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Proper
Estate planning documents may be worth millions.
by Ray Chodos
and Adam Chodos
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Wills, trusts, and the
like are unpleasant subject matter that is usually considered shortly before departing
on vacation. Many of us do not have a good understanding of what our documents call
for, yet these documents represent all that we posses for those we love the most.
Often, when wills are drawn the environment is uncomfortable and time inadequate
to consider how the world of our family would function without us. Unfortunately
some attorneys draw wills while not being tax expert, or specialized in estates or
trusts. When our attorney asks questions, we answer, often without a full understanding
of the ramification of our reply, or alternative strategies. When we are given a
draft to review, there is little other than check the spelling of appointed persons
that we are fully qualified to review. The scope of this article seeks only to disturb
and provoke action that might otherwise have gone undone toward realizing ones objectives
through planning.
Wills.
This document merely expresses our stated wishes at the time of death. The
probate process which includes the court's examination and "processing"
(probate) of our will determines if it is enforceable, legal, and subject to challenge
by heirs, disinherited family, creditors or predators. This public process is not
without cost, generally 5% or so. This percentage is of the gross estate (not reduced
for mortgages and such). On a three million dollar estate, probate costs can translate
to $150,000. Essentially what happens is that the assets we owned during life become
transferred after our death to the heirs we or the court have selected. That is where
the probate expense for lawyers, appraisers, accountants, and administration is consumed.
What would happen if little or no property needed to be transferred by will at death?
Well, the probate process would cost little to nothing, privacy would be maintained,
will contestability would be largely removed, and the cost of probate would be saved
for heirs to enjoy. In order to achieve such a desirable result, we may wish to transfer
title of our important assets while we are among the living. The instrument we use
is a "Revocable Living Trust". A trust is simply an entity that contains
assets to be held for the benefit of beneficiaries. The rev trust will be designed
to have a manager called the trustee. We may be our own trustee while living and
competent to do so, when we are not able or alive, we have appointed a replacement
for ourselves. Our replacement trustee may dispose of the assets at our passing in
accordance with our wishes and mindful of the circumstances of that period in time.
We select the "pool" of beneficiaries as well. While he probate process
is no longer needed since little or nothing will pass by our will, we should still
have a will in case any asset failed to be transferred by us to our rev trust. In
the event of our mental or physical incapacity the replacement trustee will act according
to our prescribed wishes and their own best judgment to keep all we started going
while we are not able. This step eliminates the cost and discomfort of the family
taking legal steps to appoint a conservator and have a relative declared incompetent.
It seems so sensible; unfortunately most people donít know about revocable trusts
or use them.
Estate transfer tax
The federal government, as well as many states, levy estate taxes when assets succeed
to a second generation. The federal rate of tax on assets above $675,000 is 37% rising
to 55% on amounts over 3 million. This is no doubt, the largest tax any of us will
ever have the privilege of paying. Since the first $675,000 is not taxed, why not
gift it to children (or even grandchildren) if you can do without it and avoid the
estate tax as well as the tax on the growth while younger generations hold it? A
gift of $675,000 during life could be worth an astounding $4,500,000 at 10% compound
twenty-five years later. In fact the scenario can be leveraged with a gift of life
insurance to reach $10,000,000. All this is possible with no estate tax. Why donít
more people who can afford to do so use gifting?
Since estate tax is measured by the "fair market value" of an asset at
the time of death, why not see to it that the market value is discounted by techniques
allowed by law? Creating an entity, which has two forms of ownership, one with a
vote, the other without would reduce the market value of the interest without a vote.
Such an instrument is a "Limited Partnership". By placing our business
assets in a family limited partnership (FLP) we can reduce the taxable value of our
assets by as much as 40% (varies with type of asset). This reduction in market value
saves us the tax in direct proportion to the discount. This may be worth millions
in saved taxes, and even more since our children will have the funds to grow during
their lifetimes rather than losing them to tax.
Life insurance
This unique product is poorly understood as a tax tool and planning device. Many
of us think of life insurance to protect our dependants while they are young and
vulnerable. That of course is a basic and vital application of life insurance. As
we age and accumulate more assets, we tend to think we can "self insure"
for our income replacement needs. Of course we can, but what about the estate tax?
If we use our own money to settle the estate tax, we need to create a fund to pay
the tax on the fund we set aside for tax. Simply put, the tax is taxable. A one million
dollar tax may cost our estate $1.5 million. How much could one million of life insurance
cost? A well-designed policy should cost less than 40 cents on the dollar total.
Additionally, the policy will pay in cash; how many of us keep 50% of our net worth
in cash? The policy may be owned by a special life insurance trust to avoid estate
taxation, or our children may own it. Once again we wonder why more families donít
use the obvious advantage over forced selling of businesses and other assets.
Summary:
Not every attorney, accountant, or life insurance professional is skilled and knowledgeable
in advanced estate planning. For those fortunate enough to have significant assets,
locating and assembling such a team may reap very large family benefits.
Ray Chodos
is a member of the Wealth Preservation Group, LLC of Greenwich Connecticut. A firm
specialized in serving the concerns of business owners and their advisors for tax
minimization, wealth preservation, and business succession. WPG also consults for
financial and professional institutions in areas of marketing and practice development.
www.WealthPreserve.com Ray Chodos can be reached
at Chodos@WealthPreserve.com
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