The federal estate tax exemption of $5,250,000 per person means that for someone who passes away with assets below this amount, no estate taxes are due. Beneficiaries inherit everything tax-free. A couple can double this amount to make the first $10,500,000 estate tax-free. For 99+% of Americans, estate taxes are largely a thing of the past.
Unfortunately, the same is not true for probate which conversely will affect 99+% of us. If you pass away with assets totaling a mere $20,000 titled in your name with no beneficiary designation, your estate will land very solidly in probate court.
Probate is a state court proceeding required to clear title to assets held in your name to your beneficiaries.
Probate fees typically run about 5 percent of the value of the estate with lower percentage fees for larger estates. They consist of attorneys’ fees, executors’ fees, court costs, accountings, appraisals, publication fees, etc.
Probates typically take a year or so, on average, to complete. Some take much longer. Others, as short as five or six months. They take time even in simple, straightforward, uncontested cases. Probates are public proceedings. They require time and effort and patience under even the best circumstances.
Can’t I Avoid Probate By Holding My Assets in Joint Tenancy?
Not really. Holding assets in joint tenancy merely defers probate until the death of the second joint tenant to pass away.
For joint tenancy between spouses, you will lose income tax benefits on appreciated property. For assets held in a trust as community property, all built-in gain on both halves is entirely eliminated upon the death of the first to pass away. For joint tenancy property, only half of the gains are eliminated.
What About Holding Assets in Joint Tenancy with My Children?
Worse yet. Bad idea. Very bad idea. Why?
As discussed above, you can lose tax benefits by holding assets in joint tenancy between spouses. Holding your assets in joint tenancy with your children is much worse. For example, if you have two children and hold your assets in joint tenancy with both of them, you now only eliminate one third of the gain when you pass away. With three children, you only eliminate one fourth of the gains, etc.
By putting your children’s names on the title to any real estate or financial assets, any claimants or creditors of your children can attach your assets. You could end up losing your home or having all of your financial assets wiped out overnight. Bad. Very Bad.
Isn’t It Easy to Simply Name my Children as Beneficiaries of All my Financial Accounts?
Easy, yes. Wise, no. Why?
Simply naming someone as a beneficiary doesn’t take into account any changed or special circumstances. What if your child is going through a divorce, is getting ready to file bankruptcy, was in a car wreck, incurred some significant medical debt, etc. That may not be the best time for your child to inherit assets. You want your assets to go to your child and not your child’s creditors or ex-spouse. Holding assets in a trust can solve all of these and many other potential problems.
The one exception to this is beneficiary designations for IRAs, 401(k)s or other tax-advantaged accounts. For these, you generally do want your children named individually as beneficiaries. There are significant income tax benefits for them getting a “stretch out” on inherited funds.
Lastly, if one of your children predeceases you, his or her children (your grandchildren) will be automatically disinherited. This need not happen if your assets are held in trust.
Can I Avoid Probate Without Losing Tax Benefits?
Yes. The good news is that probates are strictly optional. All you have to do is create a trust while you are alive and transfer title to your assets into your trust, and voila! No probate.
Asset Protection for Your Beneficiaries
Is a living trust more than just avoiding probate? Yes. In my opinion, an even more significant aspect of a living trust is protecting your beneficiaries. What most people don’t realize is that with a properly drafted living trust, you can provide 100 percent asset protection to your beneficiaries throughout their lives. Your trust can serve as a “built-in” prenuptial agreement to protect your beneficiaries in a dissolution of their marriage. It can give your beneficiaries 100 percent protection over the assets bequeathed to them against any future lawsuits, car accidents, business failures or bankruptcies. In short, living trusts can be a very powerful tool to protect your beneficiaries from any financial catastrophe throughout their lives.
The primary benefits of living trusts are to keep your heirs out of court and to enable them to inherit your assets completely protected from all third parties throughout their lives. By taking the time and effort to get your planning in place now, you will be doing your loved ones a great service and providing a great benefit to them in the future.