Updated August 11, 2020 What happens after you die? I mean literally, what’s going to happen when you die? What’s going to happen to your family, your car, your house, your bank account, your beloved pet cat?
Estate planning, at its core, is the process of answering those questions while you’re still alive. Creating a set of legal documents that lays out your wishes makes things easier on your family and can help avoid a protracted process of closing out your estate.
We're going to focus on the basic elements of one aspect of estate planning – namely, the documents that give legal force to your wishes of how you’d like to divide your estate. For many people, the majority of their estate planning can be done through a single document: a last will and testament. For more complicated estates, you want to start looking into the different kind of trusts – an excellent complement to wills.
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Why should I create an estate plan?
If you die without an estate plan, the state will create one for you. There are some basic laws on the books about this, but basically, there are rules as to who is allowed to receive your estate. Based on who is actually around – a spouse, children, other relatives – the state will methodically move through your family tree until they find a suitable beneficiary.
It can become a long, painful, and expensive process for your grieving family. It can also leave some family members feeling left out. Say, perhaps, you always meant to leave your great-grandmother’s diary to your younger brother. Without a specific legal document enforcing that, your brother has no right to that diary. This is just one example, but I bet you can already think of one or two items of property that you’d like to leave specific wishes for.
You may also have a complicated wish that you want third-party enforcement for, or want to leave assets in such a way that avoids the probate process altogether. That’s where a trust comes in. We’ll get into more specific examples later on.
A will is the most basic document of any estate plan. Everybody should have a will. With a will, you can do things like:
- Charge an executor with managing your estate, paying taxes and bills, and distributing property
Give certain assets and property to family members or other beneficiaries
Declare a guardian for your children
Declare where and how you want to be buried
For most young people without a large estate, a simple will is an adequate estate plan. You may choose to simply leave everything your domestic partner, spouse, or to your parents or adult sibling, except for a few specific gifts.
You don’t even have to visit a lawyer’s office to write a will – you can create one online — and we can help! Protect your family and your finances, all with one app. Sign up here.
Limitations of wills
One of the most important things to remember about a will is that it is a loose guideline. Your estate will still have to go through the probate process – the process of distributing and closing out your estate – which will actually decide the final numbers. During the probate process, your executor will pay off your debts and pay estate taxes. If your executor has to sell property in order to pay those debts and taxes, they will. During the probate process, family members or other beneficiaries can also challenge the will, which may lead to some of your wishes being changed.
This is why many people turn to trusts in order to carry about specific wishes. Trusts are usually not subject to the probate process, and are largely protected from legal challenges after your death. A term life insurance policy is another good way to get around probate. The payout from a term life insurance policy is not subject to probate or (usually) taxes, and can be payed out to any person above the age of 18 or entity, such as a charity, without legal challenge. You can also combine a term life insurance policy with a trust in order to leave a nest egg for your child.
You should also note that you cannot leave jointly owned property through a will – jointly owned property has its own rules for transfer of ownership.
Read more about how life insurance works when you have a will.
Trusts are a lot like wills – they’re legal documents designed to carry out your will after you die – but they come with some pretty specific benefits. For starters, trusts are designed so that a third party – the "trustee" – enforces the wishes you put in place for the beneficiary of the trust – the person who will actually receive the assets in question.
There are a lot of different kinds of trusts, and each has a particular purpose. Your estate plan may be made of any combination of multiple trusts, or may feature just one trust that serves a specific need. When deciding which type of trust you need, make sure to discuss the issue with your lawyer and financial advisor (or, get a lawyer and a financial advisor).
The most common type of trust is something called a revocable living trust. A revocable living trust allows you to use the assets in the trust while you’re still alive. Additionally, you can change the assets named in the trust at any time (while you’re still mentally competent). Like other types of trusts, revocable living trusts usually don’t have to go through probate, and therefore are largely protected from legal challenges.
Revocable living trusts are usually still subject to estate taxes – if you’re looking to avoid estate taxes entirely, ask your lawyer about an irrevocable trust. Note that once you place assets in an irrevocable trust, you lose access to those assets – you’re moving them out of your estate and into the care of the trust.
There are other types of trusts, as well, some of which have very specific purposes. For example, there are trusts designed for parents of special needs children who do not have the capacity to handle their own finances or care. In some states, you can even set up a trust to provide for the care of a cat, dog, or other pet. This is my personal favorite kind of trust.
Creating a trust allows you to set conditions for the beneficiaries. For example, you may set aside $500,000 for your son to start a business. The trustee will ensure that the trust’s beneficiary – your son – actually uses those funds on legitimate business expenses. Trustees don’t have to be police officers, so to speak – your trustee may be your lawyer, or perhaps your financial advisor, and in this example could potentially act as an advisor to your son.
Terms of trust can be modified after you die, but this may require court approval.
Trusts can be relatively simple. For example, because it is often illegal to pass assets on to minor children, you may use a trust to hold a sum of money or property for your children until they turn 18. This is especially convenient when purchasing term life insurance. After you set up a trust for your minor children, you can name the trust a beneficiary of your life insurance policy. If you die while the policy is in force, the trust will hold onto the payout until your children come of age. If you don’t die, you can dissolve the trust.
If you’re interested in setting up a trust, you’ll want to talk to your lawyer. Setting up a trust can cost a few thousand dollars, depending on the type of trust and where you live.
Read more about the difference between trusts and wills.
Limitations of trusts
On the surface, trusts seem a lot more useful than wills. But almost everybody still needs a will, because trusts cannot do essential things like:
Name a guardian for your children
Name an executor
Leave instructions on how taxes and debt should be paid
Additionally, trusts are more complicated to make than wills and cost more money to create. While this shouldn’t deter you from making a trust if you need it, you should understand its purpose in your estate plan relative to your will. Most lawyers creating a trust would also do your will at the same time.
Have estate planning on the brain? If you’ve been thinking about your estate plan, but haven’t put pen to paper yet, check out our app, which does all of the heavy lifting for you. And, of course, make sure you discuss your estate plan with your spouse, domestic partner, or family members. If you need an example of why it’s a bad idea to withhold the details of your estate plan from family members, go watch Manchester by the Sea.
Image: Serhat Beyazkayah