When you think of estate planning documents, certainly wills and trusts come to mind. But two other planning instruments are also important: titles and beneficiary designation forms.
Estate planning essentials
The starting point for estate planning is a will. Even if you’re single, you should have one because a will enables you to determine where your assets would go upon your death rather than leaving those decisions to your state government. But if you have children, there’s even more reason to have a will because it’s the document in which you name a legal guardian for your kids in the event that you and your spouse die while your children are still minors.
You also may want to consider a trust, which offers additional benefits, such as keeping your estate out of probate (speeding the process of distributing your assets to heirs and lowering their costs), keeping information about your estate private (with a will only, your estate becomes public record), giving you more control over when your children would receive their inheritance, and helping in special circumstances (perhaps you own a business or out-of-town real estate, have a special needs child, are in a second marriage, or want to leave more of your estate to one child than another).
Trumping a will
What many people don’t realize is that property titles and beneficiary designations can take precedence over a will. This means you can pass significant assets to your spouse or other beneficiaries without having to go through probate. Proper title and beneficiary decisions also can keep assets away from creditors, reduce estate expenses, speed up distribution of assets, or (when it would be more beneficial to do so) purposely slow the distribution down.
Multiple options exist for titling assets and naming beneficiaries — too many to cover in a short article such as this. To make the best decisions for your unique circumstances, you will likely need to consult a financial advisor and/or attorney with expertise in this area. But it’s important to have a basic understanding of some of the options available. Here are some to consider.
- Homes and Cars
If you’re married, you’ll probably want to put both of your names on the title to your home and vehicle(s). That way, should one of you die, the other will own the property without it having to go through probate.
Find out what the options are for titling real estate jointly in your state. In some cases, your best option will be to title it as “joint tenancy with rights of survivorship.” (In community property states, the equivalent is “community property with rights of survivorship.”)
You may benefit from titling your property as “tenancy by the entirety” if the designation is available in your state. As with “joint tenancy with rights of survivorship,” upon the death of one spouse, the property transfers to the other. However, one added benefit of “tenancy by the entirety” is that if one of you were sued, the lawsuit could not force the sale of the property without both of you agreeing to the sale.
If both spouses die, the house typically becomes part of the estate. Among other options, the executor could manage the sale of the property from the estate and then distribute the proceeds to heirs named in a will.
It’s possible to title a vehicle in both spouses’ names as well. If one spouse passes away, ownership passes to the other. If both spouses die, the vehicle becomes part of the estate to be managed according to provisions in a will.
- Bank Accounts
Joint checking and savings accounts will pass to the survivor if one of the account owners dies, but you also should name a beneficiary to keep the money out of probate in the event of both of your deaths. Such beneficiary designations are typically made on a “Transfer on Death” (TOD) form.
- Retirement Accounts
With IRAs, a major beneficiary consideration has to do with the potential to “stretch” distributions. If you name your spouse as primary beneficiary, your husband or wife will have the choice of rolling the money into his or her own account or transferring it to an inherited IRA. There are different tax implications depending on your spouse’s age and when he or she begins taking distributions.
Younger beneficiaries (your children or grandchildren) who inherit IRA assets stand to see the greatest benefit from stretching an IRA because they can spread distributions over their life expectancy. That allows for less upfront payment of taxes and potentially far greater account growth. (You may be able to stretch a 401(k) as well.)
Unfortunately, these tax and growth benefits often are forfeited, either because of the way the account passes to the beneficiary, or because the decision to stretch the distributions is up to the beneficiary (in most states, minors gain the ability to choose when they turn 18). You can see to it that a young beneficiary stretches the benefits (rather than opting for the lump sum and blowing it on a Mustang!) by naming a trust as the contingent beneficiary and spelling out terms of the distribution in that document.
For this to work, your trust must meet the definition of a “look-through” or “see-through” trust. There are four very specific rules that must be met when attempting to allow IRA benefits to be stretched in this manner via a trust. Among them is the requirement that all of the “underlying” beneficiaries must be identified by name or as members of a “class” of beneficiaries (i.e., “my children” or “my grandchildren”).
Passing annuity assets to a beneficiary in the most tax efficient manner is far more complex, requiring the assistance of a financial professional experienced in such matters. One option to ask about is naming a beneficiary “with restricted payout,” which may be the best option for stretching distributions.
- Life Insurance
Most people typically name their spouse as the primary beneficiary. Naming a trust as secondary beneficiary can help manage a large distribution to children by empowering a trustee to manage and release funds for specific purposes while children are minors, and by designating at what age or ages adult children can receive distributions.
- College-Savings Accounts
With a 529 plan, you will be asked to name a “successor owner,” who would take over responsibility for the account upon your death. Most plans do not allow spouses to establish accounts as joint owners, making a spouse a logical choice to name as the successor owner.
What happens if you name your spouse as successor owner but you both die? Some plans allow you to name a contingent successor. If not, ask your plan administrator. A minor child’s guardian would likely become responsible for the account.
There are many circumstances to consider when titling assets and designating beneficiaries, so be sure to make these decisions with the aid of a financial and/or legal advisor. The primary purpose of this article is to serve as a reminder to check how your assets are titled and what beneficiaries you have designated. You may want to create a list or spreadsheet, including each of your major assets, how it is titled and/or what beneficiaries are named, and the date last verified. This will both aid you in handling these issues now, and will be extremely helpful later when an executor is called upon to settle your affairs.
Review these decisions every few years (beneficiaries may have died, become divorced, had children, grown up and are no longer minors, etc.), and certainly if and when you go through a significant life change. A little bit of paperwork today can save a lot of headaches down the road.