Estate planning is a way to leave instructions and numbers for a lifetime. It is a way to make sure that if anything ever happens to you, the person you want to take care of your children will do so. The instructions you have left behind will determine the kind of care that will be given and that your financial affairs will be in order.
While you are building your wealth, many things will distract you from planning. There will be issues with the children. No spare time to think. There will always be something more important to do. Yet, you cannot allow that to stop the planning process.
We are a hopeful culture. No one wants to plan for death. No one wants to plan for disability. That is contrary to human nature. Not doing so, however, is financially naive. And if we are hopeful, we are also an extremely pragmatic culture, pragmatic enough to understand that poor estate planning or no estate planning can obliterate the hard-earned results of a lifetime of good planning.
It is your responsibility to make sure that your affairs are in order. That you have enough money to live on if your spouse dies. That your family pays the least amount of estate taxes possible. That you have designated someone to be in charge of your assets and your children. In other words, especially when you are building your wealth and are very, very busy with everything in life, you must put the same level of thought into what would happen when you die as you have put into growing your assets and caring for your family while you are alive. Everyone who is building wealth needs an estate plan.
Your estate plan should accommodate your assets, whatever they are in any given year, and accomplish your broad goals, but not be so rigid that if you sell your house or change your residence that the plan no longer works.
Estate planning is a process—it should evolve and change as you, your family, your wealth and your circumstances do. It is prudent to meet with your advisors every other year and review where you are, where the law is and what your documents say. It is that commitment to the process which ensures that your family is provided for.
Putting off the estate planning process carries with it two major risks: the significant possibility that your assets will not pass as you see fit to your intended beneficiaries and that your assets will be reduced by unnecessary taxes and settlement costs.
Estate planning involves self awareness and psychology. It forces you to come to grips with your mortality and deal with the possibility of future disability or incapacity and will ultimately predetermine how your affairs will continue after your death. Taking the time to prepare eases the burdens on the family members and friends who will execute your plan in what will be, for them, an emotional and, perhaps, chaotic time. Even if getting started is very difficult for you, get on the path of putting your affairs in order now.
You should begin by listing your assets and their approximate values. If you have recently prepared a financial statement for a bank, that would be a good starting place. Last year’s income tax returns are also helpful.
It is very important to understand who owns each asset and what the transfer consequences of each asset are. If, for example, your brokerage account is in a joint name, you must decide whether you want the account to pass to the surviving joint owner at your death. You must also decide whether that joint owner can withdraw funds or make investment decisions without your approval or signature. You will need to designate the primary and secondary beneficiaries of each annuity, life insurance policy, retirement planning asset, I.R.A, Keogh and so on.
It is important to understand how each parcel of real estate is owned. Obtaining a copy of the deed for each property you own and bringing it to the attorney is a crucial step. Obtaining proper documentation is important. Frequently, the way you think you own assets is not necessarily the way they are legally titled.
In most cases you are planning for an eventual disability or death. That means that the value used when you are beginning the plan will probably not be the value of that asset at your death. It is up to you, once you embark on the process, to remain aware of significant changes in values. You should review the plan with your advisors every few years to make sure that the way it was originally intended to operate still makes sense.
With liquid assets, such as cash, money market accounts, bank accounts and brokerage accounts, it is important to have an estimate of the value. It is not critical that the value be precise.
Real estate is difficult to value. You should have an idea of what your home would sell for in the marketplace today. Your town’s tax assessments or sales of comparable properties in your neighborhood may lend guidance to that value.
If you own a family business, or if you started a business with others, its value should also be considered in your planning.
Some of the goals you may wish to consider are:
A key component of estate planning is putting the legal mechanisms in place when you are healthy so that if you become disabled or incapacitated, the person you have chosen will have the legal authority to access your funds to pay for your care and make the medical decisions for you that you would make. By planning, you will be able to exert control over your life, even if you reach a stage when you are physically or mentally unable to do so.
Durable power of attorney:
A Power of Attorney is a legal document in which you give someone else, several people or an institution the power to manage your day-to-day affairs; the power to sign checks, for example, to pay bills, to make bank deposits, find the medical services you need, sell property and so on. You need not to be incapacitated to do so. People working overseas for very long periods of time, for example, often give someone at home the Power of Attorney to handle their U.S. property while they are gone.
A Durable Power of Attorney is a legal document you sign now that gives someone else, several people or an institution that power both now and when in the future you become disabled or incapacitated. To be a Durable Power of Attorney the document must say specifically: "This power of attorney shall not be revoked by my disability or incapacity." The document can also provide a line of successors. You could designate your husband, for example, and specify that if he is unable to serve, then your two children will have a joint Power of Attorney. The document should be clear and specific as to what “inability to serve” of your attorney or agent acting under the power means: His death? His disability? His decision not to act. Merely being out of the country?
A Nondurable Power of Attorney is revoked at disability or incapacity. All Powers of Attorney – durable or nondurable – are lifetime documents and are revoked at death.
Some states authorize what is known as a "Springing Durable Power of Attorney," one that springs into existence in the event of disability or incapacity. A significant problem with Springing Durable Powers of Attorney, however, is that many of those documents specify that one or two physicians must certify your disability or incapacity. Because the level of disability or incapacity is often not completely clear, many physicians—especially doctors who have had a long and close relationship with you—may be reluctant to sign the document without the approval of a court. This, unfortunately, just pushes you back into the situation that designating a Power of Attorney is intended to eliminate, such as bureaucracy, the involvement of external forces, costs and time delays.
To clients who tell me a Springing Durable Power of Attorney sounds like a good idea because they prefer to postpone issuing the Power of Attorney privilege until they need help, I respond: "If you do not trust someone enough to name the person as your agent and give him or her the power to make decisions for you while you are competent, why would you give him or her the power to do so when you are incompetent?"
Should you become disabled or incapacitated and be unable to handle your financial affairs without a Durable Power of Attorney, then a family member has the right to go to court and become your guardian or conservator. Court supervision comes along with the court appointment, however. Some find that restrictive, others protective. If you are unsure whom to trust or which document is a best for you, then having the actions of your selected guardian supervised by the surrogate’s court in your jurisdiction may not be a bad idea.
Under the Durable Power of Attorney, if you name more than one person, you should also make clear whether each person has the authority to act by himself or herself, or whether all signatures are required. There are pros and cons to both choices. If you name two people as your agents and either one of them can act without the other’s signature, then you are putting less of a burden on a single individual and tasks can be accomplished more efficiently. (One person can do the banking and sign the checks, for example. The other can manage the property.)
On the other hand, if each agent can act independently, your affairs may lack coordination and checks and balances as well. There will be no way to stop a dishonest agent from acting unilaterally or to prevent financial institutions from relying on that person’s actions.
What powers are included in the durable power of attorney?
Whatever powers you choose to include. The document you craft enumerates the scope of authority the designated agent will have. You can give him or her broad, general power, such as the authority to do anything with your assets that you, yourself, can do (as though the agent were you) without asking anyone else’s permission or the court’s permission. This can include the authority to borrow, to buy, sell, transfer and exchange assets or to gain access to your safety deposit box. It can include the authority to run your business, pay your bills, file your tax returns, make investment decisions, make gifts, contract services and deal with insurance and retirement transfers.
On the other hand, the powers might be very specific. You can make clear you are only giving him or her the authority to handle the sale of your home, or to transfer any assets that are in your name to your living trust.
For couples who own their assets jointly, the Durable Power of Attorney can be a very useful document because it provides accessibility to assets that would, under many state laws, become frozen if one partner were to become disabled or incapacitated. For many couples, the two most significant assets are the home and the retirement plans. Both of which might be frozen—if a Durable Power of Attorney has not been established—when one partner is disabled or incapacitated.
If, for example, you and your spouse own your home jointly with a right of survivorship and he dies, the ownership of the home will pass to you without the need of court approval. If, however, your spouse becomes disabled and lives, in most states you will not have the authority to sell, mortgage or transfer that home. Being married and having a joint title to the house does not give you the authority to sign his name and transact that asset.
Another asset that will become inaccessible is your spouse’s retirement plan. At your spouse’s death, if you are the beneficiary, then under contract law it will be paid to you. But, in most states, if your spouse becomes disabled or incapacitated, even though you are the spouse, you do not have the authority to make investment decisions, emergency withdrawals or roll the assets over. Only the plan holder has that authority, and when the plan holder loses the ability to act—absent a Durable Power of Attorney—his court appointed guardian (or conservator), which might be you, will have that authority.
In first marriages, it is very common to execute Durable Powers of Attorney with each partner naming the other as agent. Some then name their children as successor agents. In second marriages, however, the Durable Power of Attorney can be more problematic as the interests between one spouse and the adult children of the other spouse can compete. That is even more reason to give very careful thought to all the potential ramifications involved in selecting an agent and in deciding what type of authority you want that agent to have. If you have executed a prenuptial agreement, that may simplify the decision.
Healthcare power of attorney:
There are two types of Durable Power of Attorney documents, one that designates an agent to handle financial matters and another that authorizes an agent to make decisions about medical treatment. With the health care document (also known as a health care proxy)—as with the financial document—the agent’s responsibilities are specified ahead of time by you.
You can authorize someone to supervise your care, if you are incapacitated, to consent to have you undergo or to withdraw you from certain types of treatment, to make hospital or nursing care arrangements and employ or discharge care givers. The document can authorize everything from minor and routine medical involvement. It can give the agent access to all your medical records. It can also empower the agent to make such major decisions as whether to terminate your life.
As they do with the financial Durable Power of Attorney, in the health care area, couples usually designate each other to make medical care decisions and list their children as successor agents. For those clients without spouses or children (or who are looking for alternative possibilities), I stress that your health care agent must be someone you trust who shares your value system, who is willing to perform the task and who has a clear understanding of what your preferences are.
If one of your preferences is to die a natural death, you may want to draw up a living will to specify your intent. A living will is a declaration that, if there is no hope of recovery, you do not want to be kept alive by extraordinary medical treatment or put on life sustaining machinery. A living will gives your doctor permission to withhold or withdraw life support systems under certain conditions.
Not all states recognize the legal validity of the living will. Even if the state does not recognize it, it still may be an important document as it is a roadmap or indication of what you would want done if you were in a condition to tell medical authorities yourself.
“Do I have enough money?” That’s the first question I am asked by every spouse whose husband or wife died in the building phase of life. It is far better to ask the money questions long before your spouse dies:
These are all issues the estate planning process should be able to help you answer. For just as estate planning is designed to preserve your wealth by helping you avoid taxes wherever possible, it is also designed to help you create enough wealth to keep you and your loved ones financially secure.
Before you can understand how much money you need, you must figure out how much you have. Thus, the first step in creating wealth is determining how much money you make and what the value is of the investments you have and how much you will need in the future. This involves:
You should also consider the amount of money you will be able to save each year and how much you can reasonably expect that to appreciate.
Since most of us have financial obligations—present and future—which are greater than our available assets, we need to create wealth in order provide for our loved ones in the event of our death, or for ourselves, in the event of the death or disability of a loved one.
That’s where life insurance becomes an important component of estate planning.
Life insurance can be used to make up for a lost income, help pay the costs associated with an accident, pay off the mortgage, cover college tuition and retirement expenses or even keep a small business running.
You can even be creative about the benefits. Margaret and Bob wanted a friend Betty and Betty’s husband, Tim, to be the guardians of her children. Betty and Tim had two children of their own and a lifestyle that was comfortable but not luxurious. To ease both the financial burden and the stress that adding two children to Betty’s family would create, Margaret and Bob decided to bolster her estate with a life insurance policy and stipulated in their estate planning documents that if they died while the children were young, the insurance money should be used for their children and Betty and Tim’s children equally.
They wrote in a letter that she wanted the insurance money to pay for an annual vacation for the entire blended family—to Disney World, or some other place of the guardians’ choosing—and for summer camp, music lessons, dance lessons or summer vacations for each of the four children. Their goal was to use the extra wealth created by the insurance money to unify the blended family and to enable life to continue with a semblance of normalcy.
A life insurance policy can also build up your cash on a tax deferred basis. Cash value life insurance policies can offer access to accumulated cash values during life as well as a death benefit. For income tax purposes, the policy cash value is not taxed to you personally and continues to grow as long as it remains in the life insurance contract. It could create a solid cushion of funds for you to borrow against later if you needed it or to use to increase your income in retirement. In many states, the cash value of life insurance policies cannot be touched by your creditors. Just keep in mind that loans against the policy will accrue interest and policy loans or withdrawals will decrease the cash value and death benefit.
If you are married, life insurance can provide a way of compensating for the loss of either your income or your spouses, should one of you die during the building years. This will enable the surviving family members to maintain the same living standard, but only if you buy enough life insurance. Over the years, I’ve encountered many couples who are so awed by the total pay off a life insurance policy may provide that they do not do the math to figure out what the annual returns may be. It is my experience that you should not think of the face amount of the policy (for example, one million dollars) as the answer to the question of will your family have enough to live. Instead, the question should be if I have a million-dollar policy and it is invested after my death, what income will that generate? Will that income be enough to sustain my family? For most clients I have worked with, the answer is no—it is not sufficient to replace the lost income.
Life insurance is also a helpful security measure if you have a business partnership and are worried about what will happen to the business if something happens to either you or your partner. In most businesses, neither partner wants the other’s family involved in the business but, at the same time, each partner wants to be sure that if they died, their family would be provided for. This dilemma can be solved by a buyout agreement, backed up by life insurance policies. These policies (through the ownership and designation of beneficiaries) can specify that if either partner dies, the surviving partner is obligated to collect the life insurance and use it to pay the family of the deceased for the deceased partner’s share of the business.
Another way to use life insurance to help sustain a business in the event of one partner’s death is to take out a smaller policy on each partner’s life that would be owned by and payable to the company. This could be used to provide emergency cash and fund a salary for a temporary replacement of the deceased partner.
Once you put your insurance plan in place, do not consider it set in stone. It needs to grow and change with you and be evaluated on an ongoing basis as your life, the tax laws and your family change. It is interesting that twice in the past few years, I have seen the industry wide cost of life insurance come down—even though the applicant is older. This is because the life insurance industry readjusts its pricing periodically based on actuarial evidence of life expectancy. Combine this with the fact that the life insurance industry is very competitive, forcing them to bring new, improved and more cost-effective products to the marketplace.
The cost of purchasing life insurance increases as you age and as you develop health issues. Policies cost more, after all, as life expectancy shortens. Nonetheless, many people in their 40s, 50s and 60s buy life insurance policies to create wealth. They just pay more than they would to purchase a similar policy at a younger age.
Tips and pitfalls:
Who should you choose to be your child’s guardian?
That, I’ve found in my 30 years of estate planning, is the most difficult question for couples to agree on and the most common reason they keep revising their estate planning documents.
Factors to consider in selecting guardian(s) include the maturity of the person, whether he or she has a true concern for your children’s welfare and whether he or she has the ability and time to handle the extra responsibilities. What would adding your children to that person’s household do to all concerned? Does he or she have children close to the ages of yours? Does he or she share your religious focus, moral beliefs and overall value system? Is he or she willing to take on the responsibility of raising your children?
This is a legal responsibility. The guardian will decide everything from where your children live, to what schools they attend, where they worship and what kind of medical care they get.
My suggestion is to come to as good a decision as you can, knowing that you can always change it. But make that decision now. If you put off choosing a guardian and you both die while your children are minors, anyone who is interested can ask the court to be appointed guardian. The judge will then decide—without the benefit of your input—who will do the best job of raising your children. The person the judge chooses may not even be someone on your “short list” of possibilities!
A person or a couple?
Do you want to name your sister as your child’s guardian, or should you name your sister and her husband? There are pros and cons on either side of that decision. If you name just one, the other may harbor resentment and never fully participate in your child’s upbringing. On the other hand, if you name both people in the couple to be guardians and they divorce, then your child will be part of that divorce proceeding.
Name successor guardians, if possible. Your first choice may not be in the right phase of life to act, because of divorce, disability, financial hardship, or problems with his or her own teenagers and having successors named makes it easier for everyone.
In addition to appointing guardians to take care of your children, you must appoint trustees to manage funds for the children’s benefit. My bias is not to name the guardian as the sole trustee. There is too much risk that the lines will blur and the children’s funds may be used to pay for more of the household expenses than they should. It could also work the other way. Sometimes if the guardian is the sole trustee, the guardian may not feel comfortable using any of the funds for the increased household expenses and resentment builds up because the guardian is shouldering more financial responsibility for the increased household expenses than he can or should bear. For those reasons I advise having more than one trustee (with the guardian serving as one, but not the only, trustee). Decisions will come along, such as moving to a larger home. (Should your children’s funds be part of that? If so, do they ever come back to the children? When will they come back? When the house is sold? When the guardians die?) If the guardian has children and they are not able to attend the same schools as your children (because, due to your death, your children have more assets), what happens then? Should the trust funds be used to pay for the tuition of the other children so that resentment does not ensue? The guardian is doing you and your children a real favor by taking the children on and bringing them up. Should the guardian be compensated? If so, by how much? These are the kinds of decisions that the trustees who oversee the money will be making. Those decisions should be made with input from the guardian, but there should be checks and balances built into the system.
I recommend that, in addition to the legal documents, each year you write a memo to the trustees and put that memo in a sealed envelope that is left with your original documents. In that memo, I encourage you to be open about what you see as each child’s strengths and weaknesses, what you value, what you wish your children to enjoy, where you feel it is appropriate to spend funds and what things you do not consider it appropriate to spend money on. Everyone has a different sense of what is appropriate for education—for example, public school, private school, boarding school, military school or parochial school. You cannot assume that others will automatically know your preference. It is your responsibility to provide as much guidance as you can. The guardian and the trustee will feel much more comfortable exerting authority when they know it is in line with what you would have done. Each time you prepare the informal annual memorandum about your child, you may choose to shred the prior year’s memo and keep provisions that may no longer be appropriate private and confidential.
How much money is enough?
When the children are young and your wealth is building, you may want to create wealth through life insurance to make sure that there will be enough—if you die—to clothe, feed, house them and assure they will have the educational opportunities you want them to have. In determining the amount of life insurance to put in place, many people calculate the cash needs by first estimating any funeral expenses, debts and unpaid mortgages. Then estimate what would have to be put aside to pay for college. The next step is to calculate how much would be required on an annual basis to cover living expenses for the children, and then to estimate how many years that annual expense would be needed.
If you estimate that the children (and guardian) would need $60,000 per year to maintain their present lifestyle (assuming any mortgage has been paid off and assuming that the college tuition has already been set aside) and that that money would be needed for twenty years, then you would need to have wealth or life insurance in the approximate amount that will earn this income to cover those expenses. If you wanted to buffer this by making sure the guardian had an additional sum to do what he or she pleases, then that also should be factored in.
When you are in the building phase of your life, it is important to begin the planning process to protect your family and your wealth. All of us are very busy and would rather put this on the checklist for tomorrow, and then tomorrow and then tomorrow. The time to begin to plan is now. Take the first step and stay on the planning path through life.
This document is provided for informational purposes only. Patricia Annino is not an employee or agent of New York Life Insurance Company and is solely responsible for the content of this material. This material is not a recommendation or a solicitation of any specific insurance or securities products. New York Life Insurance Company, its agents and employees may not provide tax, legal or accounting advice. Clients should consult their own professional advisors before implementing any planning strategies.