Articles Posted in Estate Planning

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Planning Can Still Be Done Where There is Lack of Mental Capacity

TYPICAL BASIC ESTATE PLAN GOALS THWARTED

People generally do a living trust and will to avoid probate proceedings and to have more flexibility about who will inherit their estate and when it will be inherited.  However, on occasion people wait too long to do their estate planning and get sick or incapacitated and then it is too late. This is where consideration of “Lack of Mental Capacity” enter the discussion.The alternative to not having an estate plan is that the person’s money and property has to go through expensive and lengthy probate proceedings and the person has no choice about how to divide up his or her estate. The mandatory attorneys fees in probate on a $1,500,000 estate are $28,000.  If probate can be avoided the fees to administer an estate are typically 1/3rd or less of what probate attorneys fees would be.  The law allows a person to divide up his or her  estate in any percentage that he or she feels like and there is no requirement that once estate be left to family members or relatives. However, without an estate plan, the surviving spouse and children and perhaps other relatives will be the ultimate recipients of the estate and the maker of the will or trust will have nothing to say about it.

THE CONCEPT OF LEGAL LACK OF MENTAL CAPACITY

The law in California has certain standards as to people’s capacity to make wills and to make trusts. If those standards are not met, then the will and are trust could be declared invalid if challenged in court. Here are the basic rules for wills and trusts.  Even worse, people who are seriously ill or seriously mentally incapacitated can be totally incapable of even having a discussion with their attorney about a will or trust and cannot sign anything.

CAPACITY TO MAKE A VALID WILL

A person must be at least 18 years old and of sound mind to make a will. A person is not mentally competent to make a will if at the time of making the will (i) he or she does not understand the nature of the testamentary act, (ii) does not understand and recollect the nature and situation of his or her property, (iii) and does not remember or understand his or her relations to living descendants, spouse, parents, and those whose interests are affected by the will.  Also a person is not mentally competent to make a will if he or she suffers from a mental disorder with symptoms including delusions or hallucinations, which result in his or her devising property in the will in a way which except for the existence of the delusions or hallucinations he or she would not have done.

Who Will Take Care of My Children and Their Inheritance if the Worst Happens?

Types of Guardianships For Children

Image of adult man and young boyGuardianships For Children – A guardianship is a legal status whereby an adult is given authority to take care of the person of a minor child and/or the estate of the minor child. A “guardianship of the estate” is where the Guardian has control and custody of assets, property and accounts belonging to a minor child. A “guardianship of the person” is where the Guardian is responsible for the care, protection, or custody and medical issues of a minor child. Guardianships typically arise in the unfortunate circumstance in which both parents have passed away. Guardianships may also arise where parents are unable or unwilling to care for their children.

NOMINATION OF GUARDIAN PREFERENCES

Only the parent of a minor child has the legal power to nominate a Guardian of the person or a Guardian of the estate.  Also an adoptive parent has the power to nominate.  The nomination must be in writing and signed by the parent. A typical estate plan including wills and a living trust will contain paragraphs nominating guardians of the person and of the estate. Written nominations will be taken into account by the probate court when a guardianship legal proceeding has been started.

NOMINATIONS CAN DIFFER BETWEEN PERSON AND ESTATE

Often parents feel that some of their relatives or friends are more suited to be guardians of the person. Persons suitable to be guardians of the person are not necessarily suitable to take care of the estate of the minor so separate nominations are typically made for guardians of the person and guardians of the estate. Sometimes the same person is nominated for both positions but the law doesn’t require it.

Can I give everything to the “love of my life” and keep it secret?

NO DISCLOSURE TO OMITTED HEIRS?

Up until 1997 a person could legally change his or her estate plan and the people previously benefited did not have any legal way to find out what the situation was. Before the law was changed to require disclosure as it is now, the state legislature committee reviewing the proposed legislation was presented with a case of a 90-year-old man who met the “love of his life” on a bar stool and married her three months later.

INCOME TAX TRAP FOR PREMATURE GIFT OF HOUSE

WAYS TO HANDLE THE FAMILY HOME TRANSFER

Retired couples typically have choices about how to pass on the family home. Might they make a mistake and give away the house too soon? They could sell the home and put the cash in the bank and rent. Another way people sometimes handle this is to draw up and record a deed transferring a home now to their children. The logic is that the children are going to get the house anyway so why not just given to them now. The third choice is to continue ownership of the house until both husband and wife have passed away and transfer the house to the children through their will or better yet through their living trust.

ight they make a mistake and give away the house too soon?

TAX SITUATION OF EACH CHOICE

  1. Sell now. However, if they make more than $500,000 gain on the sale of the house there will be income tax to pay. Also, they would still have to have a place to live which would cost rent and use up part of the gain on the sale. Moreover, selling the house at the present time would give up future appreciation.
  2. Give it up now. By giving the house to the children at the present time, the couple could still live in the house by making arrangements with the children. However, the income tax basis of the couple would carry over to the children since under the tax laws this is a gift during lifetime. The income tax basis is what the couple paid for the house plus the cost of any documented improvements. When the couple have passed away, the children could sell the house but most likely would have capital gains if the house has gone up in value over what the couple paid. For example, assume the couple paid $200,000 to purchase the house in 1990 and spent 30,000 on remodel costs. That would make their tax basis $230,000. Now supposing the children sell the house in 2016 after their parents are gone and at that time the house is worth $800,000.  The children would have reportable capital gains of the difference between $800,000 and $230,000 which is $570,000. Assuming a federal and state tax rate of about 33% combined, there would be about $180,000 tax to be paid. The only way the children could get out of paying most of the tax would be for the children to move into the house, claim it  as their personal residence, and utilize the $500,000 exclusion from available to married couples.

Define Who Will Take Over and Control the Trust After the Trust Creators are Gone

Large Extended Family

TRUST CONTINUES AFTER DEATH OF CREATORS

A trust that is typically established to plan for distribution of family assets to the next generation has provisions for successor trustees. Initially, the trust creators, who are known in trust law as “Trustors”, also serve as the trustees of the trust. The trustees are the ones who are legally charged with administering the assets of the trust, signing on checks and bank statements, and dealing with the trust assets as any owner would. Trusts which are typically established are also known as “living trusts” and are revocable and changeable while the Trustors are alive and competent.

MINIMAL LEGAL REQUIREMENTS TO CREATE A TRUST

To have a valid trust California law only requires a proper manifestation of the Trustor’s intention to create a trust, trust property, a valid trust purpose, and a beneficiary. The law does not have any detailed requirements about what the document creating a trust is supposed to say or how it is to be worded. All trust documents are subject to the jurisdiction of the court system if there is any confusion or disagreement about any aspect of the trust. The point of careful trust drafting is to avoid confusion and disagreements and to stay out of expensive court litigation. A key aspect of trust drafting is to have a comprehensive provision for successor trustee appointment.

Define WHO the Children are in the Trust or Face Expensive Uncertainty

The BASIC PURPOSE of a Trust in Estate Planning

Image of young girls in the 1950sA trust that is typically used to plan for asset transfer for the next generation is known as a “living trust” and is revocable and changeable during the lifetimes of the trust creators.  If the trust creators (known as “Trustors” under trust law) have children and/or grandchildren the trust document will explain which children or grandchildren gets which assets and when.

Definition of “Children” is Often Overlooked in Estate Planning

Often the trust document oversimplifies the definition of “children” or “grandchildren”.  As an example, a trust could state “upon the death of the Trustors the trust assets will pass to the Trustors’ children”. A properly prepared trust does take into account the various types of children which occur. As part of drafting your trust, the attorney needs to find out who you want to include within the definition of children.

Do you want to include adopted children?

Under California law, if a person is legally adopted, then he or she becomes the legal child of the person who adopted him or her.  Thus, if a trust does not state if adopted children are to inherit then adopted children will inherit as a matter of law if the death and trust is in California. However, it is better practice to state that adopted children are included so as to avoid any arguments, especially if out-of-state assets are involved because other states laws may differ on this. On the other hand, if the Trustors do not want the trust to benefit adopted children then the trust must say that or the legally adopted children will inherit.

How did that kid get so much money to blow!

18 is the age of majority

When a child turns 18 years he or she is considered to be an adult under California law. In legal terms, children under age 18 are called “minors” and when they reach age 18 they are called “adults”. Minors and adults are treated differently as far as inheritance rights are concerned. Minors still have rights to inherit but any inheritance which comes to them is subject to certain legal controls because the law presumes that minors are not capable of handling money or property as well as adults.

Inheritance can occur in 3 typical ways

Inheritance Rights For Children – Minors can inherit money or property in the following types of situations:

  1. where a family member dies and does not leave a will (also called intestate succession);
  2. where somebody dies leaving a will which gifts money or property to a minor (also called intestate succession);
  3. and where trust is established naming a minor as a trust beneficiary.

The minors inheritance is handled differently in each of these situations.

Image of family members who run a florist business

Partners pay tax on income earned even if it is not paid out to them

The taxation of Family Limited Partnerships should be carefully considered in advance of setting up and rolling out your new FLP.

FAMILY LIMITED PARTNERSHIP DEFINED

State laws have provisions allowing people to establish limited partnerships.  Limited partnerships provide limited liability protection for the limited partners similar to the liability protection afforded corporation shareholders.  The limited partnership is established by filing a form in the state in which it is being established and by the preparation of a limited partnership agreement which governs the ownership income and management of the partnership. The limited partnership agreement is custom prepared by the attorney forming the limited partnership and can have many variable aspects that need to be considered as part of the formation process.

A family limited partnership is legally no different from any other limited partnership except that it’s only members are family members. The term “family limited partnership” is something commonly used in the estate planning and asset protection field. A family limited partnership will have one or more general partners and one or more limited partners. Their respective roles are defined in the chart below:

THE ROLES OF THE PARTNER TYPES

Partner type What they do
♦ General Partners Manage and control all of the money, business and affairs of the partnership.   They sign all checks and all contracts that the partnership enters into.
♦ Limited Partners Limited partners have no voice in the management and no control.  They only have voting rights to vote on specific things such as sale of property or removal of the General Partner

THE IRS DOES RECOGNIZE FAMILIY LIMITED PARTNERSHIPS FOR TAX PURPOSES

The Internal Revenue Code, which is the place where all of the federal tax laws are located in the federal legal system, has provisions for partnerships.  There is no distinction in the tax laws between prayer partnerships, limited partnerships, and family limited partnerships. Any partnership is a separate legal entity and would need to obtain a federal tax ID# upon formation.   Tax returns to be filed are the form 1065 income tax return and California  partnership tax return form 565. These tax returns are due on April 15.

WHO PAYS THE TAXES ON PARTNERSHIP INCOME?

The partnership does not actually pay any income taxes. The partnership tax returns merely report the income for the total partnership enterprise. The partners are identified in the partnership income tax returns and the percentages of ownership of assets and income are stated.  The partnership income is then allocated to each partner according to his or her percentage.  The partnership income tax returns have a form K-1 for each partner stating that partner’s share of the partnership income, deductions and credits.  Each partner then takes the form K-1 to his or her tax return preparer and the amounts on the form K-1 are reported on the the partners’ personal income tax returns.  A partnership is often referred to in tax literature as a “pass through entity” meaning that all partnership income is not taxed at the partnership level but simply passes through and is tax to the partners on their individual income tax returns.

CALL  (949) 229-7034  to speak with Lawyer  David L. Crockett

DISTINCTION BETWEEN INCOME EARNED AND DISTRIBUTED

Without exception the partnership income earned by the partnership is allocated to the partners whether or not they actually receiving income.  In the context of a family limited partnership this can create problems if some of the income is held back and not distributed. This may occur for example in a situation where the general partners have discretion to not pay out all the income which is a typical asset protection clause. However, even if the income is not actually paid out to the partners, they still have to pay the taxes on the income. Therefore, general partners will typically try to get enough cash out to the limited partners so that they can pay their taxes by April 15.

How Often Should You do an Estate Plan Review?

Outdated Estate Plan, Trust or Will

Outdated Estate Plan?
An Estate Plan Review Helps You Deal with Life Changes

Once you have your estate plan drafted and and your selected assets funded into your Revocable Living Trust, you can’t simply throw your estate planning documents into a drawer and forget about them.

If some years have passed since you funded your Trust, or signed all the various Estate Planning documents, there may have been changes in the laws coupled with critical changes in yours’ and your loved one’s life circumstances. That means that your estate plan is now out of date and out of tune with the realities of your life situation. An estate plan review or trust review is needed. Your estate plan might need a legal tune-up.

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