What Is An Estate Plan? (And 10 Reasons You Need One)
What is an estate plan and why is it important? These 10 reasons will help you better understand your estate planning needs.
There is a common misconception that estate planning is only for the wealthy. It is true that higher income earners benefit from the tax advantages of estate planning along with other financial products in their portfolio. But everyone can use some degree of estate planning. The plans are tailored to the individual.
And even though it forces an individual to consider his or her own death, it also invites them to think about their heirs and the benefits they will receive. The process maximizes the amount of wealth a person has that can be transferred to the next generation.
What things should you think about regarding the creation of an estate plan? The plan should cover the assets you own as well as the factors that can reduce their value, like taxes, insurance, and debts. But insurance adds the value of protection.
You also need to decide who will receive the benefits of your estate and whether you want to continue managing your account or turn it over to someone else to manage.
Here is a checklist of the items considered fundamental to a good estate plan.
1. Cover the Basics
A good estate plan should cover what happens in the event of both death and disability and how your heirs will be financially protected. There are many important decisions to make. How can your estate minimize taxes and avoid probate? Who will be your beneficiaries and how will assets be distributed? How do you want your property handled? Who will watch out for your minor children? And how do you want medical treatment to be administered? These are fundamental concerns that we all have that should be addressed long before impending death or disability will have a seriously negative impact on our family.
2. Understand Tax Implications
The law allows you to give away or leave substantial amounts of property tax-free. So, most estates don’t owe federal estate taxes or gift taxes. These two are essentially one tax called the “unified gift and estate tax.”
For deaths in 2018, estates can leave or give away a total of up to $11.2 million before they need to pay taxes. This amount will rise each year with inflation. This is the personal estate tax exemption. If your estate is worth less than this exemption, you will not owe a federal estate tax when you die. 99.9% of estates fall into this category. The amount of this personal exemption may be reduced if you have made taxable gifts during your life.
Married couples are allowed to transfer up to twice the exempt amount tax-free. All assets you leave to a spouse (U.S. citizen) or tax-exempt charity are exempt from the tax as well.
3. Plan Ownership of Your Assets
Assets that have title documents are set up to be automatically transferred upon your death to a co-owner, typically a spouse. These assets include real estate, motor vehicles, etc.
The title document should indicate that ownership is held jointly with rights of survivorship. If the property exceeds a certain amount of value, it might trigger a federal gift tax.
4. Designate Your Beneficiaries
For some assets, you can specify who will receive the property upon your death without first giving them ownership rights. This is usually done through a “pay-on-death” directive (e.g. financial accounts) or a “transfer-on-death” directive (e.g. real estate or motor vehicles).
5. Obtain Insurance for Debts
It is advisable to have insurance in the event of death or disability for debts including life insurance, disability insurance, burial expenses, and auto insurance.
Insurance can be costly but probably a lot less than the added expense to your family of having to pay off large debts they may occur upon your death.
6. Draw Up a Last Will and Testament
The property must be probated upon your death unless you have a last will and testament. You can specify how assets can be distributed (if joint ownership has not already been established). You can specify guardianship for your minor or disabled children. And you can appoint someone you trust as the executor of your estate.
7. Consider the Appointment of a Financial Power of Attorney
You can authorize someone to act on your behalf in financial matters. As the person giving the authority, you are called the principal, and the person you give authority to is called the agent or attorney-in-fact.
The power of attorney (POA) can become effective immediately or upon some event in the future such as your mental incapacity. If effective in the future, it is called “springing” power of attorney. The authority granted by POA ends with the death of the principal.
8. Consider the Appointment of a Health Care Power of Attorney
Similar to a financial POA, a healthcare POA can make decisions regarding your health in the event you are physically or mentally unable to make decisions for yourself. You should consult with your healthcare POAon your desires for future medical treatment.
In addition to the healthcare POA, you can create a living will that sets forth directions on whether you want life-prolonging treatment if you become terminally sick or injured and unable to communicate your wishes.
In some states, the healthcare POA document and the living will document are combined into a single “advance health care directive.”
9. Consider a Living Trust
To avoid probate, many people consider a revocable living trust in which you transfer your property to a trust and you become the trustee. While you are alive, you control the trust and you appoint a successor who will control the trust after you die. You can designate trust beneficiaries who will receive your property upon your death. You may revoke the trust at any time or add or remove property at any time.
Or, if you wish, you can establish an irrevocable living trust (typically used for Medicaid planning). This also avoids probate but you have to give up the right to revoke it.
10. Create a Business Plan
If you own a business, you should create a business succession plan to lay out the steps that should be followed in the event of your death including naming a successor or business transactions that should be executed. If you are in business with others, you should establish a buyout agreement.
An estate plan is a good way to make sure that your business and your family’s future are protected from government dilution through court and federal tax processes when you die.
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