Principles of Estate Planning, 3rd Edition

By Carolynn Tomin and Colleen Carcone

The Principles of Estate Planning, 2nd Edition is newly revised with updated information on the most current developments in the estate planning field, including ATRA-related tax changes, the use of the new ABLE accounts for medical expenses planning, information on the use of trust protectors, and planning techniques that can be used for newly recognized same-sex marriages.

The book is a complete single-volume source that covers all aspects of estate planning, from the basic principles of property transfers to complex financial techniques that can be used to deal with a wide variety of client circumstances. The authors bring a wealth of experience in both professional and academic arenas that help students understand the concepts that are critical for achieving important professional designations as well building a successful practice with real-world examples of common estate planning problems.

This textbook allows students to work with the most current information, thus helping to gain a better understanding of how to advise clients in the real-world using real numbers. Teach your students using the most up-to-date estate planning textbook on the market.

The authors, Carolynn Tomin and Colleen Carcone, fully address all of the CFP® Certification Examination Principal Topics for Estate Planning. In addition to this on-target approach, Principles of Estate Planning features:
• Content that is systematically organized into subtopics to help simplify the understanding and retention of complex material
• "Chapter Contents" that outline the topics addressed in each chapter
• "Learning Objectives" in each chapter that provide topic focus
• "Client Situations" that present practice scenarios and illustrate the practical application of key concepts in client situations
• "Practitioner Tips" that provide practical advice and guidance
• "Practice Standards" that highlight the related steps in the financial planning process from CFP Board's "Standards of Professional Conduct"
• Chapter summaries, key terms, and review questions that aid recall, retention, and review of the topics
• And much more!

• Language: English
• Publisher: The National Underwriter Company
• Release date: Oct 17, 2018
• ISBN: 9781949506051

Book preview

Planning.

SUMMARY TABLE OF CONTENTS

Foreword

Preface

About the Authors

Acknowledgments

Chapter 1: Introduction to Estate Planning

Chapter 2: Property Interests

Chapter 3: Community Property

Chapter 4: Methods of Property Transfer at Death

Chapter 5: The Probate Process

Chapter 6: Wills

Chapter 7: Incapacity Planning

Chapter 8: Trusts

Chapter 9: Income Taxation of Trusts, Estates, and Beneficiaries

Chapter 10: Gifting Strategies

Chapter 11: Gift Tax Calculation

Chapter 12: Gifts to Minors

Chapter 13: The Gross Estate

Chapter 14: Estate Tax Calculation

Chapter 15: The Marital Deduction

Chapter 16: Marital Trusts

Chapter 17: Charitable Transfers

Chapter 18: State Death Tax Deduction

Chapter 19: Generation-Skipping Transfer Tax

Chapter 20: Powers of Appointment

Chapter 21: Life Insurance Planning

Chapter 22: Irrevocable Life Insurance Trusts

Chapter 23: Estate Planning with Retirement Benefits

Chapter 24: Estate Freeze Strategies

Chapter 25: Intra-family and Other Business Transfer Techniques

Chapter 26: Family Limited Partnerships and Limited Liability Companies

Chapter 27: Business Planning Strategies

Chapter 28: Estate Planning for Non-traditional Relationships

Chapter 29: The Intersection of Income and Estate Tax Planning

Chapter 30: Common Estate Planning Considerations

Appendix A: Tax Rate Schedules

Appendix B: Valuation Tables

Glossary

Index

DETAILED TABLE OF CONTENTS

Foreword

Preface

About the Authors

Acknowledgments

Chapter 1: Introduction to Estate Planning

Overview

Who Needs an Estate Plan?

Situations That Require Advanced Estate Planning

The Estate Planning Process

Step 1: Understanding the Client’s Personal and Financial Circumstances

Step 2: Identifying and Selecting Goals

Step 3: Analyzing the Client’s Current Course of Action and Potential Alternative Courses of Action

Step 4: Developing Recommendations

Step 5: Presenting Recommendations

Step 6: Implementing Recommendations

Step 7: Monitoring Progress and Updating the Plan

The Unauthorized Practice of Law

The Financial Planner’s Role

Financial Planner Responsibilities

Fiduciaries

Executor Responsibilities

Trustee Responsibilities

Chapter Highlights

Key Terms

Review Questions

Chapter 2: Property Interests

Overview

Sole Ownership

Income Tax Considerations

Estate Tax Considerations

Tenancy in Common

Income Tax Considerations

Gift Tax Considerations

Estate Tax Considerations

Joint Tenancy with Right of Survivorship

Considerations during Lifetime

Considerations at Death

Joint Tenancy with Right of Survivorship with Nonspouses

Income Tax Considerations

Gift Tax Considerations

Estate Tax Considerations

Joint Tenancy with Right of Survivorship with Nonspouses

Income Tax Considerations

Gift Tax Considerations

Estate Tax Considerations

Tenancy by the Entirety

Life Estates and Remainder Interests

The Life Tenant’s Interest

The Remainder Beneficiary’s Interest

Income Tax Considerations

Gift Tax Considerations

Estate Tax Considerations

Estate for a Term of Years

Digital Assets

Chapter Highlights

Key Terms

Review Questions

Chapter 3: Community Property

Overview

Community Property Interests

Non-community Property Interests

Tax Considerations

Income Tax Considerations

Gift Tax Considerations

Estate Tax Considerations

Moving between Community Property States and Non-community Property States

Quasi-community Property

Community Property Considerations with Life Insurance

Community Property Considerations for Same-sex Couples and Domestic Partnerships

Chapter Highlights

Key Words

Review Questions

Chapter 4: Methods of Property Transfer at Death

Overview

Assets That Pass by Probate

Property Transferred by Will

Intestacy

Assets Paid to the Estate

Assets That Pass by Operation of Law

Jointly Held Assets and Tenancy by the Entirety

Life Estates and Estates for a Term of Years

Totten Trust, POD, TOD

Transfers through Trusts

Transfers by Contract

Assets That Pass by Beneficiary Designation

Prenuptial and Postnuptial Agreements

Buy/Sell Agreements

Deeds of Title

Chapter Highlights

Key Terms

Review Questions

Chapter 5: The Probate Process

Overview

Steps in the Probate Process

Appointment of the Personal Representative

Providing Notice to Creditors

Collecting the Assets

Valuation of the Estate

Managing the Estate

Payment of Taxes, Debts, and Expenses

Distributing Remaining Assets

Ademption and Abatement Statutes

Advantages and Disadvantages of Probate

Ancillary Probate

Intestate Succession

Probate Avoidance Strategies

Operation of Law

Beneficiary Designations

Trusts

Chapter Highlights

Key Terms

Review Questions

Appendix 5A: Executor’s Primary Duties

Chapter 6: Wills

Overview

An Introduction to Wills

Disposition of Property under a Will

Per Capita and Per Stirpes

Limitations of Wills

Property Passing by Will

Community Property Considerations

Pretermitted Heirs

Elective Share Statute

Will Provisions and Clauses

Introductory Clause

Payment of Expenses, Debts, and Taxes

Powers Clauses

Appointment of Fiduciaries

Guardian of Minor Children

Legal Requirements

Testamentary Capacity

Types of Wills

Will Contests

Modifying or Revoking a Will

Reasons for Updating a Will

Tax Implications of Wills

Estate Tax

Income Tax

Chapter Highlights

Key Terms

Review Questions

Chapter 7: Incapacity Planning

Overview

Documents to Plan for Incapacity

Revocable Trust

Powers of Attorney

Powers of Attorney for Financial Matters

Powers of Attorney for Health Care

Living Will

Special Needs Trusts

ABLE Act

Medicare and Medicaid Planning

Social Security Disability

Medicare

Medicaid

Legal Aspects of Incapacity Planning

Guardianship

Conservatorship

Chapter Highlights

Key Terms

Review Questions

Chapter 8: Trusts

Overview

Parties to a Trust

Grantor

Trustee

Trust Protectors

Trust Beneficiaries

Remainder Beneficiaries in Trust

Trust Classification

Simple Trusts versus Complex Trusts

Revocable Trusts versus Irrevocable Trusts

Common Types of Trusts and Trust Provisions

Distribution Provisions

Spendthrift Provisions or Spendthrift Trust

Trust Jurisdiction or Situs

Rule Against Perpetuities

Pour-over Trust

Chapter Highlights

Key Terms

Review Questions

Chapter 9: Income Taxation of Trusts, Estates, and Beneficiaries

Overview

Income Taxation of Trusts and Estates

Taxation of Simple Trusts

Taxation of Complex Trusts

Grantor Trust Rules

Income Taxation of Estates

Income Tax Considerations for Beneficiaries

Income in Respect of a Decedent

Taxation of IRD Assets

Chapter Highlights

Key Terms

Review Questions

Chapter 10: Gifting Strategies

Overview

Gifting Strategies

Parties to a Gift

Non-tax Advantages of Gifting

Tax-oriented Advantages of Gifting

Best Property to Gift

Best Property to Keep

Pros and Cons of Gifting

Purpose and Nature of the Gift Tax Law

The Gift Tax

Elements of a Gift

Direct and Indirect Gifts

Present and Future Gifts

Completed Transfers

Incomplete Gifts in Trust

Relationship of the Gift Tax System to the Estate Tax System

Cumulative and Progressive

Unified Credit

Marital and Charitable Deductions

Gift and Estate Tax Differences

Gift Tax Relationship to Income Taxes

Determining the Basis of Gifted Property

Gift Tax Paid

Chapter Highlights

Key Terms

Review Questions

Chapter 11: Gift Tax Calculation

Overview

Valuation of Gifts

Steps to Calculate Taxable Gifts

Is This Transfer a Gift?

Exempt Gifts

Gift Splitting

Annual Exclusion

Future-interest Gifts

Marital and Charitable Deductions

Unlimited Marital Deduction

Non-citizen Spouse

Terminable Interest Property

Terminable Interest Property Exceptions

Estate Tax Implications

Charitable Deduction

Computing Taxable Gifts

Computing Gift Tax Payable

Step 1: Compute Tax on All Taxable Gifts

Step 2: Compute Previous Years’ Taxable Gifts

Step 3: Compute Current Tentative Tax

Step 4: Gift Tax Credit Remaining

Step 5: Gift Tax Payable

The Gift Tax

Cumulative and Progressive

Estate Tax Implications

Filing a Gift Tax Return

Payment of Gift Taxes

Net Gift

Chapter Highlights

Key Terms

Review Questions

Chapter 12: Gifts to Minors

Overview

Advantages of Gifting to Minors

Estate Tax Advantage

Gift Tax Advantage

Generation-skipping Transfer Tax Advantage

529 Plan Advantage

Income Tax Advantage

Disadvantages of Gifting to Minors

Code Section 2503(b) Trust

Code Section 2503(c) Trust

Uniform Gifts/Transfers to Minors Acts

UGMA and UTMA Custodial Accounts

Kiddie Tax Rules

Kiddie Tax Calculation

Earned Income

Income Shifting Techniques

Chapter Highlights

Key Terms

Review Questions

Chapter 13: The Gross Estate

Overview

The Gross Estate

Fair Market Value

Alternate Valuation Date

Property Owned Outright (I.R.C. §2033)

Tangible Property

Intangible Property

Income in Respect of a Decedent

Pension Benefits

Annuities (I.R.C. §2039)

Life Insurance (I.R.C. §2042)

General Power of Appointment (I.R.C. §2041)

Trusts

Revocable Trust

Irrevocable Trust

Jointly Owned Property (I.R.C. §2040)

Tenancy by the Entirety

Community Property

Dower and Curtesy (I.R.C. §2034)

Joint Tenancy with Right of Survivorship (JTWROS) with Spouses

JTWROS with Nonspouses

Joint Bank Accounts

Tenancy in Common

Transfers with Retained Property Interests

Life Estate (I.R.C. §2036)

Reversionary Interest (I.R.C. §2037)

Revocable Gifts (I.R.C. §2038)

Property Transferred within Three Years of Death (I.R.C.§2035)

The Three-year Rule

The Gross-up Rule

Chapter Highlights

Key Terms

Review Questions

Appendix 13A: Federal Estate Tax Calculation

Chapter 14: Estate Tax Calculation

Overview

The Gross Estate

Determining the Adjusted Gross Estate

Funeral Expenses

Administrative Expenses

Debts, Mortgages, and Liens

Taxes

Casualty and Theft Losses

Determining the Taxable Estate

Marital Deduction

Charitable Deduction

State Death Tax Deduction

Determining the Tentative Tax Base

Computing the Tentative Tax

Gift Taxes Paid or Payable

Determining Federal Estate Tax Payable

The Unified Credit

Other Tax Credits

Estate Tax Calculations

Example 1: Estate with No Lifetime Taxable Gifts

Example 2: Estate with Lifetime Taxable Gifts

Example 3: Gross-up Rule

Example 4: Transfer under I.R.C. §2036

Filing an Estate Tax Return

Payment of the Tax

Chapter Highlights

Key Terms

Review Questions

Chapter 15: The Marital Deduction

Overview

Marital Deduction Qualifications

Estate Tax Marital Deduction

When a Marital Deduction Is Available

Jointly Owned Property

Survivorship Benefits

Life Insurance Owner/Insured

Policy Owner Is Not the Insured

When a Marital Deduction Is Not Available

Terminable Interest Property

QTIP Exception

General Power of Appointment Exception

Other Terminable Interest Property Exceptions

Non-citizen Spouse

Qualified Disclaimer

Requirements

Disclaimer Trust

Strategies Using a Qualified Disclaimer

Disclaimer Planning for Spouses

Chapter Highlights

Key Terms

Review Questions

Chapter 16: Marital Trusts

Overview

The Unified Credit

The Bypass Trust

Bypass Trust and the Marital Deduction

Marital Trusts

Marital Trust with a General Power of Appointment

QTIP Trust

Estate Marital Trust

Portability

Drawbacks of Portability

Marital Planning Techniques

Estate Equalization

Bypass Trust with Estate Equalization

Bypass Planning versus Portability

Chapter Highlights

Key Terms

Review Questions

Chapter 17: Charitable Transfers

Overview

What Is a Charity?

Public Charities

Private Foundations

Tax Considerations of Charitable Gifts

Income Taxation of Charitable Gifts

Charitable Transfers at Death

Charitable Techniques

Direct Gifts to Charity

Qualified Charitable Distributions (QCDs)

Donor-advised Funds

Private Foundations

Split-interest Charitable Transfers

Charitable Remainder Trusts

Charitable Lead Trusts

Pooled Income Funds

Charitable Gift Annuities

Charitable Remainders

Chapter Highlights

Key Terms

Review Questions

Chapter 18: State Death Tax Deduction

Overview

History

State Estate Tax Considerations

Sponge Tax States

State Estate Tax

Inheritance Tax

State QTIP Planning

Chapter Highlights

Key Terms

Review Questions

Chapter 19: Generation-Skipping Transfer Tax

Overview

GST Planning Considerations

Generation Assignment

Skip Persons

Direct Skips

GST Taxes for Lifetime Direct Skips

Calculating the GST Tax for Lifetime Transfers

Allocation of the GST Exemption

Calculating the GST Tax for Transfers at Death

Payment of the GST Tax for Direct Skips

Indirect Skips

Taxable Distributions

Taxable Termination

Multigenerational Planning

Reverse QTIP Election

Chapter Highlights

Key Terms

Review Questions

Chapter 20: Powers of Appointment

Overview

Powers of Appointment

General Powers of Appointment

Tax Implications for the Holder of a General POA

Special or Limited Powers of Appointment

Ascertainable Standard

5-and-5 Powers

Gift Tax

Crummey Powers

Crummey Notice

Crummey Withdrawal Amounts

Crummey Lapses

Solving the Excess Lapse Problem

Chapter Highlights

Key Terms

Review Questions

Chapter 21: Life Insurance Planning

Overview

Life Insurance Needs

Types of Policies for Individuals

Term Insurance

Permanent Insurance

Whole-life Insurance

Universal Life Insurance

Variable Life Insurance

Survivorship Life Insurance

Parties to a Life Insurance Policy

Incidents of Ownership

Life Insurance Policy Valuations

Estate and Probate Consequences of Ownership

Owner-insured

Owner Is Not the Insured

Three-year Rule

Gift Taxation for Policies Transferred to Individuals

Calculating the Taxable Gift

Chapter Highlights

Key Terms

Review Questions

Chapter 22: Irrevocable Life Insurance Trusts

Overview

Estate Liquidity

Sources for Estate Liquidity

Irrevocable Life Insurance Trust

Advantages of an ILIT

Disadvantages of an ILIT

Types of ILITs

Funded ILIT

Unfunded ILIT

Gift Tax Considerations

Gift Splitting

Annual Exclusions and the Crummey Powers

Crummey Not Limited to 5-and-5

Estate Tax Considerations

Avoiding the Three-Year Rule

Grantor as Trustee

Income Tax Considerations

Spouse as Beneficiary of an ILIT

Gift Tax

Estate Tax-Surviving Spouse

Estate Tax Exceptions

Estate Tax -Decedent Spouse

Credit Shelter Trust Buys a Life Insurance Policy on the Surviving Spouse’s Life

Dynasty Trusts

Avoiding GST Tax

Estate Tax

Chapter Highlights

Key Terms

Review Questions

Chapter 23: Estate Planning with Retirement Benefits

Overview

Income Taxation of Retirement Plan Benefits

Beneficiary Designations

Surviving Spouse as Beneficiary

Non-spousal Beneficiary

Estate as Beneficiary

Trust as Beneficiary

Bypass Planning with Retirement Assets

Charitable Planning with Retirement Assets

Chapter Highlights

Key Terms

Review Questions

Chapter 24: Estate Freeze Strategies

Overview

I.R.C. Chapter 14 Requirements

Section 2701 Preferred Stock Recapitalization

Grantor Retained Income Trusts (GRITS)

Advantages of a GRIT

Qualified Transfers in Trust

GRATS and GRUTs

The Income Term

Qualified Annuity Interests

Zeroed-out GRAT

Qualified Unitrust Interests

Personal Residence Trusts (PRTs)

Qualified Personal Residence Trusts (QPRTs)

Advantages of GRATs, GRUTs, and QPRTS

Disadvantages of GRATs, GRUTs, and QPRTs

Chapter Highlights

Key Terms

Review Questions

Chapter 25: Intra-family and Other Business Transfer Techniques

Overview

Installment Sales

Income Tax Consequences

Gift Tax Consequences

Estate Tax Consequences

Self-cancelling Installment Notes

Tax Consequences of a SCIN

Private Annuities

Tax Consequences of the Private Annuity

Intra-family Loans

Tax Consequences of Intra-family Loans

Bargain Sales

Sale- or Gift-leaseback

Tax Consequences of the Gift- or Sale-leaseback

Intentionally Defective Grantor Trusts

Tax Consequences of IDGTs

Chapter Highlights

Key Terms

Review Questions

Chapter 26: Family Limited Partnerships and Limited Liability Companies

Overview

Family Limited Partnerships

General and Limited Partners

Benefits of an FLP

Valuation Considerations

Minority Discounts

Marketability Discounts

Income, Gift, and Estate Tax Considerations

Limited Liability Companies (LLCs)

LLCs Compared to FLPs

Income, Estate, and Gift Tax Considerations

Chapter Highlights

Key Terms

Review Questions

Chapter 27: Business Planning Strategies

Overview

Planning with Life Insurance

Key Person Life Insurance

Split-dollar Life Insurance

Salary Increase or Selective Pension Plan

Business Succession Planning

Business Continuation Agreements

Advantages of a Buy-sell Agreement

Establishing the Value of a Business

Stock Redemption Plan

Tax Implications of a Stock Redemption Plan

Cross-purchase Agreement

Hybrid Business Continuation Agreements

Business Continuation Plans for Partnerships

Postmortem Elections for Business Owners

Section 303 Stock Redemption

Qualifications for Section 303 Redemption

Installment Payment of Estate Taxes

Qualifications for Code Section 6166

Special Use Valuation

Qualifications for Code Section 2032A

Chapter Highlights

Key Terms

Review Questions

Chapter 28: Estate Planning for Non-traditional Relationships

Overview

Estate Planning for Unmarried Partners

Components of a Comprehensive Estate Plan

Legal Documents

Wills

Durable Powers of Attorney

Domestic Partnership Agreements

Property Interests

Joint Tenancy with Right of Survivorship

Tenancy in Common

Considerations of Home Ownership

TOD and POD Accounts

Gift Taxes

Liquidity Planning with Life Insurance

Trusts

Revocable Trusts

Bypass (Credit Shelter) Trusts

Split-interest Trusts

Terminating Relationships

Providing for Children

Divorce

Child Support

Meeting Support Obligations

Trusts

Adoption

Death of a Parent

Chapter Highlights

Key Terms

Review Questions

Chapter 29: The Intersection of Income and Estate Tax Planning

Overview

Structuring a Tax Efficient Legacy

Tax Efficient Income

Lifetime Gift Considerations

Gifts to Individuals

Making Gifts to Maximize Legacy

Life Insurance Planning

Less Concern for Making Taxable Gifts

Basis Considerations

GST Tax Considerations

Charitable Gifts

Planning at the First Spouse’s Death

Chapter Highlights

Key Terms

Review Questions

Chapter 30: Common Estate Planning Considerations

Overview

Estate Planning Considerations

Changes That Can Affect an Estate Plan

Record Keeping

Planning for Death

Wills

Testamentary and Revocable Trusts

Planning for Incapacity

Property Considerations

Sole Ownership

Jointly Held Property

Life Insurance

Life Insurance Policy Transfers

Minimizing Gift Taxes

Leveraged Gifts

The Downside of Gifting

Minimizing Estate Taxes

Trusts

Techniques for Individuals and Married Couples

Portability

Techniques for Business Owners

Chapter Highlights

Review Questions

Appendix A: Tax Rate Schedules

Appendix B: Valuation Tables

Glossary

Index

Chapter 1

Introduction to Estate Planning

TOPICS COVERED IN THIS CHAPTER:

Estate Planning Process

•    Seven steps in the estate planning process

Fiduciaries

•    Types of fiduciaries

¤   Executor/Personal representative

¤   Trustee

•    Duties of fiduciaries

•    Breach of fiduciary duties

Learning Objectives

•    Explain the importance of estate planning and what it can accomplish.

•    Describe the unauthorized practice of law.

•    Identify the financial planning practitioner’s role and responsibilities in the estate planning process.

•    Define fiduciary duties and identify the parties that would be subject to them.

Chapter Contents

Overview

Who Needs an Estate Plan?

Situations That Require Advanced Estate Planning

The Estate Planning Process

Step 1: Understanding the client’s personal and financial circumstances

Step 2: Identifying and selecting goals

Step 3: Analyzing the client’s current course of action and potential alternative courses of action

Step 4: Developing recommendations

Step 5: Presenting recommendations

Step 6: Implementing recommendations

Step 7: Monitoring progress and updating the plan

The Unauthorized Practice of Law

The Financial Planner’s Role

Financial Planner Responsibilities

Fiduciaries

Executor Responsibilities

Trustee Responsibilities

Chapter Highlights

Key Terms

Review Questions

OVERVIEW

Estate planning is the process of planning for the accumulation, conservation, and distribution of an estate in a manner that most efficiently and effectively accomplishes a person’s goals. The purpose of an estate plan is to provide personal protection and financial security to an individual and his family. Most people spend a lifetime accumulating assets and want to distribute them to their loved ones in a manner that reduces transfer taxes and distribution costs. They also want to protect their assets from financial, economic, and creditor risks that might diminish value and affect their ability to achieve their financial planning goals. These common estate planning objectives are addressed in the estate planning process through the development of a comprehensive estate plan that is integrated with a client’s overall financial plan and personal goals.

The client’s estate planning team is led by an attorney. The estate planning attorney is the person primarily responsible for developing the plan and for drafting the legal documents. Financial planners and other advisors may have an important role to play in the estate planning process, and they can provide better service and greater value to their clients by understanding the fundamental principles of estate planning. This knowledge will help planners recognize deficiencies in a client’s estate plan that can be addressed in collaboration with the client’s estate planning team. Planners can also use their knowledge to assist clients in determining realistic estate planning goals and priorities, and they can ensure that the estate plan is properly implemented and monitored once recommendations have been developed.

The financial planner and other professionals, such as insurance specialists, trust officers, and accountants serve the client with specialized expertise. Planners can contribute to the development of an estate plan with their unique knowledge of a client’s personal and financial situation and their grasp of estate planning techniques and strategies. The client is best served when all team members work together to formulate, execute, and maintain a plan that meets a client’s needs and accomplishes his estate planning objectives.

WHO NEEDS AN ESTATE PLAN?

An estate is defined as the rights, titles, or interests that a person, living or deceased, has in property. The manner in which assets are owned determines how they will pass at death, and to whom they will pass. Without proper planning, property could pass to the wrong person in the wrong manner. And if there is no will, individually owned property will pass to others according to state distribution rules, known as state laws of intestacy. Therefore, every adult older than age 18 should have an estate plan.

Estate planning is essential for people who want to care for and provide financial support for spouses, domestic partners, minor children, parents, or other relatives or dependents during their lifetime and after their death. Proper estate planning can preserve a client’s assets for the benefit of others. Estate planning is especially needed for:

•    spouses, partners, children, or other dependents who cannot handle or do not wish to handle money, securities, or a business;

•    children, spouses, or other dependents who are emotionally or mentally challenged, emotionally disturbed, or physically handicapped;

•    spouses, children, or other dependents who are expected to have their own significant wealth;

•    elderly parents who are financially—and perhaps emotionally—dependent on their children to provide them with support and care; and

•    pets that need to be cared for after an owner’s death.

Estate planning is also needed to prepare for incapacity. Legal documents such as durable powers of attorney, health care proxies, living wills, and trusts can be used to make legal, financial, and healthcare decisions for the benefit of an incapacitated person. Trusts are important estate planning instruments because they can provide continuity of income and asset management in the event the trust creator, the grantor, becomes incapacitated. In the absence of documents such as a power of attorney, the courts will appoint a guardian or a conservator to make these types of decisions on behalf of an incompetent person.

SITUATIONS THAT REQUIRE ADVANCED ESTATE PLANNING

A simple will may be appropriate to meet many clients’ needs, but more sophisticated planning is indicated for people who own substantial assets. A common estate planning goal is to reduce taxes when property is transferred to others. Such taxes take the form of gift taxes, estate taxes, and generation-skipping transfer taxes. Because the estate tax exemption amount has increased significantly over the past several years, many clients will focus on income tax planning within their estate plans. Estate planning is essential for individuals with:

•    Estates that exceed $11,180,000 in 2018. Estate planning can minimize estate taxes and consequently transfer more family wealth to beneficiaries.

•    Highly appreciated or other unique assets. Understanding the income tax consequences of transferring assets during life or at death has important consequences for an estate and will be an important component of planning.

•    Closely held business interests. Estate planning can provide for the orderly transfer of a business to a key employee or a competent family member.

•    Charitable objectives.

•    Property owned in more than one state.

•    Special property such as fine art or a coin, gun, or stamp collection.

•    Asset protection concerns for heirs.

•    Estates that need sufficient liquidity to pay debts, expenses, and taxes owed at death.

THE ESTATE PLANNING PROCESS

There are seven steps in the estate planning process:

1.    Understanding the client’s personal and financial circumstances

2.    Identifying and selecting goals

3.    Analyzing the client’s current course of action and potential alternative courses of action

4.    Developing the estate planning recommendations

5.    Presenting the estate planning recommendations

6.    Implementing the estate planning recommendations

7.    Monitoring progress and updating the plan

Each step in the estate planning process is related to the seven steps outlined in CFP Board’s Practice Standards for the Financial Planning Process., These steps must be followed when a CFP® professional provides financial planning or financial advice that integrates the client’s personal and financial circumstances in order to act in the client’s best interest.

Step 1: Understanding the Client’s Personal and Financial Circumstances

The financial planner and the client must mutually determine the scope of engagement, which identifies the services to be provided and each party’s responsibilities in developing and implementing the financial plan. This step refers to services that the financial planner will provide with respect to a client’s estate plan, and these responsibilities should be coordinated with other members of the client’s estate planning team. For example, only an attorney can draft legal documents, including estate planning documents, and the planner might be involved only in implementing the client’s estate plan.

The financial planner must obtain both documents pertaining to the engagement and sufficient qualitative and quantitative information from the client. Examples of qualitative information include the client’s and family members’ health, life expectancy, family circumstances, values, attitudes, expectations, earnings, and risk tolerance. Quantitative data includes legal documents such as wills, powers of attorney, trusts, etc., in addition to tax returns, insurance policies, deeds, and account statements for investment, bank, and retirement accounts. Beneficiary designation forms are also very important for planners to review.

Practitioner Tip: The ability to gather accurate, comprehensive, and useful information in a logical and orderly manner is most efficiently developed through the use of a data-gathering system.

Step 2: Identifying and Selecting Goals

The practitioner and the client should work together to identify the client’s personal and financial goals, needs, and priorities. The planner should note the impact of selecting a particular goal on other goals and how reasonable assumptions and estimates may affect the estate plan. These may include life expectancy, inflation rates, tax rates, investment returns, and other factors.

Step 3: Analyzing the Client’s Current Course of Action and Potential Alternative Actions

The attorney must assess a client’s current course of action to determine the likelihood of meeting his estate planning goals. Deficiencies should be identified and the client should be informed of how assets are scheduled to transfer, and at what cost, under the current estate plan. Attorneys will then consider alternative courses of action and develop strategies and techniques to maximize the potential of meeting a client’s estate planning goals.

Step 4: Developing Recommendations

A financial planner should work with a client’s estate planning attorney to develop alternatives to the existing estate plan in an effort to reasonably meet the client’s estate planning objectives and priorities. Recommendations are developed based on selected alternatives to the current course of action. Techniques that do not meet the client’s goals are eliminated, as are techniques that are inconsistent with the client’s financial needs and priorities. A planner can identify problems with a client’s current situation that might affect the proposed recommendations. Recommendations should be communicated to clients by the attorney in a manner that will help them make an informed decision about implementing the plan.

Some factors that can affect the selection of a particular estate planning technique include:

•    the current and projected value of a client’s estate;

•    the net amount of estate or gift tax liability;

•    the client’s health and life expectancy;

•    the client’s financial needs during lifetime;

•    the types of property the client owns and how it is owned;

•    the beneficiaries’ ability to manage transferred assets;

•    the client’s marginal income tax bracket; and

•    the laws of the client’s state of domicile (permanent residence).

Step 5: Presenting Recommendations

The estate planning attorney should then present the client with the recommendations, and the information that was considered when developing the recommendations.

Step 6: Implementing the Recommendations

The client, the planner, and members of the estate planning team determine implementation responsibilities for the plan. The planner helps the team select products or services to implement the recommendations that are suitable for the client and consistent with the client’s goals, needs, or priorities.

Practitioner Tip: Be aware that clients do not always implement their estate plans for many different reasons. A study found that nine out of ten wealthy clients did not follow through on their estate plans because they believed their plan did not deal with their goals, wishes and objectives. Clients want help thinking through the issues to determine what is truly important to them. Other reasons given for not implementing these plans included the belief that plans are too complicated, that clients feel too nervous and not in control of the process in any meaningful way, and that other professionals advised against implementing the estate plan.

Step 7: Monitoring Progress and Updating the Plan

The practitioner’s role in monitoring the estate plan and client responsibilities must be clearly defined. The plan might need to be revised if changes occur that render it or certain provisions ineffective or outdated. Circumstances that can affect an estate plan include:

•    changes in a client’s personal objectives;

•    changes in a client’s personal situation, such as the birth of a child or grandchild, divorce in the family, illness, death of a beneficiary, etc.;

•    relocation to another state or accumulation of property in another state;

•    substantial changes in a client’s wealth, income, or business interests; and

•    changes in federal or state tax laws.

Practitioner Tip: A client’s estate plan should take into account his current financial situation and projected financial needs. The estate planning recommendations and techniques selected for implementation should be appropriate to accomplish both the client’s tax and non-tax estate planning objectives. Finally, the estate plan should be flexible enough to include amendments or revisions that will accommodate a client’s changing personal circumstances as well as changes to future tax laws and policies.

THE UNAUTHORIZED PRACTICE OF LAW

An attorney who specializes in estate planning is the most important member of a client’s estate planning team. The attorney must be able to relate well to the other team members and the client. The attorney should take the lead in developing plan recommendations and establishing implementation priorities. The estate planning team can work together with the client to ensure that recommendations are completed in a timely manner.

It is sometimes difficult to draw the boundaries of professional responsibility in an area as complex and sophisticated as estate planning. Special skills and learning are necessary prerequisites not only for the attorney but also for a CFP® practitioner, CPA, ChFC, CLU, trust officer, or other individuals serving a client in an advisory capacity.

Yet it is clear that regardless of how knowledgeable an advisor is only an attorney is legally authorized to practice law. The practice of law is regulated and limited for a number of reasons.

•    The public needs and deserves protection against advice by nonattorneys who have been neither trained nor licensed to practice law.

•    Many nonlawyers who are highly skilled in specific areas such as tax law might lack the broader viewpoint and depth provided by law school or legal experience.

•    The preparation of an estate plan involves the proper coordination of how assets are distributed. This process requires specialized training and knowledge, and this task is best coordinated by a lawyer.

Estate planning is an art, not a science; it involves the coordination of special skills and expertise from all members of a client’s estate planning team. The very idea of an estate planning team implies that each member serves the client. It is often the financial planner who motivates the client to take action—and then follows through to make sure the plan is implemented. However, when any member of the team usurps the province of another, the client loses.

What can—and cannot—be safely discussed with a client? There are few redline tests, but practitioners can follow some common-sense guidelines. Essentially, when a statute or legal interpretation has become so well-known and settled that no further legal issue is involved, there should be no problem in suggesting its simple application on a general basis. This is known as the general-specific test; no violation arises from the sharing of legal knowledge that is either generally informatory or, if specific, is so obvious as to be common knowledge.

Only when legal rules (which are general in nature) are applied to specific factual situations is the line crossed. Providing advice involving the application of legal principles to a specific situation is clearly the practice of law under the general-specific test. When the application of basic legal principles to specific and actual facts or the resolution of controversial or uncertain questions of law is required in an actual case, the practice of law is involved. Each state has the right to decide—independently from all other states—what is meant by the unauthorized practice of law.

No safety can be found in an argument that the nonlawyer is both a specialist and an acknowledged expert in the field. The rationale is that the public interest is not protected by the narrow specialization of a person who lacks the broad perspective and orientation of a licensed attorney. That dimension of skill and knowledge comes only from a thorough understanding of legal concepts, processes, and the interaction of all the branches of law. In other words, the nonlawyer may have learned the rules, but often the full meaning and import of the rule and its components—and the impact of that rule on other seemingly unrelated rules—may not be fully understood by someone who is not a licensed attorney. For instance, a proposed arrangement might work in terms of its tax implications, but it could violate other laws such as ERISA or securities laws.

Almost everyone agrees that the actual drafting of a will or trust or the preparation of the instruments and contracts by which legal rights are secured is the practice of law. Definitive solutions, i.e., the choice of which specific tools or techniques to use in a given case or the decisions regarding how they should be used, must be considered only by the client, together with his attorney. Likewise, the drafting or adoption of instruments needed to execute the techniques or utilize the tools discussed in this book is exclusively the province of a lawyer.

Practitioner Tip: Practitioners should avoid most problems by working closely with a client’s attorney at the earliest opportunity.

Every member of the estate planning team is obligated to be aware of the principles of estate planning and to understand the problem-solving potential of specific tools and techniques, as well as their limitations. Financial planners must be knowledgeable enough to discuss them in general terms with clients and with a client’s other advisors.

THE FINANCIAL PLANNER’S ROLE

CFP Board’s Standards of Conduct address duties owed to clients. The duty of Competence states, A CFP® professional must provide Professional Services with competence, which means with relevant knowledge and skill to apply that knowledge.¹

The single most important skill of a financial planner is the ability to understand who the client is, where that client stands in relation to the objectives he may have, and what things have to be done to move the client closer to the realization of these goals. Knowledge of the client, his fears, hopes, and dreams, and his family circumstances and relationship to other family members is essential for the financial planner to apply this skill.

The estate planning interview is important far beyond the data gathered, because it is probably the first time in a client’s life that he will be confronted with his property, his loved ones, his mortality, and the relationship of each to the others. The planner must actively listen to the client to gain a thorough understanding of what is truly important to him.

Practitioner Tip: The goal of the financial planner should be to help his client come to his own realizations and conclusions.

The financial planner should work with a client to help formulate estate planning goals that are measurable, relevant, and realistic considering the client’s resources and time frames, and he should help the client prioritize his goals.

When constructing a financial plan or reviewing an existing plan, the planner should review the client’s legal, financial, and tax documents to ensure coordination and compliance with the client’s goals. This review also serves to identify any weaknesses in the current estate plan. If problems are discovered, the planner can inform the client about the consequences of not taking corrective action and persuade him to obtain legal advice. If necessary, the planner can assemble a team of experts to work with the client, the planner, and the client’s attorney to develop alternative estate planning solutions that reflect the client’s wishes.

Practitioner Tip: The planner may need to assume a counselor’s role when encouraging a client to make changes to his current plan or convince him that the proposed estate planning recommendations are suitable and appropriate for his needs.

Financial Planner Responsibilities

There are many actions a financial planner can take to implement, or assist in updating, a client’s estate plan. The financial planner can:

•    Ensure the client understands the intricacies of his current estate plan and the tax and non-tax aspects of the plan.

•    Work with the client to correct improper or outdated beneficiary designations found on life insurance policies, investment accounts, IRAs, or other retirement accounts.

•    Offer to assist the client in funding revocable trusts to avoid probate and to obtain professional management of trust assets in the event of the client’s incapacity.

•    Determine the value of the client’s assets and liabilities to determine whether the estate has a federal or state estate tax liability.

•    Review life insurance policies to determine whether there is sufficient coverage for family protection and estate liquidity needs. Determine the effect the death benefit will have on the client’s estate tax liability.

•    Review all insurance policies including disability and long-term care policies to determine whether coverage and benefits are sufficient to protect the client, his family, and his assets.

•    Work with the client to divide jointly owned property into individually owned assets if this is needed to fund specific trusts that save estate taxes for the client and his spouse.

•    Review the client’s will, trusts, asset titling, and deeds to ensure that bequests of property and titles of ownership are coordinated.

•    Review the will to determine whether beneficiaries, executors, or guardians need to be changed or contingent executors or guardians added.

•    Make sure all property interests the client owns can pass by will, trust, or automatically to a joint owner.

•    Create spreadsheets that show how assets are currently owned, how they are transferred to beneficiaries at death, how much each beneficiary will receive, and the net amount of the client’s and spouse’s estate tax liability.

•    Provide the client with a written summary of the documents included in his estate plan and a list of all of his financial accounts.

•    Assist in implementing estate planning recommendations.

•    Monitor the client’s progress in implementing the plan.

•    Conduct periodic reviews of the estate plan to identify whether updates are needed based on changes in tax laws and the client’s goals and personal circumstances.

Practitioner Tip: Financial planners might prefer to refer clients to estate planning attorneys to handle all of their estate planning needs. But planners have invaluable personal knowledge of a client and his financial situation, and when that information is combined with the planner’s knowledge of estate planning, the client is better served. Knowledge of estate planning increases a planner’s level of competency and distinguishes the planner as a valuable advisor to his clients. This can also give the planner a competitive edge over other advisors, because attorneys prefer to work with competent professionals who understand estate planning issues.

FIDUCIARIES

Clients need to carefully select the right people whom they trust to execute their estate plan. These people are known as fiduciaries and they have specific responsibilities and roles in executing an estate plan. Fiduciaries often include executors, trustees, guardians, and agents.

A fiduciary has a responsibility to place a beneficiary’s interests first, before his own. Fiduciaries have the authority to perform special acts or specific duties for others. Depending on the type of fiduciary selected and the scope of his authority, fiduciaries can carry out directives set forth by a principal to manage that person’s property or affairs.

Practitioner Tip: CFP Board’s Standards of Conduct imposes a fiduciary duty on CFP® professionals. Standard of Conduct A.1. states At all times when providing Financial Advice to a Client, a CFP® professional must act as a fiduciary, and therefore, act in the best interests of the Client.² CFP® professionals have a Duty of Loyalty, a Duty of Care and a Duty to Follow Client Instructions under the Fiduciary Duty.

Fiduciaries must perform their duties with utmost care and loyalty toward the beneficiaries they serve. Fiduciaries who manage property interests should make every effort to preserve and protect the property and make prudent investment decisions with the goal of increasing the property’s value. Fiduciaries can be sued for breach of fiduciary duty in civil and criminal courts.

The proper selection of a fiduciary begins with an understanding of the tasks and duties of each member of the client’s estate planning team and how each fiduciary interacts with others.

Executor Responsibilities

An executor is a fiduciary designated under a will to serve as the client’s personal representative. An executor is responsible for collecting and valuing estate assets, paying the decedent’s debts and taxes, and distributing assets to the beneficiaries named in the will. The probate process typically lasts from nine months to two or three years, and an executor must be willing to serve throughout that period until the estate has been probated.

A person may want to choose a close relative or another caring individual to serve as his executor who is sensitive to the emotional and financial needs of the beneficiaries. A trusted family member is preferable in this role but only if the person selected has the skills and abilities to handle the responsibilities of administering an estate. If family members do not have the necessary skills, a person should know which professional to turn to for help. Family members chosen as executors must remain impartial and should avoid taking actions that provide them with distinct advantages over other estate beneficiaries.

In some circumstances it may be necessary or appropriate to name a corporate fiduciary as executor. Corporate fiduciaries, such as banks and trust companies that specialize in estate administration can be named as executors or co-executors under the will. These entities should be considered for administering large or complex estates because they can provide professional management for all types of property interests, including businesses, investments and real estate.

Practitioner Tip: It is the executor’s responsibility to choose an attorney to probate the estate. Any attorney that specializes in estate planning can be selected for this role—it does not have to be the same attorney that drafted the will.

Trustee Responsibilities

Trusts have many uses and often provide assets or income to trust beneficiaries. The trustee is a fiduciary who holds title to the trust assets and manages them on behalf of the beneficiaries according to the terms specified in the trust instrument. A trustee is chosen by a grantor and can be an individual or a corporate trustee. A trust can also have co-trustees, for example, one or more family members can serve as co-trustees with an institutional trustee, such as a bank or a trust company.

An advantage to having a corporate trustee is its availability to serve for many generations, whereas individual trustees cannot. Corporate trustees can also provide professional investment management, business advice, tax-planning expertise and accounting services that individual trustees may not be capable of providing.

Practitioner Tip: It certainly makes sense to choose a corporate trustee rather than an individual trustee when a client has complex investments and extensive property holdings.

As part of the selection process, a grantor should consider the manner in which a beneficiary might be permitted to remove a corporate trustee and appoint successor trustees. The grantor should also name successors to step in should the original trustee be unavailable or unable to serve. The trust document should address conditions and circumstances that would lead to the trustee’s dismissal.

Practitioner Tip: Often, changes within corporations can change the nature of the relationship between a corporate trustee and individual co-trustees or beneficiaries. For example, a bank named as corporate trustee might merge with a larger bank and the manner in which they handle a trust could change. For this reason it may make sense to allow trust beneficiaries the flexibility to remove the corporate trustee and replace it with another corporate trustee.

Chapter Highlights

•    Estate planning is the process of planning for the accumulation, conservation, and distribution of an estate in a manner that most efficiently and effectively accomplishes a person’s goals.

•    An estate is defined as the rights, titles, or interests that a person, living or deceased, has in any property.

•    Estate planning is essential for people who want to care for and provide financial support for spouses, domestic partners, minor children, parents, or other relatives or dependents during their lifetime and after their death.

•    Advance planning is needed to protect an individual and his property in the event of incapacity or untimely death.

•    Estate planning can minimize gift and estate taxes, protect assets, transfer a business or other property interests to others in a proper manner, accomplish charitable objectives, and plan for the final distribution of a person’s estate.

•    Seven steps are involved in the financial planning and estate planning process, and they are aligned with the CFP Board’s Financial Planning Practice Standards.

•    The financial planning practitioner must avoid the unauthorized practice of law and must work with the client’s estate planning attorney at the earliest opportunity.

•    The financial planner can help the client determine estate planning goals and priorities and spot weaknesses in a current estate plan. The financial planner can help assemble a team of professionals to make estate planning recommendations and identify specific circumstances that might adversely affect those recommendations. Other members of a client’s team might include an accountant, an investment manager, an insurance agent, and, of course, an attorney.

•    The planner should take action to implement any recommendations that he has agreed to, and he should monitor the implementation of the plan.

•    The types of fiduciaries involved in estate planning include executors, trustees, guardians, and agents who are holders of powers of attorney.

Key Terms

corporate trustee

domicile

estate

executor

fiduciary

grantor

principal

state laws of intestacy

trust

trustee

Review Questions

1-1. Which of the following statements correctly describes what estate planning can accomplish?

A.    Estate planning can provide financial support and security for spouses, partners, children, and other dependents.

B.    Estate planning is needed only for individuals with estates that exceed $11,180,000.

C.    Estate planning ensures that the courts will select proper guardians and conservators to manage an incapacitated person’s affairs.

1-2. Which of the following situations does not constitute the unauthorized practice of law?

A.    When a nonlawyer is both a specialist and an acknowledged expert in the field.

B.    When legal rules are applied to specific client situations.

C.    When a statute or legal interpretation has become so well known and settled that no further legal issue is involved.

D.    When the resolution of controversial or uncertain questions of law is required in an actual case.

1-3. Which of the following statements does not correctly describe the financial planner’s role in the estate planning process?

A.    The practitioner and the client mutually define a client’s personal and financial goals, needs, and priorities that are relevant to the scope of the engagement.

B.    The planner must assess a client’s current and projected future financial situation to determine the likelihood of meeting his financial planning and estate planning goals.

C.    The financial planner must analyze a client’s current estate plan and make recommendations to correct any known deficiencies.

D.    The financial planner can assemble a team of experts to work with the client, the planner, and the client’s attorney to develop alternative estate planning solutions that reflect the client’s wishes.

1-4. Which persons or institutions have a fiduciary responsibility to the client?

A.    A CERTIFIED FINANCIAL PLANNER™ professional

B.    A bank trustee

C.    An agent with a durable power of attorney

D.    An executor

1-5. The financial planner can assume all of the following responsibilities in an estate planning engagement, except:

A.    Gather the client’s personal, financial, and tax information.

B.    Act as captain of the financial planning team.

C.    Calculate the value of the client’s assets and liabilities to determine whether the estate has a current or projected federal estate tax liability.

D.    Assist in implementing the estate planning recommendations.

1-6. Which of the following statements correctly pertains to a trustee?

A.    The trustee manages trust assets according to directives in the trust document.

B.    An institutional trustee in conjunction with a co-trustee who is a family member can make distributions of trust assets to a beneficiary.

C.    The trustee must collect a decedent’s assets at death to pay debts, taxes, and expenses attributable to the decedent’s estate.

D.    A trustee typically specializes in estate administration.

Notes

1.    https://www.cfp.net/docs/default-source/for-cfp-pros---professional-standards-enforcement/CFP-Board-Code-and-Standards

https://www.cfp.net/docs/default-source/for-cfp-pros---professional-standards-enforcement/CFP-Board-Code-and-Standards

2.    CFP Board, Code of Ethics and Standards of Conduct, March 2018.

Chapter 2

Property Interests

TOPICS COVERED IN THIS CHAPTER:

Characteristics and Consequences of Property Titling

•    Sole ownership

•    Tenancy in common

•    Joint tenancy with right of survivorship (JTWROS)

•    Tenancy by the entirety

•    Trust beneficiaries: Income and remainder

Learning Objectives

To ensure that you have a solid understanding of the various forms of property ownership and how titling affects transfer taxes and probate, the following learning objectives are addressed in this chapter:

•    Compare and contrast the most common forms of property ownership and how they affect the gross estate, the probate estate, marital deductions, and step-up in basis.

•    Recommend the appropriate property titling mechanism given the client’s lifetime and estate distribution objectives and tax situation.

•    Understand the implications of how property ownership affects the manner in which assets will be distributed at a decedent’s death.

•    Explain how the contribution rule applies to property titled JTWROS.

•    Recognize the uses and tax implications of life estates and remainder interests held in real property and trusts.

Chapter Contents

Overview

Sole Ownership

Income Tax Considerations

Estate Tax Considerations

Tenancy in Common

Income Tax Considerations

Gift Tax Considerations

Estate Tax Considerations

Joint Tenancy with Right of Survivorship

Considerations during Lifetime

Considerations at Death

Joint Tenancy with Right of Survivorship with Spouses

Income Tax Considerations

Gift Tax Considerations

Estate Tax Considerations

Joint Tenancy with Right of Survivorship with Nonspouses

Income Tax Considerations

Gift Tax Considerations

Estate Tax Considerations

Tenancy by the Entirety

Life Estates and Remainder Interests

The Life Tenant’s Interest

The Remainder Beneficiary’s Interest

Income Tax Considerations

Gift Tax Considerations

Estate Tax Considerations

Estate for a Term of Years

Digital Assets

Chapter Highlights

Key Terms

Review Questions

OVERVIEW

Asset ownership is one of the most important—and often, one of the most overlooked—aspects of an estate plan. A client may have the most intricate estate plan; however, if asset ownership has not been coordinated with the plan, then estate planning objectives will not be met. To plan an estate, it is necessary for a financial planner to understand the ways in which property is owned and how it is transferred. The way in which property can be transferred depends on the form of ownership, and there may be certain limitations on how a person can transfer property based on how the property is owned. A person must not only own property to make gifts during his lifetime or to dispose of an asset at death, but the form of ownership must also allow him to transfer his interest at death.

The financial planner must recognize the income tax, gift tax, and estate tax implications of property ownership to recommend the most appropriate titling to meet his clients’ objectives.

SOLE OWNERSHIP

Sole ownership is the simplest form of ownership. The owner has complete lifetime and testamentary control of property that he owns; it is outright ownership of the asset. When someone owns an asset in his own name, he owns the property in fee simple or fee simple absolute. This is the most comprehensive form of ownership, and there are no restrictions on how the property holder can use the asset while he is alive. This includes the owner’s ability to make gifts of the assets to others or to charity. For example, if you own a bank account, you can withdraw assets from the account and the money is yours to spend as you wish or to give away to others. Solely owned assets are subject to creditor claims unless they are transferred into creditor protection trusts.

Just as an individual can do whatever he wants with the assets that he owns during his lifetime, he can leave the asset to whomever he wishes at death. The owner of an asset has testamentary disposition of assets at death. The asset will pass per the terms of his will; if he does not have a will, it will be transferred per his state’s laws of intestacy, and therefore the property will be subject to probate.

Income Tax Considerations

When an individual owns an asset, all income from that asset is attributed to him and reported on his federal income tax return. The income is taxed according to the individual’s marginal tax bracket.

Estate Tax Considerations

The full fair market value of an asset is included in an owner’s gross estate at death and subject to probate. The asset will receive a step-up in basis to the value on the decedent’s date of death.

Practitioner Tip: Solely owned property located in a state that is not the owner’s state of domicile is subject to ancillary probate at the owner’s death. Out-of-state property may be owned by trusts to avoid ancillary probate.

Client Situation

Andrea has a bank account and a mutual fund account. She can spend money from these accounts as she wishes. She can also give these assets to whomever she wants, or to whichever charities she chooses. Each year, Andrea must report the income generated from her bank account and the capital gains from her mutual fund account on her income tax return. At Andrea’s death, the value of her bank account and her mutual fund account will be included in her gross estate. The assets will pass per the terms of Andrea’s will, if she has one, or they will pass per the terms of her state’s laws of intestacy if she does not have a will.

TENANCY IN COMMON

Tenancy in common is a form of co-ownership of property. Tenants in common own an undivided right to possess property. Each tenant owns a separate, fractional interest in the same property. When individuals own an asset together as tenants in common, that ownership can be either equal or unequal.

Client Situation

Sid, Ben, and Jacob are brothers who own 40-foot fishing boat together as tenants in common. Sid paid 50% of the purchase price, and Ben and Jacob paid 25% each. The brothers have unequal ownership of the fishing boat. If the brothers had contributed equally when they bought the boat, then they would have equal ownership.

As with individual ownership, each tenant can use and has full control of his fractional interest both during his lifetime and at his death. Each tenant is generally free to transfer his interest in the property as a lifetime gift or as a bequest at death to whomever he chooses. There is no obligation to transfer the property to the other tenants in common. When property is held as tenants in common, there is some loss of control over the asset. For example, it may be more difficult to sell, transfer, or mortgage a fractional share of property.

Income Tax Considerations

Income is received and taxed based on each individual’s fractional share of ownership. If ownership is not split equally but income is split equally, a gift is made to the tenant(s) receiving more than his (or their) fractional share of interest.

Client Situation

Sid, Ben, and Jacob occasionally rent their fishing boat to a captain who takes his friends deep-sea fishing. The income the brothers receive from these excursions is not split equally among them, because they have unequal ownership of the boat. However, if Sid were to split the income equally with his brothers, he would be making a gift of the extra income to Ben and Jacob.

Gift Tax Considerations

If an individual owns property in sole title and converts that ownership to tenancy in common, then the value of the property transferred to the other property holder(s) is a gift.

An individual can also make gifts of his fractional interest in property that he owns as tenants in common during his lifetime. Transfers are subject to gift tax rules.

Client Situation

Sid gifted his interest in the boat to his son David; this was subject to gift taxes. Now the new owners of the boat are David (50%), Ben (25%), and Jacob (25%).

Estate Tax Considerations

At death, the fair market value of the decedent’s fractional interest in property held as tenants in common will be included in his estate. The fractional share will receive a step-up in basis at the owner’s death. As with individual ownership, the decedent’s interest in an asset is subject to probate and will pass per the terms of the owner’s will or according to his state’s laws of intestacy.

Client Situation

John and his brother Jeff own an apartment building as tenants in common. The value of the building is $200,000. John and Jeff each own a 50% interest. As rental income is received, John and Jeff split it equally. Each must report his proportionate share on his income tax return.

John wishes to make a gift of one-half of his interest in this property to his son, Sam. When John transfers one-half of his interest to Sam, he has made a gift of $50,000 (one-half of John’s interest in the property). John, Sam, and Jeff are now tenants in common, and their respective ownership interests are 25%, 25%, and 50%. As rental income is received, it is to be split proportionally.

At John’s death, his interest in the rental property will pass per the terms of his will. His will indicates that all property is to be split equally between his daughter Jennie and his son Sam. Following John’s death, Jennie will own 12.5% of the building, Sam will own 37.5% of the building, and Jeff will continue to own 50% of the building, as tenants in common.

JOINT TENANCY WITH RIGHT OF SURVIVORSHIP

Another form of co-ownership of property is a joint tenancy with right of survivorship. Joint tenants have an undivided right to the enjoyment of property. Unlike a tenancy in common, joint tenants own a property equally, even if there are more than two joint owners. Joint ownership is a very common form of ownership; however, certain considerations should not be overlooked both during the property holders’ lifetimes and at the time of their deaths.

Considerations during Lifetime

While a joint tenant is alive, he can generally sever (or divide) the joint tenancy or transfer his interest to another person without the consent of the other joint owners. This will form a tenancy in common between the remaining property owners. If the proportional interests remain the same, there will be no gift tax consequence. Although a joint owner has the ability to dissolve the joint tenancy or to sell his interest in the property, he will need the other joint tenants’ consent to sell the property or to take a loan against it.

A further consideration with regard to joint tenancies is that one tenant’s undivided interest can be reached by creditors. If property is held in joint tenancy, and one owner gets sued, liability will attach to the property. The joint owner’s interest will be attached as well. If the jointly held asset is a bank account or securities, only the tenant who was sued will be affected.

Client Situation

Steve is a physician. He and his wife Jane own their home jointly with right of survivorship. If Steve wishes to take a mortgage out on the house to buy office space for his medical practice, he will need Jane’s consent to take the loan. If Steve is sued by a patient and the judgment exceeds the limits of his malpractice policies, the creditor can place a lien on Steve and Jane’s home to satisfy Steve’s debt.

Considerations at Death

Unlike a tenancy in common, when a joint tenant dies, that person’s interest in the property passes by operation of law rather than by will or intestacy to the remaining joint tenant or joint tenants. Assets that are held jointly with right of survivorship do not pass according to the terms of an individual’s estate plan and are not subject to probate. At the first joint owner’s death, the asset automatically passes to the surviving owner(s), and the surviving owners(s) become(s) the sole owner(s) of the property. This can save administrative costs and the delays commonly associated with probate; however, it can sometimes interfere with a decedent’s estate planning objectives.

Client Situation

Tom has a prized possession: the 1965 Mustang that he spent years rebuilding with his son Jack. Tom owns the Mustang jointly with his wife Kathy, with right of survivorship. Tom knows how much he and Jack enjoyed rebuilding the car together and wants Jack to have the car when he dies. Tom’s will leaves the Mustang to Jack; however, because Tom owned the car with Kathy, at Tom’s death Kathy will become the owner. The Mustang will pass by operation of law to Kathy and not to Jack, as Tom’s will stipulated.

Another consideration with jointly held property is that the asset that passes to the joint property holder will not be available to pay for any estate taxes, debts, or expenses of the estate. This can create a liquidity issue for the decedent’s estate once the asset is owned solely by the surviving joint property owner.

Income, gift, and estate tax considerations differ depending on whether the joint property holders are married or not married. Let’s take a look at the differences that the relationship of joint property holders has on these different types of taxes.

JOINT TENANCY WITH RIGHT OF SURVIVORSHIP WITH SPOUSES

When an asset is held jointly with right of survivorship between spouses, it does not matter which spouse purchased the property, or whether both spouses contributed to purchasing the property. The