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Estate Planning: What you need to know to create your will, trust, and more

At a glance:

There is a widespread misconception that "estate planning" is of importance only to the wealthy. This is due, in part, to the emphasis of the financial service industry on planning for estate taxes, which concern only larger estate owners.

There are, however, a number of other significant issues that deserve everyone's attention.

What is estate planning?

Although one's "estate" is adequately defined as his or her property, there is no precise definition of estate planning. Your estate plan can be viewed as a series of steps to be taken so that, after you die, your property will be handled in a way that recognizes your values and wishes regarding your survivors and any charitable interests you may have.

When people start thinking about these things, some important lifetime concerns often come to mind, too, such as preparing for possible physical or mental disability. So, those issues are frequently addressed as well when one plans his or her estate.

Getting started

Where to start? The prospect of estate planning can be intimidating because there is usually no single clear answer to that question — there can be so many interrelated human and financial factors to consider. Perhaps your thinking should focus on these two questions:

  • First, if you died tomorrow, what would you want to happen?

  • Second, what, most likely, actually would happen?

The purpose of your estate plan

A good estate plan is designed to bring reality in line with your desires to the greatest extent possible, given the practical problems and limitations you face. The steps in the plan may include candid family discussions, drafting a will and trust, changing the beneficiary designations on some accounts, buying life insurance, etc.

As for "problems," experience shows that the most common ones are insufficient money to fund all of one's goals, and survivors who do not act as hoped or expected.

The most important element of an estate plan is giving it the thought it deserves. Taken step by step, the process is not nearly as daunting as many people fear.

What would happen to your money and property if you died tomorrow?

The answer to that big question is a composite of your responses to a range of smaller questions. Mull over the following questions, and if the answers or implications are not clear, or if they trouble you, make a note of them — a real note, not just a mental one. You will then have a list of issues on which to focus, and the simple act of writing things down will be invaluable in clarifying the thought process.

Many people who have been uneasy for years thinking about this find it improves their peace of mind just to make themselves spell out exactly what bothers them.

Questions to ask yourself

Look over this list:

  • Would there be mistrust, uncertainty, and bickering among your survivors in deciding how to handle your property and wrap up your affairs? Is there anybody who, if not prevented, might actually take your property or funds without authority?

  • Do you have a will that reflects your current wishes? If so, is all your property actually subject to probate court and the terms of the will — or is it instead set up to pass another way at death — e.g., through a beneficiary designation form, as with a 401(k) account, or to a co-owner, as with a joint savings or checking account?

  • If you do have property subject to probate (e.g., furniture, a house, or an account in your name alone), but do not have a will, what does your state's law of intestacy say about who takes property after a person's death?

  • What are the needs, abilities, and weaknesses of your survivors, especially your spouse and children, if any?

  • Are your survivors responsible individuals, capable of managing and using an inheritance wisely if they receive it outright? Or will they need protection from their own youth, financial inexperience, or bad habits? What about the influence of others? Would your bequest to a child need protection from his or her spouse or creditors?

  • If your current spouse is not the parent of your children, how — and when — will your estate be divided among them?

  • What kinds of property do you own, e.g., real estate, mutual funds, a family business, etc.? Can your property get along without your active management, at least for a while? How much of it could be converted to cash easily and quickly, if necessary, at reasonably good prices?

  • Is the net worth of all your property — or of the combined property of you and your spouse — more than the amount at which the federal estate tax begins to bite and tax planning is called for?

  • What are your responsibilities to your survivors? Would you be leaving young children and the surviving parent, for example, with sufficient assets to maintain the family's standard of living? Or, in contrast, do you have grown children with good jobs, and a spouse with his or her own adequate retirement plan account?

  • If your children are under age eighteen, have you found a suitable guardian for them in case their other parent also dies?

  • Do you have a disabled child or family member who must be provided for separately, for life?

  • If you have an IRA or retirement plan account, have you selected the appropriate beneficiary and distribution options?

The next step

When people get around to reflecting upon these kinds of questions, problematic scenarios and "what if"s often come to mind. It is then that the need for an estate plan typically becomes apparent. Recognizing that need is the all-important first planning step. Unless your situation is very simple, the second step may be to consult with a qualified estate planning attorney.

Another way to ask the question: What would you want to happen if you died tomorrow?

If you have made a troubling realization or two after considering the above question, the more immediate issue may be what you do not want to happen. The top priorities are probably the potential situation you have identified and how to correct it.

Frequently, an easy solution will suggest itself simply by you thinking through the problem. (If not, be smart and see an attorney experienced in estate planning. He or she has most likely dealt with many situations much like yours.)

Estate planning needs vary among people

Some peoples' values, wishes, and survivors' needs, however, really are very simple. So, too, should be their estate plans—perhaps just a two-page will saying, for example, "Everything to my three children, in equal shares." Other people have various contingencies for which to plan. Some form of charitable contribution—during life or at death—may be part of their plans. There may be a need for life insurance.

Many want to keep one or more "strings attached" to payments made to their chosen beneficiaries. These strings come in infinite varieties, but almost always, keeping strings attached requires a trust.

Using a trust

A trust document can be drafted to set forth a personalized combination of specific instructions, with or without discretionary judgments allowed to your trustee, so that money is given to whom you want, when, and for the purposes you specify. This cannot be done with a will alone.

A practical example of this point is the use of a trust by parents, in case they both die prematurely, to avoid the immediate distribution of assets to their children upon turning eighteen.

The first step in designing it properly is a realistic assessment of where you currently stand.

What is a will? Here are the basics

What a will looks like

Although some states include a form for a simple will in their statute books, there is no particular format required. The design of the document is usually straightforward, even if the language used by lawyers is a bit stilted.

The text generally runs 2–5 pages. Keeping in mind that such a "simple" will may not be what you need at all, look over this description of a typical simple will structure just for reference purposes:

  • A paragraph stating that the will-maker is of sound mind and intends this document to be his or her "last will and testament."

  • A paragraph naming the executor — there should be an alternate, too.

  • Nomination of guardians for any minor children in the event both parents die prematurely. A guardian should be named for the person and for the property of each child. (These roles can be filled by the same person.) Note that whoever is nominated still must be approved and appointed by the court.

  • A provision that the executor first pay all the decedent's debts and taxes.

  • Specific bequests — if any — to named individuals, e.g., "Daughter Sally gets my wedding ring; daughter Jane gets my gold necklace."

  • Disposition of the remainder (residue) of property, which consists of everything that remains after taxes, bills, and bequests.

Married people with children often write wills that are "mirror images" of each other: "If I die first, everything goes to my spouse. If my spouse has already died, I give everything to my children, in equal shares, per stirpes." Wills of this type are sometimes referred to as "I love you" wills.

Why you may need a will

Everyone should have a will. Even people of modest means should at least have a simple will, for two reasons:

  • To name an executor (sometimes also referred to as a "personal representative") to wrap up their affairs, and

  • To specify "who gets what" from their property, to avoid family squabbles.

If you don't have a will

In the absence of a will, the state law of intestacy determines how the decedent's (the deceased person's) property is to be distributed.

In many situations, the law dictates exactly what the decedent would have wanted anyway if he or she had taken time to write a will. But many times the law does just the opposite.

Too often, one mistakenly thinks that one's heirs know what they are "supposed" to do, know what they're to get, or will act appropriately. Family squabbles regularly occur because siblings cannot agree on how to distribute mom's candlesticks, ashtrays, or microwave oven.

When big-ticket items are involved, things can get bitter and ugly. A will, therefore, should be used to either name a particular person to receive each item of property or to set out a procedure for making the distribution — e.g., alternating selections by the two children, beginning with a coin flip.

An alternate process

The will can set out an alternating selection process, to be supervised by the executor. If no procedure is specified, it is the executor's job to conduct the property distribution as he or she sees fit — as long as it is completely fair to all beneficiaries.

Too often, the executor is an adult child who is also a beneficiary and who abuses the position by giving himself or herself preference in some way. This is strictly prohibited by law, but it is the basis of many probate horror stories.

The "pay all my debts and taxes" clause

The "pay all my debts and taxes" clause seems straightforward, but it frequently leads to an unsuspected problem: since many transfers of property at death take place completely outside the probate system (e.g., joint property, retirement accounts, life insurance, etc.), this clause sometimes results in one beneficiary being singled out for these expenses.

The decedent's "debts and taxes" all must come out of the "hide" of the beneficiary (e.g., a child) who inherits probate property, while other property, which may pass outside of probate to another child, is free and clear. This is one of many scenarios that make it wise at least to consult an attorney about your will.

People find that preparing a will provides great peace of mind, but they often fear that preparing one is complex. A simple will, however, is often merely a structured list of straightforward tasks designed to wrap up their affairs.

Choosing the right personal executor and trustee for your estate

Choosing a personal representative may be the most important estate planning decision of all if you want to maximize the likelihood that your wishes get followed.

What is a personal representative?

Personal representative is a generic term, referring to the executor named in a will or a trustee who is named in a trust to carry out its terms.

An administrator is also a personal representative and is court-appointed to perform the executor's duties when a decedent has no will. Unfortunately, the person appointed may be a family member whom the decedent would not have wanted. Alternatively, the court may find it appropriate to choose a neutral third party — usually a lawyer — to serve as administrator. In the latter case, the estate is responsible for paying the administrator an hourly fee for all services performed.

Who should be the personal representative?

Any of these personal representative roles can be filled by an institution, such as a bank, as well as by an individual. Obviously, however, whoever serves should be capable of doing the job, and this is a matter that often deserves much more thought than it is given. In many cases, relations among the surviving family are harmonious, there is little to be done, and everything works smoothly — no matter who is running the show.

The importance of being assertive

When disputes arise or there is bickering, however, family diplomacy may be called for. Remember that some of us are better at this than others. Occasionally, on the other hand, someone must be ready, willing, and authorized to lay down the law and get things done. The selection of this person (or institution) should not be left to chance. He or she should be named by the decedent in a will or trust.

Be careful whom you choose

In most cases, your personal representative is going to have — by necessity — extensive or total access to your property. Very bluntly, a trustee, executor, or administrator is in a position to rob you (or your heirs) blind or to ruin your plan through inaction if somebody else acts improperly. Indeed, misconduct is probably the most common factor in estate and probate horror stories.

Of course, objections or complaints can be filed in court. But these can be difficult moves, and they are made after the damage is at least partially done. There is no close court supervision to prevent the misconduct. Therefore, you should not move forward with any plan unless you feel comfortable with the person or institution you have chosen.

The role of personal representative is crucial. Be sure to give ample thought to your choice of executor and/or trustee.

Do you need an attorney to help you with estate planning?

Many people engage attorneys to help articulate and implement their plans, including the drafting of appropriate documents. In almost all cases, it is a good idea at least to consult with a lawyer at some point, even if only to review the plan and documents you might have prepared for yourself to be sure they comply with the laws of the state in which you live.

Beware of ambiguous language

Most people do not know exactly how to put into legal effect the general desires that seem so very clear and uncomplicated in their own minds. Often, when laymen draft legal documents, they employ language that may indeed be clear to them but is ambiguous to others.

Unfortunately, people tend to ignore (or be unaware of) limitations in their knowledge, and make financial and estate planning decisions in spite of it. Experience shows that many bitter moments occur in the probate courtroom among members of the same family engaged in a battle that could have been avoided with a little help.

Disadvantages of doing it yourself

This is not to say that all "do-it-yourselfers" are doomed to failure, especially if their situations are truly uncomplicated. Often, however, they fail to consider better options, tax pitfalls, related issues, etc. This, as opposed to total disaster, is the more likely danger to the "do-it-yourselfer," and the consequences vary from barely significant to very much so.

The role of estate planning software

Will and trust preparation software can, in many but by no means all situations, produce quite adequate results. This type of software, however, often does not fully deal with particular details, contingencies, and very specific issues that may be important to a given family. If your circumstances have any kind of "twist" to them — and most people's do — there is no good substitute for individualized, professional guidance.

Some people use will or trust software just to learn what these documents look like and to "get something on paper" before consulting a lawyer. This is an excellent idea, and these products offer quite a few educational tips and help screens.

The person who makes the estate plan is never there to see how well it works. Everything that can be done needs to be done — correctly — before death. While an attorney is not absolutely required for a good result in every case, using one is the best way to ensure that your plan is the very best possible for your circumstances.

What a probate is and how to avoid it

Probate is the legal process by which a person's final debts are settled and legal title to property is formally passed from the decedent to his or her beneficiaries and heirs.

Retirement fund assets go directly to the beneficiary named on the account.

Most states have streamlined probate procedures for handling the settlement of small estates and uncomplicated larger ones. In a few states, the procedure for small estates may not even require a trip to probate court. If the decedent left a will, there should be an executor named in it to manage the estate and wrap up the decedent's affairs. If there is no will, the court will appoint an administrator to fill this role.

Property owned in your name at the time of your death is subject to probate unless the property is held in an account that designates a beneficiary. Property jointly owned, owned by someone else, or owned by a trust is not subject to probate (at least not the part you don't own) upon your death. Getting property out of your probate estate is simply a matter of not owning it when you die. There are many strategies you can use to avoid probate. Here are some ways to avoid probate:

Transfer-on-Death (TOD) and Payable-on-Death (POD) accounts

TOD and POD accounts are various financial accounts for which an owner names a beneficiary.

These are ordinary financial accounts of various types, for which the owner fills out a form to name a beneficiary (payee). The payee automatically receives the account balance on the death of the owner. Until then, the beneficiary/payee has no rights in the account, since the beneficiary can be changed, or the account depleted or closed. A wide variety of accounts can be held in POD or TOD form. While it saves no tax, this is a timesaving and probate-avoiding option to consider.

Life insurance proceeds

A life insurance policy payoff is part of the policy owner's private contract with the insurance company. It should promptly go to the named beneficiaries with no probate court involvement, upon proof of the insured's death. Death benefit payments from a policy owned by the decedent to a named beneficiary are excluded from the probate estate.

Trusts

Trusts are often used to avoid probate court and for a variety of other reasons. A trust is a creature of the law that can take legal ownership of one's property. If a deceased person had placed property into the name of a trust, this property technically does not belong to him or her anymore. Therefore, assets held by the trust are not subject to the jurisdiction of the probate court.

In addition to avoiding probate, trusts that also provide tax savings can be created. Trusts are not for everyone, but for those who can use a trust, they are very powerful estate planning tools.

Retirement benefits

Retirement fund assets go directly to the beneficiary named on the account. Using the beneficiary option allows the proceeds to bypass probate court. The beneficiary, if a married qualified retirement plan participant does not specify otherwise, defaults to the spouse. That is appropriate in many, but not all, family situations.

Summary of Estate Planning

Keep in mind that estate planning should not occur in a vacuum. It should be seen as but one step in a process of comprehensive financial planning. This should include risk management and insurance of several types, as well as investment and retirement planning.

As with any lifetime planning, merely having an estate plan is not enough to ensure it will work. Indeed, it is likely to fail if your financial and other personal affairs are not properly arranged at the time of your death.

Practical ideas you can start with today

  • Answer the questions in the tutorial regarding what would happen, and what you would like to happen, if you died tomorrow.

  • Review (or write) my will so that it appropriately directs the disposition of my estate if you died tomorrow.

  • Appoint a qualified personal representative for your estate.

  • Set up an appropriate trust to protect your assets.

  • See an attorney for more complex planning if your situation is out of the ordinary.

  • Estimate your potential estate tax liability.

This content was created in partnership with the Financial Fitness Group, a leading e-learning provider of FINRA compliant financial wellness solutions that help improve financial literacy.

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