Estate Planning Guide – 5 Essentials for an Estate Plan

A thorough estate plan can ensure the wealth you spent a lifetime accumulating, including retirement savings, is distributed responsibly and according to your wishes.
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By Richard Barrington

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A common misconception about estate planning is that it is something only rich people need worry about. While estate planning certainly becomes more complex the more wealth you have, it is a vital process even for people of more modest means. After all, you could argue that the more limited your resources, the more important it is for them to be distributed carefully when you pass away. In any case there are also health care, financial management and burial arrangements to be made.

Estate planning may be more important today than ever because the nature of the modern family is often very different from the traditional husband-wife-and-kids model. Unmarried parents, same sex partners, and ex-spouses can all create conditions that defy ordinary assumptions about inheritance. You need an estate plan that is tailored around both your property and your family relationships.

Blending retirement planning and estate planning

A good starting point for estate planning is to think of it as an extension of your retirement plan. After all, people don’t generally know in advance when they are going to die. So in order to make sure you don’t outlive your financial resources, you need to try to preserve those resources for as long as possible. Doing so means that there is likely to be something left over once you die. At that point, your estate plan should take over where your retirement plan leaves off.

Retirement and estate planning actually overlap when it comes to determining the disposition of retirement accounts after you die.

What will happen to retirement savings accounts?

If you have tax-advantaged retirement savings accounts such as an individual retirement account (IRA), 401(k) plan, or a health savings account (HSA), it is important to designate a beneficiary for any remaining value in these accounts. Doing so will not only make sure the money goes where you intend it to, but it may also determine the tax consequences for whoever inherits the balances of such plans. If you have a traditional defined benefit pension, there may also be a death benefit available to your designated beneficiary.

Envisioning your legacy when distributing funds

Beyond determining who among your friends and relatives should receive part of your inheritance, estate planning can help shape your legacy in terms of which charitable, educational or political organizations you wish to support.

These decisions send a lasting message about your values. They also give you an opportunity to determine not just which organizations benefit from your estate, but how they benefit. For example, rather than leaving money to the general fund of a college, you may decide to designate it for the benefit of a particular academic department. Rather than leaving that money in one lump sum, you might endow an annual scholarship. In this way, estate planning is a way to determine not only where your money will do the most good, but also how it might do the most good.

Tax considerations for estate planning

Estate taxes

As of 2017, if your estate has a total value of $5,490,000, a final tax return will have to be filed for that estate. Estate planning can not only determine how much of the wealth you leave behind is subject to estate taxes, but also whether or not the estate is above the threshold at which a tax return has to be filed for the estate.

Trusts

Trusts can be set up to avoid some taxes, and these can have the added advantage of being excluded from the probate process so the money can be made available to your heirs more quickly. You can also use the terms of the trust to dictate how your heirs will receive that money.

5 things you need in an estate plan

To accomplish the various objectives of estate planning described above, here are some essential elements for your plan:

1. Last will and testament

This should be detailed document which is signed by you and witnessed by an impartial party. It should detail all significant components of your wealth, including retirement accounts, other savings and investments and real estate. It should give specific instructions as to how these things are to be distributed upon your death. Since the market value of these things may change between the time you write your will and the time you die, it is often best to designate percentage shares of your wealth that will go to each of your heirs, rather than use dollar values that may become outdated.

2. Health care proxy

This is a document designating a person or persons who will have the authority to make medical decisions on your behalf should you become incapacitated. Obviously, this should be someone you trust, and also someone who is emotionally and intellectually able to make difficult decisions. To help guide that person, your health care proxy should include some instructions about your health care preferences, such as how long you would wish to be maintained on life support.

3. Durable power of attorney

This document lets you authorize someone to make financial decisions on your behalf should you become incapacitated. This can be essential for providing access to accounts in order to pay for your care in later years. Be advised though that for some purposes, such as veterans benefits, a specific form of document rather than a general power of attorney may be necessary to grant such authority.

4. Executor

A key element of your will should be designating someone to act as executor. This should be someone trustworthy and with decent business sense because they will be responsible for:

  • Seeing your estate through legal processing
  • The payment of any necessary expenses and taxes
  • The eventual liquidation and division of your property according to your instructions

Because this can be a time-consuming process, it is customary for executors to get paid, and each state has guidelines for how that pay is determined.

5. Burial trust

This is an amount of money set aside to cover burial expenses. The advantage is that this makes sure there are funds immediately available to cover those expenses, since your bank accounts may be frozen while your estate is being processed. Most funeral homes should be able to help you with creating a burial trust.

Once you have been through the estate planning process, revisit it every 10 years or so. Your instructions may change as family members come and go and relationships change, and the size and nature of your estate may also affect what you want to happen to it.

It takes hard work and responsibility to build up an estate. Having a thorough plan for what should happen to that estate is the final step you need to take to complete a lifetime of financial responsibility.

Frequently Asked Questions

Q: My sister and I recently inherited money from the sale of a condo my mother owned. Where can I put my money so no taxes are taken out? Also, what’s the best option for earning income on that money these days?

A: It is always perilous to give tax advice without knowing all the specifics, but there are some basic parameters you might find helpful. In the end, especially given all the complications that come with estates, you would be wise to run the details of the situation by a tax expert. It might cost you a little, but probably not nearly as much as making a tax mistake would cost you.

For the most recently completed tax year, the estate tax exclusion was $11.7 million. As a result, unless your mother’s condo was extraordinarily valuable, the proceeds are probably under the estate tax exclusion. However, there are a few wrinkles to that exclusion:

  1. It includes the entire value of the estate.
  2. It may include certain gifts that were given to you during your mother’s lifetime.
  3. Your mother’s estate may be eligible for a higher exclusion if her spouse died without fully utilizing his estate tax exclusion.
  4. Expenses involved in settling the estate can be deducted from the amount applied against the exclusion.

If your mother’s estate is large enough to be at or close to that $11.7 million estate exclusion level, it really would be prudent for you to consult a tax expert.

As for investing for income, you have a few options. If you will need to draw on principal as well as income, you would do well to put at least part of your inheritance in a completely liquid and safe deposit vehicle, such as a savings or money market account. The best savings and money market rates these days are below 1%.

If you can afford to live primarily off income and do not plan to draw significantly on the principal, you can earn higher rates by depositing your money in CDs. If you are willing to lock your money up for five years, the best CD rates at that length are around 1%. A third income option is to invest in high-quality, long-term bonds. Thirty-year Treasury bonds are yielding in the neighborhood of 1.25%. Keep in mind, though, that unlike bank deposits, Treasury bonds are not insured by the FDIC, and though the face value and interest are backed by the U.S. government, the value of a Treasury bond might fluctuate between now and when the bond matures.

Finally, remember that there is a $250,000 limit on FDIC insurance, so if your inheritance comes to more than that, you may want to spread it among multiple banks.

About Author
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Richard Barrington
Richard Barrington has been a Senior Financial Analyst for MoneyRates. He has appeared on Fox Business News and NPR, and has been quoted by the Wall Street Journal, the New York Times, USA Today, CNBC and many other publications. Richard has over 30 years of experience in financial services. He has earned the Chartered Financial Analyst (CFA) designation from the Association of Investment Management and Research (now the “CFA Institute”).