How to Make Gifts to "Your People"
It has been a year since we first asked the question: what is an estate plan? Over the last 12 months we have concentrated most of our time on discussing planning for incapacity, an oft overlooked aspect of an estate plan. Today we begin the discussion of how my estate plan will work after my death. First off, a well-designed estate plan is the result of a team effort: Client, attorney, financial, insurance and tax advisors all have a role in the design of a plan. It is difficult, if not impossible, to plan in a vacuum. The first question you need to answer is who are your people? In other words, who are the people and charities you want to benefit from your plan? If you are married, your spouse will likely be one of your primary beneficiaries, if not the only beneficiary. But what if you signed a prenuptial agreement? Do you still want it to control your plan after you die? Is your family a blended family? (More on these topics later.) Do you have children or other people you want to make gifts to? What about your favorite charities? The next question is how do you want to give your beneficiaries their gifts? There are two ways to make a gift: outright or in trust. An outright gift is just what it sounds like: the gift is made directly to the beneficiary. The beneficiary can use the gift however the beneficiary wants. An outright gift is the simplest way to make a gift. It is sometimes the best way to make a gift. Other times a trust may be a better way to make a gift. The primary reason people create trusts is to protect assets from the time the gift is made through the term of the trust, frequently measured by years or the life of the beneficiary or beneficiaries. Protection from what? General life risks, business risks, remarriage, divorce, incapacity, addiction, bad decisions, estate taxes (at the beneficiary’s death) and costs of long term care, among others. Trusts consist of a set of instructions (or rules) for the use and distribution of property over time. Trusts can be very effective planning tools. As with any type of plan, there are pros and cons to trusts. When goals are clearly articulated and the trust permits flexibility as circumstances change, a trust can enhance the value of the gift. A trust is not free. The biggest cost of a trust is the ongoing administrative expense once the gift is made. In our experience, the annual cost of maintaining and administering a trust ranges from .15% to .5% over and above the cost of investing the assets owned by the trust. When considering a trust, it may be helpful to think in terms of insuring the property you are giving to your beneficiary from the risks noted above. Is a trust worth the cost of protecting the assets for (or sometimes from) your beneficiary? Everyone who owns a house has to consider whether or not to insure the property. Although the risk of loss is very slight, virtually every homeowner we know insures their homes. Why is this? Because most people are not able to self-insure. And even those who can, are not willing to do so. To be clear: homeowner’s insurance protects against losses due to fire or against liability associated with the home, such as a slip and fall. It does not protect against divorce; it does not protect against a claim unrelated to the home made by a 3rd party, or bankruptcy. The risk of losing an inheritance is much greater than the risk of having a loss of one’s home. And yet, most of us do not consider making gifts to our beneficiaries in trust. Perhaps the most common reason for this is I don’t want to reach from the grave. Or, I want my beneficiaries to do what they want with their gift. In the right circumstances, trusts can enhance the value of the gift and have a lasting and positive impact on the beneficiary and his or her family. Make no mistake about it: trusts are not silver bullets. They are not for everyone. However, as mentioned at the beginning of this column, it is important for each of us to consider how we want to make gifts to our beneficiaries. How can this gift be most beneficial to my beneficiary? Next time we will discuss some common scenarios that frequently lead to the creation of a trust for a beneficiary.