable trust may not be a big concern during your life.
But after your death, when the trust becomes irrevocable, an accident involving a trust-owned vehicle can place the other trust assets at risk. Keeping a vehicle out of the trust eliminates this risk. The downside, of course, is that the vehicle may be subject to probate, although some states offer streamlined procedures for transferring certain vehicles to heirs.
Steer your questions to us
If you’re considering transferring an automobile or other vehicle to your revocable trust, get in touch with us. We’d be pleased to explain the ins and outs of such a move, call us at 205-345-9898.
© 2019 Covenant CPA
If you or one of your adult children is getting married, you may be concerned about protecting your family’s assets in the event of a divorce. A prenuptial agreement can be an effective tool for overriding marital property rights and keeping assets in the family. But these agreements have disadvantages. For many families, a better alternative is a domestic asset protection trust (DAPT).
Why assets need protection
The laws regarding division of property in divorce are complex and vary dramatically from state to state. In general, however, spouses retain their “separate property,” which includes property they owned before marriage as well as property received by gift or inheritance during marriage.
Marital property, which is subject to division in divorce, generally includes all property acquired during marriage, regardless of how it’s titled. Depending on applicable state law, marital property may even include the appreciation in value of separate property (including the other spouse’s business) during marriage.
In light of these risks, it may be advisable to take additional steps to protect separate property from potential loss in the event of divorce.
The emotional issues involved can make putting a prenup in place difficult. In addition, the requirements for an enforceable prenup make it vulnerable to attack in connection with a divorce. For example, a prenup may be unenforceable if one spouse can show that:
- The agreement was signed under duress,
- He or she didn’t have independent legal counsel,
- The agreement was unconscionable when signed, or
- The other spouse didn’t provide full financial disclosure.
Even if you dot all the i’s and cross all the t’s, there’s a risk that the other spouse will challenge the agreement, which can be costly and time consuming.
Benefits of an asset protection trust
A DAPT can solve many of the problems associated with a prenup. In particular, it eliminates the emotional component, because there’s no need to obtain the consent of, or even inform, the future spouse. Provided the DAPT holds legal title to assets — and an independent trustee has discretionary control over distributions — it generally will be difficult for a divorcing spouse to reach those assets.
A DAPT is an irrevocable, spendthrift trust established in one of the 15 or so states that authorize them. What distinguishes DAPTs from other types of trusts is that, in addition to offering gift and estate tax benefits, they provide creditor protection even if the grantor is a discretionary beneficiary.
DAPT protection varies from state to state, so it’s important to shop around. Ideally, you should look for a jurisdiction that provides grantors with the greatest degree of control over trust investments and protects trust assets from a broad range of creditors, including divorcing spouses.
To take advantage of this strategy, it’s critical to transfer assets to the DAPT well before marriage. Otherwise, the transfer may be deemed fraudulent. Contact us for additional information at 205-345-9898.
© 2018 Covenant CPA