By Angela M. Ward, Attorney
While most people want to care for their loved ones when they are alive, providing for them after death is equally important. A well-designed estate plan can do precisely that. When someone dies without an estate plan, it can have unintended consequences for those left behind, including financial loss, legal problems, and family disputes. A sound estate plan assigns distribution of assets and covers end-of-life wishes such as the care of dependents. Understanding the following legal terms is the first step to creating a robust and effective estate plan.
A-B trusts are legal agreements created by married couples to improve federal estate tax exemptions. Upon the first spouse’s death, A-B trusts divide into two separate trusts that allow each spouse’s trust to remain small enough to avoid estate taxes. The survivor’s trust (the A trust) is revocable, whereas the deceased’s trust (the B trust) is irrevocable. The living spouse does not ever own the B trust, so they are never required to pay estate taxes on it.
A married couple creates an A-B trust to maximize their federal estate tax exemptions and minimize the estate tax owed. Upon the first spouse’s death, the A-B trust splits into two separate trusts so each spouse can pass the maximum allowed to avoid federal estate taxes.
The federal tax exemption can be transferred between married partners via the “portability of the estate tax” exemption designation. After the first spouse’s death, the unused trust funds can be moved and combined with the estate tax exemption of the surviving spouse. As such, the property in the deceased spouse’s trust is not taxed when it passes to the beneficiaries named in the trust upon the surviving spouse’s death.
In the event of the death of all primary named beneficiaries or if they refuse the inheritance, an alternate beneficiary will receive any assets and property left in a will. Naming multiple alternate beneficiaries is wise if the primary beneficiaries are older or unlikely to accept the inheritance. An experienced Lancaster County estate attorney can help integrate alternate beneficiaries into a will.
Certificate of Trust
Certificates of trust are legal documents that exist to verify the trust, identify the trustee(s), and enumerate the authority the trustee(s) have to act on the trust’s behalf. They contain the basic essential information about a trust, a summary that supports the entire document. Certificates of trust serve as a simplified verification method if it becomes necessary to open accounts in the trust’s name or transfer assets. Importantly, trust certificates do not include private details regarding beneficiaries, inheritances, or specific assets.
If a will needs to be changed or modified in any way, a codicil is a document that formalizes the change. It is a receipt of the changes and serves as proof that the revisions happened properly.
A common trust is a form of “living” trust created by multiple people, most often married couples. They can fulfill a wide range of different purposes, but A-B trusts are the most common.
In some states, spouses equally share all assets and debts they acquire while married. These states are called “community property” states. Community property states require that the living spouse carries responsibility for their obligations (even if they only do so in the deceased spouse’s name). However, Pennsylvania is not a community property state. Therefore, surviving spouses in Pennsylvania are not typically required to pay off their deceased spouse’s debts unless they co-signed on those debts.
A custodian is a person who is named to manage assets left to a minor. Custodians manage the will until the child reaches a certain age, either the age of majority (18 in Pennsylvania) or a different age specified in the will.
Durable Power of Attorney
A durable power of attorney is a document that authorizes someone to act on another person’s behalf, in a limited or general capacity, in the event that the authorizing person becomes incapacitated and unable to manage their affairs. It is a formal legal document that expires when the incapacitated person dies or recovers the ability to manage their affairs.
Fiduciaries are persons or organizations authorized to act on someone’s behalf. They are entrusted to act on that person’s behalf and put that person’s interests before their own. Fiduciaries serve several roles, including guardian, personal representative, executor, and trustee. A qualified Lancaster estate lawyer can help identify a trustworthy person to serve as their fiduciary.
Generation-Skipping Transfer Tax
When someone gives grandchildren or great-grandchildren a gift during their life or bequeaths them gifts upon death, they are subject to a federal tax known as the Generation-Skipping Transfer Tax (GSTT). The goal of the GSTT is to prevent people from dodging estate taxes by skipping over generations when assigning inheritance. If someone leaves a legacy to their children upon death, for example, the children must pay estate taxes on all inheritance above the standard federal estate tax exemption. If those children end up saving their entire inheritance to give to their own children, that inheritance will be taxed yet again when they die. Historically, people avoided double taxation by skipping over their children when assigning inheritances. The GSTT closes that loophole and discourages tax evasion.
A tax imposed by the Pennsylvania Department of Revenue on the transfer from a decedent in Pennsylvania to beneficiaries and the rate of the tax is determined by the relationship of the beneficiary to the decedent. Transfers to a surviving spouse, or to a parent from a child (under 21) and transfers to charitable organizations incur zero (0) tax; transfers to direct descendants and lineal heirs (those down the bloodline such as children, grandchildren, parents, grandparents) incur a 4.5% tax; transfers to siblings incur a 12% tax and transfers to all others incur a 15% tax. Wills are typically written so that the estate pays the tax and the beneficiaries inherit the balance tax-free. Also, beneficiaries do not have to report inheritance as income so there is no need to include the amount inherited on a personal income tax return.
Trusts that cannot easily be amended, changed, or terminated are called irrevocable trusts. These trusts can be modified under very limited circumstances that are often enumerated in the trust itself.
Living trusts are trusts created by someone before they die. In these cases, the living trust’s creator transfers ownership of their assets to the trust and gives a trustee instructions to manage those assets during their life and to distribute them when they die.
Living trusts avoid several legal problems and costs that people face at the time of death. The trustee has a fiduciary responsibility to manage the trust effectively in the interests of the beneficiary. When the trust’s creator dies, the assets go to the beneficiary or beneficiaries according to the creator’s wishes as outlined in the trust agreement. Living trusts differ from wills in that they are in effect during the trust creator’s life, and they do not have to clear the court system to reach the beneficiaries.
When assets are distributed equally among all heirs in an inheritance, they are distributed “per capita.” Many people choose per capita distribution for moral or philosophical reasons, but there are legal reasons someone might choose it.
Per stripes is a Latin term for down the bloodline. When assets are distributed equally to each branch of a family, they are distributed “per stirpes” meaning that if a member of one generation predeceases the decedent, his or her share is given to his or her children in equal shares – down the bloodline. To give an example, if two brothers were assigned per stirpes shares of an inheritance from their father, they would each get an equal share but if one of them dies before their father and has three children, then the deceased brother’s children would divide his half of the assets evenly with each of his children getting one-third of their deceased father’s half share.
The legal process of handling a deceased person’s estate is called probate. When there is a will, the probate process usually includes validation of the will and supervising the executor to distribute assets and pay off debts as the deceased person specified. When there is not a will, the court system distributes assets under Pennsylvania’s probate interstate laws.
The court costs and other various expenses associated with the probate process are broadly referred to as probate fees. These include legal fees, executor fees, appraisal fees, register of will fees, and more. These probate fees are usually paid from the assets in the estate. In most cases, the estate will cover the probate fees before assets are distributed to the heirs. The size and scope of probate fees can vary significantly, but an experienced Lancaster estate attorney can help estimate and plan around them.
Revocable trusts allow the trust creator to amend, change or terminate the trust during their lifetime. Unlike irrevocable trusts, these can be easily modified if a trust’s creator changes their mind.
Special Needs Trust
When a trust provides additional assistance to someone with special needs, a special needs trust can be set up to maintain eligibility for assistance and benefits. Qualified Lancaster estate lawyers can offer advice on how to best care for special needs individuals through a trust.
Retirement savings plans such as IRAs or 401(k)s qualify for special tax treatment and therefore fall under the category of tax-deferred plans. Notably, the plan’s owner can save money because they don’t have to pay any taxes on contributions to these plans. They also do not have to pay any taxes on the appreciation of assets until they withdraw their funds at retirement when their tax rate (and income) are not as high.
Historically, taxpayers would commonly evade estate taxes by giving their assets away before they died. The federal gift tax was designed to close this loophole. Taxable gifts are those gifts that have a value exceeding the federal gift tax exemption, currently set at $15,000 worth of gifted assets given in a year to someone other than a spouse. This exemption is a collective exemption, meaning that after $15,000 any gift or gifts are taxed, whether they be a single item given at one time or many gifts given at different times.
Not all gifts are taxable, however. For example, gifts to political or charity organizations are not included, nor are gifts intended to help cover tuition or medical expenses.
Uniform Transfer to Minors Act
The Uniform Transfer to Minors Act, or UTMA, allows someone to transfer their assets to minor children and appoint a custodian to manage the assets on the children’s behalf. Under the UTMA, minors can receive gifts such as money, real estate, fine art, patents, and royalties without the assistance of a guardian or trustee. The act also allows minors to avoid tax consequences until they are of legal age for their state (18 in Pennsylvania). It can offer a way to build a tax-free savings account for minor children, but the assets will be considered part of the custodian’s taxable estate until the minor takes possession of them.
Warranty deeds guarantee someone’s ability to transfer real estate titles free and clear (without liens against the property and without the possibility of anyone taking the property as debt repayment). A warranty deed can protect the transfer of important real estate that might otherwise be lost in the transfer process.
Don’t Plan Estates Alone
Creating an estate plan is no easy task. However, a qualified Lancaster estate attorney can save tax and probate costs, help plan guardianship for children, offer counsel on complex family problems, and ensure that the will is valid and truly reflects someone’s final wishes. Contact Going and Plank to schedule a free consultation and get started making a smart estate plan today.
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