Hawaii Estate Planning Blog

What is a Generation-Skipping Trust?

If you want to scare the you-know-what out of your grownup kids, casually let them know that you are talking with your lawyer about leaving your assets to your descendants in "generation-skipping trusts."  The name implies that somebody is going to be skipped when it comes time to distribute your stuff after you are gone, but "somebody" may only be the IRS, along with your descendants' creditors and ex-spouses.

Of course, if you want to, you can snub your kids and leave everything to their kids, but that is not usually how a generation-skipping trust ("GST") works.  More typically, the GST agreement will name your children as beneficiaries, but not include a requirement that everything be distributed to your children.  For tax and asset protection purposes, it can make a great deal of sense to have your trust agreement give your successor trustee the discretion to make (or not make) distributions to your children and their descendants, and have the trust last as long as the law of your State (or the State in which the trust is created) will allow.  As long as the trustee is not a beneficiary or close relative or employee of a beneficiary, your descendants' creditors and ex-spouses will generally not be able to get their hands on any trust assets.

If you like, you can split your estate into as many GSTs as you have children, and then give each of your children the power to remove and replace the trustee of his or her GST.  That way, each child controls his/her trust during his/her lifetime.  You can also give each child the power (called a "power of appointment") to say where any remaining trust assets go after the child's death.  The default in the trust agreement might be that the assets continue in a trust or several trusts for the child's children, but the power of appointment could give each child the power to change the percentages going to the grandkids and even add stipulations to how and under what circumstances distributions will be made to the grandkids.

If you do all of the above in the right way, you can be pretty sure that the IRS will not get its estate tax hooks into your assets for a very long time after you are gone.  As long as the trust produces income, there will probably be income tax to pay, but payment of estate tax can be entirely avoided.

One of the best estate planning rules is that you can, within certain limits, write your own rules when it comes to your estate plan.  Talk with your trusted advisors about the kind of rule book that will best carry out your wishes for your estate.

WHERE NOT TO DIE IN 2013

Now that 2013 is underway, there are finally some solid numbers from which to base your tax planning – at least from a federal tax standpoint. But what about those state taxes? If you reside in one of 22 jurisdictions that assess an independent inheritance or estate tax, it’s time to start paying attention to your state’s tax changes.

Forbes recently provided some helpful information in an article bluntly titled “Where Not To Die in 2013.”

There always are myriad state level taxes to consider. However, here’s the rub: several states may tax one estate.  For example, the family of the Seattle resident who spent summers in his Waikiki condo could have to face estate tax liability in both Washington and Hawaii, in addition to Federal level taxes. Twenty-two jurisdictions (including the District of Columbia) exact some form of taxation. The tax laws of many of those jurisdictions were not written with the current federal taxation limits in mind, because those have only been on the books since the beginning of the year.

The good news is that Hawaii tries to match the Federal Coupon amount (i.e., the amount that can be passed free of estate tax), and that amount is currently $5.25 million.  This means that estates of no more than $5.25 million ($10.5 million for couples who plan carefully to use both of their Coupons) can pass estate tax-free.  The bad news is that the Hawaii estate tax on the excess over $5.25 million is 16%--which is imposed on top of the 40% Federal estate tax.  Federal law does allow a deduction for State estate taxes paid (within limits), and this brings the overall tax bite down to about 50%.

So what states are the worst for 2013? It’s worth clicking over to the original article and map on Forbes.

Reference: Forbes (January 28, 2013) “Where Not To Die in 2013”

What about using trusts to avoid probate?

The most effective probate-avoidance vehicle is the living trust.

A trust is the legal relationship that is created when a person transfers "stuff" to a trustee with the understanding that the trustee will manage it for the benefit of one or more beneficiaries.  "Stuff" includes both real property—such as land and buildings—and personal property—such as bank accounts, stocks and bonds, and personal effects.  The person who transfers the stuff to the trustee is called a trustmaker.  This person is also known as a settlor, grantor, or trustor.  Usually, the trustmaker is also the trustee (or perhaps co-trustee) and the initial beneficiary of the trust. 

For a variety of reasons, a married couple will usually want to create two revocable living trusts instead of just one.  It is not uncommon for husbands and wives to be the co-trustees of both of their trusts during their joint lifetimes, and then, after the death of one spouse, to have the survivor serve either as sole trustee or co-trustee with one or more other individuals or a trust company.

A trust is controlled by a document called the trust agreement (sometimes called the trust instrument).  The trust agreement sets out the rules about how the trust will be run.  If the trust agreement says that the trustmaker can revoke it or change it, the trust is what we call a revocable trust.  If the trust agreement does not allow the trustmaker to change or revoke it, we have what is called an irrevocable trust.  

Irrevocable trusts can be powerful estate planning tools.  They allow trustmakers to make gifts but keep the recipients from having complete control over the gifted assets.  Irrevocable trusts play an important part in many estate plans.  They can help provide tax savings, creditor protection, and expert management of assets.

A living trust is one that you create and fund (transfer stuff into) during your lifetime.  It can be revocable or irrevocable, depending on how much control you want to maintain over the trust and its assets.  A revocable trust gives you complete control, whereas an irrevocable trust gives you limited or no control.  A testamentary trust is one that goes into effect and is funded following your death because it is governed by your last will and testament.  Testamentary trusts do not avoid probate, and they are rarely used in contemporary estate plans.

When Environmental Laws and Tax Laws Collide

U-T San Diego reports the Catch-22 of the decade.  The inheritors of an art collection are stuck with a piece that includes the stuffed carcass of a bald eagle.  Because the bald eagle is a protected species, it would be a felony for the inheritors to sell the piece.  The inheritors' position is that a piece that cannot be sold has no "fair market value," and therefore no estate tax value.   The IRS, on the other hand, is saying that the piece is worth $65 million and that the tax due on the piece is about $29.2 million.

The resolution of this case could have far-reaching implications because the name of the game in estate tax planning is valuation.  Taxpayers want low values, while the IRS wants high values.  We will stay tuned to how this one turns out.

New Hawaii Law Gives Tenancy by the Entirety Protection to Trusts

This may be a good time to review your estate plan with your attorney.  Hawaii recently enacted a new law effective July 1, 2012, extending tenancy by the entirety protection to transfers of real property to trusts.  This new law is applicable to spouses, reciprocal beneficiaries, and civil union partners.

Do you know how you hold title to your real property?  Hopefully when you and your spouse/partner purchased your new home, you took title as tenants by the entirety.  For a long time, Hawaii law has afforded you special protections if you did.  It is possible as spouses/partners you hold title to your property other than as tenants by the entirety.  The only way to be certain is to review the deed, which indicates how title is held.   Tenancy by the entirety is the only kind of title-holding device that provides special protections.

Among the characteristics of property owned in tenancy by the entirety are:  one owner, acting alone, cannot convey any interest in the property (in other words, both spouses/partners have to sign a deed in order to transfer the property to someone else); the property automatically passes to the surviving spouse/partner upon the death of the first to die; and the creditors of one spouse/partner cannot reach tenancy by the entirety property. 

Prior to the enactment of the new law, if spouses held property as tenants by the entirety and then transferred their property to their respective revocable living trusts (which is a very common estate planning strategy), they may have lost the creditor protection afforded by the tenancy by the entirety.    If one spouse/partner were to have a car accident or a business setback or otherwise incurred substantial debt, the formerly tenancy by the entirety property in that person’s trust might have been subject to creditors’ claims.  This result can now be avoided by including special wording in your trust agreements and in the deeds transferring real property into your trusts.  If you transferred tenancy by the entirety  property into your trusts prior to July 1, 2012, or if that special wording was not included in your trust agreements and deeds, you might want to revisit the question of how to make sure your property is protected by tenancy by the entirety.

The new law is an important reminder that laws change from time to time, and that your estate plan must be reviewed and updated periodically in order for it to work as intended for the best interests of yourself and your loved ones.

NOTE: My Maui associate, Roya Deyhim, co-authored this with me.

BABYSITTER’S INSTRUCTIONS FOR YOUR DATE WITH DESTINY

Imagine sitting down to write out the instructions for your babysitter.  You and your spouse are going to have a lovely evening out, but you don’t want to be out of touch in case an important question comes up (is it  true that the 8 p.m. bedtime rule is really more of a guideline?) or an emergency situation arises.  So you jot down detailed instructions for every detail and likely eventuality you can imagine, and then you add your cell phone number, your pediatrician’s phone number, your neighbors’ phone numbers, and the phone numbers of the restaurant and movie theater where you can be found if you don’t answer your cell phone.  You breathe a sigh of relief as you ease out of your driveway, but between home and the restaurant, you think of 101 more scenarios that are not covered in your 8 pages of notes.  Somehow, you and your little ones make it through the evening, but you hold on to the babysitter’s instructions so you can add to them the next time you will be “enjoying” an evening out.

Now imagine that same nerve-wracking exercise, but with a twist.  This time, you won’t be coming home.  Instead of a date with your spouse, this is your date with destiny.  What if neither you nor your spouse come home from this date?  Your instructions will have to cover a great deal more territory, including such things as naming your children’s replacement parents will be, and whether you will want the “replacements” to move into your home or take your children into theirs.

If you are leaving your children with friends or relatives while you and your spouse are out of town for a few days, other considerations come into play.  You might want to consider giving your children’s caretakers your power of attorney and authorization to consent to medical treatment.  If you will be out of town for an extended period of time, you might want your power of attorney to include authorization to enroll your child in school, speak to your child’s teachers, and consent to your child’s participation in excursions and other school functions. 

If you have minor children, or if you have grown up children who could benefit from a little adult supervision over their inheritances, your estate plan may (and should) resemble babysitters’ instructions on steroids.  That is precisely where the wise counsel of trained advisors can ease you through the process of developing a set of rules and instructions that will make life easier on your loved ones on that one occasion when you don’t come home as expected.

For more estate planning insights, go to www.est8planning.com.

 

Trust in the Lord…But Check Out the Church

The online version of The Wall Street Journal features a very helpful article about being wise about charitable contributions to churches.

The main points are:

• Be a Doubting Thomas:  look into the organizations to which you plan to contribute, and ask questions about how they manage and spend the money they receive.
• Provide for Family:  make sure you are not putting yourself in jeopardy by giving so generously that you lose the ability to provide for yourself and your family.
• Do Good:  look into ways to make charitable gifts that don't cost you anything.  The options here range from volunteering your time to including charitable beneficiaries in your estate plan.  

Check here for more information about charitable planning.

"Be Giving While You're Living so You're Knowing Where it's Going"

Kingdom Advisors founder Ron Blue takes and interesting approach to estate planning.  He advocates lifetime giving as a way to assure that the objects of your bounty are worthy recipients of your wealth.  This could play out a couple of different ways.

As Blue points out, there are three places your "stuff" can go after you die.  To the government, attorneys, and other professional advisors by way of taxes and administration expenses; to your loved ones; or to charity.  A good estate plan will minimize the amount that is bled away in the first category.  A really good estate plan will help to make sure that your intentions regarding your loved ones and your favorite charities are carried out as well.

Giving assets outright to your loved ones is a way to give them full control over and responsibility for those assets.  However, one of your intended beneficiaries could easily lose his or her inheritance as a result of a divorce, car accident, or bad business deal.  And this could happen due to no personal fault of your beneficiary.  For this reason, many estate plans include ongoing trusts that allow the beneficiaries to have as much control as they are able to handle, while at the same time insulating the trust assets from creditors and predators who might try to take those assets away.

The thing about leaving assets to your loved ones after you are gone is that you will have no idea how each loved one will handle his or her inheritance.  Your best guess during your lifetime could turn out to be wrong.  So what about making gifts during your lifetime that will enable you to see how your intended beneficiaries handle their new-found wealth?  This could be a great way to "test drive" your estate plan and determine how well it works while you are still able to make adjustments to it.  If one beneficiary turns out to be a poor steward of your wealth, you can always redirect assets in your final estate plan to other beneficiaries, or provide greater restrictions on a spendthrift beneficiary's control over your wealth.

The same principles apply to charitable gifts.  Your favorite charity could turn out to be a poor manager of donated assets.  It would be far better to find that out during your lifetime than to leave your loved ones regretting your philanthropic choices.  If a charity does what you hope it will do with your gift, you can add to it upon your death.  Not only that, but your gift may have far greater impact the earlier you make it.  If, for example, you want to provide funding for scholarships so underprivileged children can go to college, the sooner you make your gift, the sooner a scholarship recipient will graduate from college, get launched in a career, and turn around and "pay it forward," as you have done.

As Ron Blue would say, you should consider "giving while you're living so you're knowing where it's going."  Sound advice for anyone who prefers to test the water before diving in head first.

The Importance of Having Your Own Rulebook

There are all kinds of rules that apply to your estate plan.  Rules about taxes, about who can be written out of your estate plan, about assuring that the things you leave behind will end up in the hands of your chosen beneficiaries, and even default rules about what will happen if you do not document your estate plan.  Perhaps the most important rule to keep in mind is that, to a very great extent, you get to write the rules about what will happen to you and to your assets if you ever lose the ability to make decisions—either because of incapacity or death.  Your estate plan is your personal rulebook to cover those eventualities.  Designing your rulebook might be one of the most important things you do during your lifetime. 

This is a true factual scenario that could have been avoided by the right rulebook:  Mom died without a Will, survived by Daughter, who was an only child.  The applicable default rules provided that Daughter was Mom’s sole heir.  Daughter died 35 days later, also without a Will.  Daughter had no kids or spouse, which meant that her sole heir was Dad, who had divorced Mom and married Mistress 44 years earlier.  Dad died without a Will two weeks before the distribution from Daughter’s estate, leaving Mistress as his sole heir.  The end result is that Mom’s entire estate went to the woman with whom her husband had cheated 45 years earlier.  That whirring sound you hear may very well be Mom turning over in her grave.  By not having a very simple rulebook in place, Mom allowed her estate to go to the last person she would have wanted to receive it.  Mom could have easily avoided this result by signing a Will that left everything to Daughter, provided Daughter outlived her by more than 60 days.  If not, then Mom's Will would leave everything to Mom’s Favorite Charity.  Mom could easily have planned for that kind of certainty rather than leaving her assets to a very unfortunate (from Mom's standpoint) destiny.

In addition to a Will, most of us would be well-advised to have in place an advance health-care directive (AHCD), a HIPAA authorization, and a durable power of attorney (DPA).  The AHCD and HIPAA authorization allow your hand-picked substitute decision makers to talk with your physicians and make health-care decisions for you (including end of life decisions) if you are unable to communicate your own wishes.  The DPA allows your hand-picked substitute decision makers to deal with your bank accounts and other assets in the event that you are incapacitated and unable to pay your own bills.

Depending on your circumstances, your rulebook may include other documents as well, such as one or more trust agreements.  Having a well thought out rulebook is one way to rest assured that your wishes will be followed when you are no longer to express them yourself.  It may be an opportunity that you can't afford to pass up.

 

Best Picture Nominee "The Descendants" is Full of Estate Planning Nuggets

If you have not yet seen Best Picture nominee "The Descendants," you should.  It is visually beautiful (set in Hawaii, what could be more beautiful than that?), very well scripted and acted, and full of life lessons--some of which relate directly to estate planning.  It also draws heavily on local talent, and it was fun to see various friends' faces on the screen, as well as well as other friend's names in the credits (including my favorite law school professor and personal hero, Randall Roth).

This recent Forbes article by Deborah L. Jacobs outlines the following lessons from "The Descendants":

• Unearned wealth causes conflicts.  I don't completely agree with the author's point here.  In my experience, wealth doesn't cause the conflicts; conflicts arise out of the character of the recipients and the underlying tensions between them.  When fights break out over estates, there are usually deeper issues than just the money.  This does not mean that unearned wealth, if left unsupervised, cannot end up being a bigger curse than a blessing.  Some beneficiaries, by virtue of having developed bad habits and bad relationships, can be ruined by sudden wealth.  There are many ways to protect against these kinds of problems, as long as you anticipate them and put appropriate measures in place.
• Express your final wishes.  This point is self-evident, but a shocking number of people (including lawyers) do not have written estate plans, and many people who have written plans have not updated them in years.  An outdated estate plan can be worse than no plan at all.  Remember that as things like your health, your assets, your family situation, and your philosophy of life change, your estate plan needs to change too.
• There are limits to how long a trust can last.  Well, yes and no.  Traditional trusts are subject to an arcane precept called the Rule Against Perpetuities, and that rule plays a role in the plot of the "The Descendants."  However, the laws of many States (including the Aloha State) allow you to create so-called Dynasty Trusts that are not subject to the Rule Against Perpetuities.  When setting up a perpetual trust, however, you need to consider to what extent you want to dump money on people you will never meet.  You can see how your good intentions could be wasted.
• Joint ownership of land can be “a train wreck.”  No arguments on this point.  Undivided interests in land can turn out to be a nightmare, particularly as those interests become fractionalized among distant family members.  This is a huge problem in families that, for several generations, have not observed the niceties of probate and orderly title transfers.  Individual family members end up owning smaller and smaller pieces of the pie until none of them is willing to pay the semi-annual real property tax bill on the land.  At that point, the county can step in and auction the land to third parties, and the family's legacy is lost.
• Long-term trusts pose special challenges.  This is a variation on the theme of Dynasty Trusts, discussed above.  It is hard to anticipate how your distant descendants will handle the wealth you set aside for them, and it is hard for them to know and carry out your subjective wishes, even if they sincerely want to do that.
• A trustee must be objective.  Being a trustee can be one of the hardest, most thankless jobs on the planet.  The law holds trustees to a very high standard of conduct, and an honest mis-step can possibly cause a trustee to have pay for any resulting damages out of the trustee's own pocket.  Picking your successor trustee is one of the most important things you will do when you formalize your estate plan.  Just remember that the primary qualifications are unquestionable honesty and a sincere willingness to read your written instructions and follow them.  A trustee who possesses those two qualities will probably do an outstanding job of carrying out your wishes and satisfying the requirements of the law.

Even if none of these lessons applies to you, "The Descendants" is an entertaining movie, though not suitable for the kiddies.  It is rated R for a reason.  It depicts heart-wrenching adult themes and streams of picturesque profanity that you might not want to have to try to explain to your six-year old.  

Check here for information about how a well-drafted estate plan benefit you and your loved ones.