Posts Tagged ‘Trusts’

Two Adult Adoptions Lead to Uncertain Inheritance Outcomes

JANUARY 2, 2017 VOLUME 24 NUMBER 1
You probably know that it’s possible — though state laws vary quite a bit — to adopt an adult. But have you given any thought to what effect the adoption might have on inheritance rights? That’s the sort of problem that gets lawyers (and judges) excited. Two recent appellate decisions for Iowa and Illinois address similar but different adult adoption conundrums.

In Iowa, Marian (we’re just going to use first names here — no disrespect intended) had two adult children, Russell and Marcia. Marian’s sister-in-law Janice had no children. Janice intended to leave her estate to Russell, but under Iowa law that would mean that he had to pay a tax on his inheritance, because he was not her child.

In order to avoid that inheritance tax, Janice adopted her nephew Russell after he became an adult. That worked just fine, and avoided any tax — but what about Russell’s relationship with his biological mother, Marian?

When Marian died in 2014, her will divided her estate between “my children, [Russell] and [Marcia], share and share alike.” But was Russell still Marian’s child? Marcia argued that her brother was really her former brother, and his adoption by Janice effectively disinherited him from her mother’s will.

The Iowa probate court was not impressed with the argument, and neither was the Iowa Supreme Court. Though the adult adoption severed the parent/child relationship between Marian and Russell, Marian’s will specifically named her children. According to the state’s high court, that created a presumption that she meant to include Russell even though he might have been adopted by someone else. Roll v. Newhall, December 23, 2016.

Meanwhile, the Illinois courts were faced with a flip-side problem when Betty adopted her step-son Ron. You see, Ron’s mother and father were divorced when he was three, and he was raised mostly by his mother. His father remarried and Ron did spend considerable time (particularly in high school) with his father and step-mother.

When Ron was 21, his step-mother Betty’s mother died, leaving a trust that would ultimately flow to Betty’s children. A year later Betty asked Ron if he would be willing to let her adopt him. Betty’s father later modified his own will to specifically disinherit Ron, but Betty’s mother’s trust was already in place.

When Betty died fifteen years later, her mother’s trust was set to benefit her children. Was Ron a child for purposes of that trust? That was the question facing the Iowa probate court.

Over the objections of Betty’s other relatives, the probate court determined that the adult adoption was effective. Ron would receive a share of his adopted grandmother’s trust. The Illinois Court of Appeals upheld that ruling.

The key question in Ron’s story was whether the adoption was a “subterfuge.” If the other heirs could show that Betty’s adoption of Ron was solely motivated by her desire to make him a descendant for purposes of her mother’s trust, then they might be able to challenge the adoption.

The other relatives pointed out that Ron was an adult when Betty adopted him, that the timing was suspect (coming just a year after Betty’s mother’s estate was opened), that Ron didn’t even tell his biological mother about the adoption until Betty’s later death, and that Ron himself had acknowledged that Betty was motivated to adopt him for “estate reasons.” On the other hand, evidence showed that Ron had spent considerable time with Betty and his father after they were married, that he lived nearby at the time of the adoption, and that Ron and Betty had a close, coninuing relationship for over thirty years. The effectiveness of the adoption was upheld. In re: Estate and Trust of Weidner, December 20, 2016.

Would the same cases be decided the same way in Arizona? Perhaps not.

First of all, adult adoptions in Arizona are sharply limited. Arizona’s statute on the subject, ARS section 14-8101, permits adult adoptions only when the person being adopted is:

  1. Over age 18 but no older than 21, and
  2. A stepchild, niece, nephew, cousin, grandchild or (sometimes) a foster child of the person adopting.

Under the second test, either Russell or Ron could have been adopted just as they were in Iowa and Illinois. But both of them were over age 21 when adopted, so those adoptions could not have been completed in Arizona.

Assuming, though, that the adoptions were effective in Iowa, Illinois or wherever concluded, Arizona would honor the other state’s (different) rules. If adoptive parents Marian or Betty had moved to Arizona after adopting Russell or Ron, the same legal problems might have arisen.

One other state law difference that might have made the outcome in Marian and Russell’s case: nothing in the adult adoption statutes in Arizona requires that the existing parental relationship be dissolved. Russell could presumably be his aunt Janice’s son AND his mother Marian’s son at the same time. Of course, this outcome is harder to test — Arizona does not have an inheritance tax like Iowa’s, and so it is difficult to think of why the story might play out in the same way.

Beneficiaries Permitted to Modify Trust Terms by Agreement

OCTOBER 19, 2015 VOLUME 22 NUMBER 38

Not every client we speak with wants to set up a trust for generations of descendants, but some do. The notion of allowing assets to grow for two or three (or more) generations can be attractive.

It is difficult, of course, to imagine what one’s grandchildren and great-grandchildren will be like when they grow up. There’s another challenge that is less obvious, though — what will the economy, the legal environment, and the very notion of trust planning look like in, say, 80 years?

We’re not particularly good at predicting the look of the landscape at the turn of the next century, but occasionally we get a little insight into the problem when considering the plans made several generations ago. Trusts can easily live for a century, and the problems facing trust beneficiaries today might or might not have been considered when those trusts were drafted.

That’s what Pennsylvania’s intermediate appellate court had to deal with in a recent case it considered. At issue was the trust established by Edward Winslow Taylor in 1928. Mr. Taylor died in 1939, and the trust became irrevocable. It continues — altered in at least two fundamental ways — since then.

Originally, the trust named The Colonial Trust Company as trustee. Two years later he amended the trust to change the trustee to The Pennsylvania Company for Insurance on Lives and Granting Annuities as trustee, since it had assumed the business of the initial trustee in a merger. In the following eight decades, a series of mergers and buyouts had left Wells Fargo Bank, a national bank and trust company, as trustee.

The trust initially paid its income to Mr. Taylor’s daughter, Anna Taylor Wallace. When she died in 1971, she used her power to direct the trust income to her oldest son, Frank Wallace, Jr. Upon his death in 2008, the trust was divided into four separate trusts — one for the benefit of each of his children, with each then being worth a little less than $2 million. Each trust will continue until 2028.

A lot has changed in the practice and law governing administration of trusts since the 1920s. As just the latest illustration, Pennsylvania, where these trusts are administered, has adopted the Uniform Trust Code (as has Arizona). Trusts written almost a century ago seem hopelessly dated today.

Two years ago, three of the four trust beneficiaries suggested updating the language of the trust to reflect more modern thinking. One change they wanted to make: they argued that the trust should be modified to allow the four of them, if they chose, to change the trustee from Wells Fargo to a new corporate trustee.

Though no beneficiary objected to the change, Wells Fargo did object. The bank convinced the Philadelphia judge that the new Pennsylvania Trust Act did not allow such a change, even if the beneficiaries had all agreed. The beneficiaries appealed.

In the appellate court, the beneficiaries argued that all they were doing was to modernize the trust’s language. The inclusion of a power to change trustees, they insisted, would be considered commonplace today. Furthermore, the Pennsylvania version of the Trust Code clearly permitted modifications so long as all beneficiaries (and the original settlor, if he had still been living) agreed.

Not so fast, insisted Wells Fargo. The scholars who drafted the Uniform Trust Code had clearly indicated that their intention was not to permit a change of trustee by modification of the trust document — even if all the beneficiaries did agree. The bank pointed to the comments written by the uniform code’s drafters in support of their argument.

The appellate court, in a split (2-1) decision, sided with the beneficiaries. According to the majority opinion, the comments written by the drafting committee shouldn’t even be consulted unless there is ambiguity in the language of the statutes. Here, there is not — the Pennsylvania Trust Act permits beneficiaries, acting together, to make a change that includes the power to change trustees.

The dissenting judge would have found that removal of a trustee is a different matter from other trust amendment provisions. In fact, the Pennsylvania statute includes a specific method for trustee removal — and the agreement of the beneficiaries is not a method included in that separate statute. The specific trustee removal provision should have governed over the general modification provision, in the view of the dissenting judge. Trust of Edward Taylor, September 18, 2015.

As we note above, Arizona has also adopted a version of the Uniform Trust Code. Does that mean that an Arizona case would be decided the same way? Perhaps not.

Arizona made small but significant changes to the uniform law before adopting it. Those changes might well compel the opposite result — and particularly where the question appears to have been a close question even under Pennsylvania’s version of the uniform law.

Nonetheless, we like to see discussion about the Edward Winslow Taylor case, for at least these three reasons:

  1. It highlights how much hubris is involved when we “plan” for management of assets a century or so after our own demise. That doesn’t mean it can’t be done, or even that it shouldn’t be tried — but it does remind us that flexibility is key.
  2. We presume that Mr. Taylor was a descendant of Edward Winslow — a signer of the Mayflower Compact. While we’re not descended from Mr. Winslow, we are descended from his sister. It makes us feel proud to see that this (our) patrician family remains relevant today.
  3. “We” in this case means your author and his brother Steven. Not only does Steven now live in Philadelphia (where Mr. Taylor’s trust is administered and was litigated), but October 19 (the day of publication for this little newsletter) happens to be his birthday. It’s a small world, with plenty of odd circles to keep us mildly entertained (and by “us”, here I mean me).

Happy birthday, Steve.

What Survivor Must Do When Trust Mandates Split on First Death

SEPTEMBER 14, 2015 VOLUME 22 NUMBER 33

Once in a while we read an appellate court decision that nicely addresses a subject which isn’t the issue before the court. A recent Arizona Court of Appeals case illustrates this phenomenon nicely.

The legal issue was technical and would appeal only to lawyers — and probably only to appellate lawyers, at that. After the probate court ruled against them, some of the beneficiaries to a trust filed a motion to have the court reconsider its decision. When that also failed they appealed, but alleged that the probate court should have considered an argument similar to but different from the one they actually made. That approach was, unsurprisingly, unsuccessful.

What’s more interesting about the decision, though, is the background of the dispute. It involved a joint revocable trust that mandated division of a married couple’s assets into two equal shares on the death of the first spouse.

A little background might be appropriate here. Joint revocable trusts are fairly common in Arizona, and provisions like those involved in this case are far from unusual. Until recent years, the mandatory division was often a tax-driven decision, in order to minimize estate taxes on a married couple’s assets. Today that is less likely to be the reason for a mandatory trust split, since only very large estates face any tax liability at all and surviving spouses inherit their deceased spouse’s estate tax exemption amount, to the extent that it is unused.

The combined estate in the recent appellate case was apparently modest, and so estate taxes seem unlikely to have been the reason for the mandatory split. What other reason, then, might a married couple have for ordering a split of assets on the first death? Second marriages.

Dale and Mary were married for some years. They each had children from a prior marriage, and they owned their home in Green Valley, Arizona. In order to make sure that their home’s value was split equally between the two families, they created a trust to hold just their residence. That trust included a mandatory split into two shares on the first death, and directed that each half-interest in the trust would pass to one spouse’s children. That way they could assure the division even if the survivor lived for years after the death of the first spouse.

As it happens, Dale died first — in 2005. Mary died four years later. Though she was trustee of the trust holding the residence, she never actually divided the trust in half. She did, however, use the home as security for a loan she took out after her husband’s death.

Four years after Mary died, one of Dale’s children filed an action to compel Mary’s children to account for the administration of the trust, and to perfect the claim to half the house. The probate judge hearing the matter did not order an accounting, but did order half of the home’s value to be distributed to Dale’s children — along with $33,429.33 from Mary’s half, to make up for the fact that her children had used the residence after Mary died. The judge also ordered an offset for the loan Mary took out against the house after Dale’s death.

Mary’s children asked the probate judge to reconsider his decision, which he declined. That set up the actual legal argument in the appellate case, which (as we’ve already noted) as actually less interesting than the mandatory trust split issue. Suffice it to say that the Court of Appeals chose not to upset the probate court’s judgment directing distribution of the trust according to its terms, plus damages for Mary’s (and her children’s) misuse of the trust’s sole asset. In Re Newman-Pauley Residential Trust, August 31, 2015 (an unpublished decision).

Why is the uncompleted split so much more interesting than the actual legal issue in Dale and Mary’s trust case? Precisely because it is so commonplace.

We regularly meet with surviving spouses who have not gotten around to the division of assets mandated by a joint trust document. Sometimes the trust might include provisions that allow the surviving spouse to skip the requirement, or to undo it. But if the trust unequivocally directs such a division and the surviving spouse does not follow that direction, the courts will ultimately order a split to reconstruct what should have happened months, years or sometimes decades before.

Of course these disputes are most common in second-marriage situations, where each spouse has children — often children who were grown when the marriage took place. They also occur in family situations where each spouse is closer to one child or one group of children. Sometimes we see them when the couple operated a family business, and less than all of the children are involved in managing the business after one spouse’s death.

What is the lesson to be taken away from the dispute between Mary’s and Dale’s children? Get legal advice early, and follow it. If Mary had talked with her lawyer shortly after Dale’s death, she might have gotten direction about how to actually make the trust split. Her expectations — and those of her children — might have been set more reasonably, too. That might have saved the later dispute and attendant legal expenses.

The “Spendthrift” Trust Explained

JULY 27, 2015 VOLUME 22 NUMBER 27

Lawyers love to name and categorize everything they deal with. It’s a useful way to group similar concepts, but it can lead to confusion and misunderstanding. That’s particularly true when a legal concept is non-exclusive — in other words, when one instrument can go by a number of different names. Let’s see if we can address one good example: the “spendthrift” trust.

You might reasonably ask: “is my trust a spendthrift trust?” It likely does not have the term in its name (no one wants to be a beneficiary of the “John Jones Spendthrift Trust” — not even John Jones). How will you know? Because it will have a paragraph somewhere in the trust that says something like this:

“Trustee shall not recognize any transfer, mortgage, pledge, hypothecation, assignment or order of a beneficiary which anticipates the payment of any part of the income or principal. The income and principal of the trust estate shall not be subject to attachment, garnishment, creditor’s bill or execution to satisfy any debt, obligation or tort of any beneficiary, nor shall any part of the trust estate pass to a trustee or receiver in any bankruptcy or insolvency proceeding initiated by or against any beneficiary.”

It might not read exactly like that (the sample is taken from one of our documents at Fleming & Curti, PLC, and lawyers tend to love tinkering with language like this). It might be identified as “Spendthrift Provision” — or it might not. In Arizona, just calling the trust a “spendthrift trust” is probably sufficient (though we’d never recommend relying solely on the designation).

The point is that the trust’s beneficiary can not sell or transfer their right to receive future distributions from the trust. If there is a provision with similar language, the trust might reasonably be called a “spendthrift” trust. That, in turn, raises other questions:

Does the beneficiary have to be a spendthrift for such a provision to be useful? No. Plenty of very reasonable people, conservative in their financial arrangements and thoughtful about expenditures, get in financial trouble. Or they might be involved in a lawsuit. Or a messy divorce. The spendthrift provision is helpful to keep the beneficiary’s interest in the trust away from those creditors, current or future.

Can I put a spendthrift provision in my own trust? Yes, and we routinely do. But it likely won’t be effective to protect your own assets from your own creditors. The general legal principle is that you can’t shelter your assets from current or future creditors, though there are some exceptions to that rule. This is also one topic on which state laws vary considerably. Ask your lawyer if you are eager to seek protection for your own assets.

Does the spendthrift provision require that someone else be trustee? Wouldn’t it be great if you could set up a trust for your daughter, make her the trustee, and include a spendthrift provision to protect against her creditors? That way she could have complete control of the funds, make decisions about when to distribute money to herself, and still keep her inheritance secure. Turns out you can do just that — at least in most circumstances and in most states.

To keep the protection from slipping away, most of the time lawyers suggest that someone else be trustee of your daughter’s inheritance. It’s not uncommon, though, for your son to be trust of her trust, and for her to be trustee of his trust. That way they can continue to communicate and work with one another, they can help protect one another, and the decisions can stay within the family. Of course, everyone’s situation — assets, family dynamics, family structure — is different, so talk with your estate planning attorney.

Is there anyone who can pierce the spendthrift provision? There might be, depending on state law. Arizona law, for instance, creates a possibility that spendthrift trusts might be reachable for child support payments.

One other possible exception: if the trust requires distributions on a regular schedule, a creditor might be able to collect those future mandatory distributions. But the exceptions are usually very narrow — spendthrift trusts are very effective most of the time.

How likely is it that my trust is not a spendthrift trust? Not very likely. The vast majority of trusts in the U.S. include spendthrift language — or at least the vast majority of lawyer-drafted trusts do.

Should there be a spendthrift provision in my will? It’s a different question for wills, since they usually direct the distribution of all assets outright to beneficiaries in a relatively short period of time. But if your will includes a trust for one or more beneficiaries, you might want spendthrift language in those “testamentary” trusts. Talk with your lawyer about this issue.

We hope this helps. The language can be a little daunting, but lawyers’ categorizations (and labels) are actually understandable and helpful — even by real people.

Assets Not Held As Part of Trust Pass to Different Successors

DECEMBER 15, 2014 VOLUME 21 NUMBER 45

From time to time we see appellate court decisions dealing with a common estate planning problem: after creation of a trust, changing title to assets is an essential element of completing the estate plan. Once in a while, as appears to be the case in this week’s court decision, the failure to “fund” the trust may actually be intentional. But the point is still valid. Assets not titled to (or left to) a trust will not be affected by the trust’s terms.

Actually, before we lay out the facts in this week’s case, we want to make two other points supported by the decision. First: to the extent that probate avoidance is an important part of your estate planning, just signing a trust document is not enough. But that doesn’t mean that assets not transferred to the trust will necessarily need to be probated — there are other probate avoidance choices available, whether you have signed a trust or not. Second: heirs need to look at the larger picture, not just the language of one document — be that a trust, a will, a power of attorney or a handwritten note from a now-deceased family member.

Let’s look at the facts of an Arizona Court of Appeals case issued late last week. Fred and Elena Dominguez (not their real names) had been married for years, but had no children together. Elena had four children from her first marriage. Fred and Elena created a joint revocable living trust and transferred three parcels of real property into the trust’s name in 1998.

Late in 2003 Fred and Elena sold part of their real property for $910,000. They received about a third of the sale price in cash, and took back a note for the remaining value of the property. A month later they opened an account at a local bank; that account was titled in their names as individuals, not as trustees, and Sarah, one of Elena’s daughters, was named as a joint owner.

Elena died a little more than a year after the account was opened. Shortly after that, her name was taken off the account so that it was held by Fred and Sarah as joint owners — and not as trustees.

Upon Elena’s death, the trust was divided into two shares and both became irrevocable. It wasn’t until four years later that Fred hired a Phoenix attorney to make the calculations and complete the division; the attorney incorrectly listed the joint account as a part of one of the trusts. The trust division was completed as to the remaining assets, but it took Fred two more years to notice that the listing improperly included the bank account as an asset of the divided trust. In 2011 an amended allocation of trust assets was completed by the same attorney, and approved by Fred and the then-current trustees of the trusts.

Fred himself died shortly after the amended trust division was completed. Elena’s two sons requested an accounting from the trustees; they sent a preliminary accounting and copies of some account documents. Elena’s sons filed a complaint with the probate court arguing that the trustees had failed to discharge their fiduciary duties by not collecting the assets in the joint bank account, and that the accounting did not show the proceeds of the note from the sale of the trust’s real estate.

The probate court held a three-day hearing on Elena’s sons’ complaint. Ultimately, the judge ruled that (a) the joint bank account passed to Sarah outside of the trust and outside of probate proceedings, (b) the receipt of payments on the note was not the responsibility of the trustees and did not need to be accounted for, and (c) the accounting provided by the trustees was both accurate and adequate.

The Arizona Court of Appeals affirmed the probate court decision. The appellate judges noted that it was apparent that Fred and Elena intentionally took the proceeds from sale of the real estate out of the trust — which they were entitled to do while they were both alive — and set up the joint account. Elena’s sons had not shown that there was any mistake or misunderstanding about the transaction. Just because the underlying real estate was once owned as part of the trust it did not follow that they had to keep it in the trust after the sale.

Similarly, the trustees had no duty to account for note payments received by Fred and Elena before their deaths (and before the trustees even took over the trust). The trust terms echoed general trust law: the successor trustees were permitted to accept trust assets as they stood at the time they took over as trustees, and no evidence had shown that any improper transfers had occurred.

One interesting side fact: the two successor trustees were the two husbands of Elena’s daughters. One of those daughters, of course, had received a large bank account outside of the trust. Her brothers argued that the trustees had breached their duty of impartiality by not pursuing Sarah for the bank account, and by communicating with Sarah’s lawyers and strategizing about how to present their case. Not so, ruled the Court of Appeals. The property passed outside the trust, and the trustees were permitted to discuss the case with Sarah and her attorneys — Sarah would be a key witness in the case, after all.

Finally, the Court of Appeals approved the accountings provided by the successor trustees. They demonstrated that “trust assets were accounted for and intact.” That was all that was required of the trustees, and they met their obligations. In the Matter of the Dobyns Family Trust, December 11, 2014.

It appears as if Fred and Elena intended to change the distribution of their assets by creating the joint account outside the trust. They could have accomplished the same result by amending the trust — which they would have had the authority to do at the time of the sale of trust assets (or earlier, for that matter). That might have avoided the later challenge, but of course it might not have done so, either.

Much more often, we see cases in which changes like those Fred and Elena worked are inadvertent. “Funding” of a trust is an important part of the plan, but just as important is maintaining the funding status so that you do not accidentally change your estate plan. Of course, if you intend to make a change your lawyers will be happy to counsel and assist.

Managing Your Digital Assets With an Eye on Mortality

SEPTEMBER 22, 2014 VOLUME 21 NUMBER 34

For a while it was just an interesting academic problem: what would happen to your Facebook page, your Instagram photos, and your Pinterest collection if you died? And what about your e-mail account(s), your shopping login information and the passwords for all of those different online arrangements?

It became less of an esoteric question when several things started happening:

  1. More and more, people organize their entire lives online. You may be paying your bills, ordering medications, managing bank and brokerage accounts, and even posting automatic updates at various websites.
  2. Suddenly, some of those digital assets started having real economic value. Not only your airline frequent flyer miles, but the real dollar income from linking your Pinterest account (like pilot Dan Ashbach did) can add up.
  3. People started dying. Well, truth be told, they have been dying for a long time. But now some of them have LinkedIn, PayPal and Google Plus accounts. What happens to those accounts?
  4. Other people started losing the ability to manage their own affairs (again, that’s been going on for more than just a few years) — and family members started figuring out how to manage accounts, pay bills, and (oops) take money out of accounts online, anonymously and without any legal authority or oversight.

What does all this mean for your estate planning? It should be clear that you need to think about your online and electronic presence, and how to allow someone to take the appropriate actions when you become disabled or upon your death. “Appropriate” may mean something different to you than it does to your neighbor, and so it is also important that you make clear what you want done with your digital assets, and that you know about any legal constraints or limitations.

Let’s start with passwords. You know that you’re not supposed to reuse passwords, and that you should change your passwords on a regular basis. Maybe you have made the decision not to change the password for your favorite sandwich shop ordering site every sixty days, or to use the same password for your car rental and airline reservation accounts. Even so, you probably have a lot of passwords, and a challenging problem managing them.

Now think about getting those passwords to your spouse, or child, or successor trustee. Do you write them down somewhere? That would be very insecure, and a lot of work — you need to update the list every time you change a password (or add a new account). Where can you keep it that it is available and secure? A password-protected file on your computer? Which computer, and how hard is it to break the password protection on your favorite word processor, and what happens if your computer hard drive fails (as it most assuredly will, sooner or later)?

Take a look at password utility programs, like LastPass, or RoboForm, or Password Box (there are dozens of others). There are free ones (or at least free versions), but you might have to pay a few dollars (or even a few dollars a year). The best of them keep your passwords in an encrypted online space, and install in your local browser. Most even work on your iPhone or Android phone or tablet. Now you only have one password to remember, change and pass along — the password manager takes care of those changes for all the other passwords.

How do you pass along the password information on death or disability — without giving anyone access right now? Look into something called a “dead man’s switch.” The concept is borrowed from train locomotives. In the electronic world, it works like this: you set up an account, and it sends you a message every 30 (or 60, or 90 — you usually can change the the timing) days. You respond by telling the program that you’re still OK, and nothing happens for another cycle. But if you don’t respond, it decides something has happened to you, and it sends a message (which you have written in advance) to the recipient(s) of your choice.

You can see how that might make sense. You write a message telling your daughter the login information for your password management program, and a list of major accounts for her to look into. All you have to do is remember to update that message each time you change your password, and respond to the messages you get every month. The rest takes care of itself.

You can look into “dead man’s switches” at Stochastic Technologies, or the eponymous Deadman. Google even has one built into its accounts, called the “inactive account manager.” It’s not easy to find or activate (at least it seemed unnecessarily difficult to us), but it’s free and does just what we’re looking for, at least for one account.

Think about what documents and arrangements you need to prepare in advance. Should there be a provision in your power of attorney, your trust and/or your will about digital assets? Probably, but recognize that the law is still unsettled. One theory is that the person acting on your behalf may violate federal law if they log in as you — no one seems to know of any prosecutions for actions authorized by the account owner, but lawyers still hesitate to recommend that people skip across the law’s boundaries.

A good start: prepare an inventory of your digital assets. Do you have photos online? Documents? What is your password recording scheme? One of the best starter kits for dealing with digital assets is, surprisingly, a four-year-old article (as this is being written) laying out some of these issues. You can read Missouri lawyer Dennis Kennedy‘s practical suggestions from an American Bar Association magazine called Law Practice Today to get you started.

There are some new developments on the horizon. A national group, the Uniform Laws Commission, is proposing model legislation that would make it clear that you have the ability to give authority to someone else to manage your digital assets. For that matter, it would be a welcome addition to have a definition of “digital assets.” The proposed Uniform Fiduciary Access to Digital Assets Act is in the drafting stages now, and will need to be adopted in a number of states before it has any significant effect on practices. We’ll update you as that process develops.

Inherited IRA Not Protected From Creditors — How To Plan

JUNE 16, 2014 VOLUME 21 NUMBER 22

It’s not very often that the U.S. Supreme Court involves itself in legal issues related to estate planning and elder issues. Last week, though, the Court did just that — by ruling that an inherited IRA is not exempt from the beneficiary/owner’s creditors, at least in a bankruptcy proceeding. What does the decision (in Clark v. Rameker, June 12, 2014) mean for you, and is there any way for you to avoid the result suffered by Heidi Heffron-Clark?

First, let’s figure out how much of a problem the Supreme Court decision creates for you. Let’s suppose that you have diligently contributed to your own IRA, and that you have managed to accumulate a significant sum — just to give it a figure, let’s suppose that your IRA is now worth $300,000. Now suppose that you are involved in an auto accident, and you are sued for injuries caused by the accident. Of course you have auto insurance, and that should take care of most or all of the liability. If your insurance is inadequate, though, can the injured party reach your IRA? The short answer (subject to a handful of exceptions unlikely to apply to you) is an emphatic “No.”

But what if you get divorced — can your soon-to-be-ex-spouse get a share of your IRA? The answer here is generally a qualified “Yes,” but there are specific rules that have to be applied and your actual answer will be very dependent on state law and facts about your marital situation.

One more theoretical question about your theoretical IRA: if you have a series of financial reverses and have to file for bankruptcy, will your IRA be scooped up the bankruptcy court (more accurately, the bankruptcy trustee)? Generally, the answer here is “No.” Your IRA is, in most cases, protected from your creditors — even in bankruptcy.

Does it make a difference if your retirement account is not an IRA but a 401(k) account? No. IRAs, 401(k)s, 403(b)s and most other retirement accounts are similarly protected from creditors and bankruptcy trustees.

Now let’s assume that you didn’t build up that IRA at all — your wife did. She contributed all during her work life, and then she tragically died before she could benefit from the retirement account. She named you as beneficiary, and you “rolled over” her IRA (it could have been a 401(k) or 403(b) — the same rules apply) into a new IRA in your own name. You are now treated as the owner of the roll-over IRA, and it is still exempt from creditors — even though it was inherited.

You can probably see where this is going next. The situation in the Supreme Court case was the next step: Heidi Heffron-Clark’s mother Ruth Heffron was the one who actually built up the IRA. When she died, she named her daughter as beneficiary. Ms. Heffron-Clark was required to begin withdrawing the inherited IRA on a regular schedule, but she chose to leave everything she could in the IRA to continue to earn money tax-free. Then she got into financial trouble, and filed for bankruptcy. The trustee in her bankruptcy proceeding asked the bankruptcy court to order transfer of the IRA to him; he intended to liquidate the IRA and use it to pay Ms. Heffron-Clark’s creditors. She objected that IRAs are exempt from creditors’ claims and bankruptcy, but the court allowed the trustee to gain access.

Ms. Heffron-Clark asked the Federal District Court to overrule the bankruptcy court, and it did. Then the Court of Appeals reversed that finding, ruling that the bankruptcy court (and the bankruptcy trustee) had been right all along. The Supreme Court agreed to review the case, partly because another Court of Appeals from a different Circuit had ruled that an inherited IRA was safe from the bankruptcy trustee. It was important to have a single answer applicable in all U.S. bankruptcy courts.

The Supreme Court agreed that Ms. Heffron-Clark’s inherited IRA had to be paid over to the bankruptcy trustee, and used to pay off some of her debts in bankruptcy. The federal bankruptcy law’s exemption of “retirement funds” did not apply to inherited IRAs, according to the Court, because they were not anyone’s retirement savings — though they were before the original owner’s death.

Now suppose that Ruth Heffron had wanted to preserve her IRA for her daughter, knew that her daughter’s financial health was precarious, and knew that she would likely not live long enough to use the entire retirement account herself. Was there anything she might have done to avoid the result announced in last week’s Supreme Court decision? Yes, as it happens — Ms. Heffron could have simply named a trust for the benefit of her daughter as beneficiary of the IRA (rather than naming her daughter directly), and included appropriate limitations in the trust to protect it from her daughter’s creditors. We have often advocated for creating trusts for inheritances generally, and the Clark v. Rameker decision makes that idea much more compelling, especially for large retirement accounts.

Why would the result be different? Not because there is anything special about retirement accounts, but because it is relatively easy to protect inheritances from the recipient’s creditors by leaving the inheritance in trust — and that same principle applies to retirement accounts. The trust itself is slightly more challenging to create, but worth the effort in many, perhaps most, cases.

More Definitions for Estate Planning Terms

FEBRUARY 10, 2014 VOLUME 21 NUMBER 6

Last week we gave you short definitions of some common estate planning terms, like “will” (and “pourover will”), “trust” (including both “living” and “testamentary” trust), “grantor trust” and more. This week we want to continue that project with another batch of common terms:

Durable power of attorney — sometimes called a “financial” or “general” power of attorney. The key is that the power of attorney continues (or becomes effective) even if you become incapacitated. This is simultaneously the most important and most dangerous document that most people will sign with their estate planning. Why dangerous? Because it gives such broad, mostly unchecked power to someone else to handle your finances.

Living will — a document by which you give directions about how you would like to be cared for (or what care you would prefer not to have) at the end of life. That’s not the only time the living will is effective (or important), of course, but that’s what people usually think of. This is the document you might sign to direct that you not receive artificially-supplied food and fluids at a time when you are no longer able to make decisions yourself. OR you might direct that you DO want food and fluids (and/or other care) provided in such a situation.

Health care power of attorney — you can designate someone else to make medical decisions for you if you become unable to make or communicate decisions yourself. That person is called your “agent” or “attorney-in-fact,” and the document that names them is your health care power of attorney. That’s the term usually used in Arizona, by the way — other states might use different terms for the same concept.

Advance directive — any document by which you provide for medical decision-making in the event that you become incapable is called an advance directive. The most common advance directives are health care powers of attorney and living wills, but there are others. In Arizona, for instance, you might have an advance directive about mental health care decisions, or rejecting resuscitation measures, or even giving someone authority to decide when you should stop driving. These are a little bit more specialized, and you should talk with your attorney about them.

UTMA accounts — UTMA stands for “Uniform Transfers to Minors Act”, and it refers to a law that has been adopted in some form in every American state. It amounts to a simple sort of mini-trust set out in the law — rather than pay to have a trust set up for a minor, you can simply make a gift to a UTMA account. That makes it easy and inexpensive. It also means that you are stuck with the terms of that legislative trust, but it’s one way to make gifts to children and grandchildren.

529 plans — as long as we’re writing about children and grandchildren, we should mention these popular methods of making gifts. “529” refers to the section of the Internal Revenue Code which both permits and governs these accounts. Once again, it is a simple and inexpensive way to make a gift to your child or grandchild, provided that the primary purpose of your gift is to pay for future educational costs. Ask your attorney (and also your accountant and financial planner) for more information and direction if this idea seems appealing.

“Crummey” trusts — sometimes called “irrevocable life insurance trusts” (or abbreviated as ILITs), these trusts are a method of transferring assets (often, but not always, life insurance) to future generations without making the gift outright and absolute. The nutshell version: you make a gift of less than the annual exclusion amount (see below) to a trustee, and the trustee notifies the beneficiary that they can take out the gift. When they don’t remove the gift, for tax purposes the transfer is treated as having been made by the beneficiary, so the gift is deemed to have been completed. These trusts are often used to allow gifts of the annual premium amount for life insurance, or to make gifts without giving the beneficiary a chance to misspend the gift.

Annual gift tax exclusion amount — there is a tremendous amount of misunderstanding about this concept. In 2014 you can make a gift of up to $14,000 to any person without having to explain yourself to the Internal Revenue Service or anyone in the federal government. Your spouse can do the same thing — even if it is your money that funds the gift. You (and your spouse, if he or she participates) can do the same thing for as many individuals as you’d like. Here’s the misunderstanding part, though: if you give, say, $20,000 to one person, that doesn’t mean you pay an gift tax, or you have to get government approval. It just means you have to file a gift tax return — and if the amount you total up from all of those returns over your lifetime gets to $5,000,000 (it’s actually more than that, but we’re trying to make this simple) then you might have to pay a gift tax. This $14,000 figure, by the way, has absolutely nothing to do with Medicaid eligibility (yes, you can make a $14,000 gift — but it might make you ineligible for Medicaid even though it’s blessed by the IRS).

And, finally, this perennially popular concept/term:

EINs — “Employer Identification Numbers” are issued by the Internal Revenue Service for probate estates, trusts, and other entities that might have to file income tax returns. When someone asks for your “TIN” they mean that they want either your individual Social Security Number or the appropriate EIN. Even if the trust or estate does not have employees (and even if it never will) it still gets an Employer Identification Number (EIN). Does your trust need to have an EIN issued? That is an enduringly popular question, which we have addressed several times before (and undoubtedly will again).

Why You Might Want to Create a Trust for Your Kids

NOVEMBER 25, 2013 VOLUME 20 NUMBER 45

This conversation comes up a lot with our estate planning clients. “So, you’re leaving your entire estate equally to your three kids,” we say to our client. “Do you want to leave it outright or would you consider putting it in a trust for them?” The two most common responses:

  1. “No, my kids are all OK. They can manage money and would be insulted if their inheritance was left in trust.”
  2. “No. If they can’t manage their inheritance then I can’t help them. I don’t want to try to control things after I’m gone.”

Then we explain that creating a trust is actually a good thing for the kids — but it’s usually hard to convince clients. So let’s try it here, and then we can just hand them this newsletter.

Why consider a trust for your child’s inheritance? It may be a real benefit to them, protecting their inheritance from their creditors, spouses — even estate taxes. Let’s look at each of those concepts briefly.

One common concern we hear: “we love and trust our daughter, but though we like her husband he doesn’t really have any money sense.” There’s good news for that client: even though Arizona is a community property state, inheritances start out as separate property. In other words, the money you leave to your daughter is not immediately available to her husband, even in a community property state.

But wait. It’s really easy for your daughter to turn that separate property into community or joint property. All she has to do is add it to her joint banking account, or add her husband to the account title. Once it has become joint property, it is difficult to return it to separate property status. If your son-in-law or daughter-in-law is a “spendthrift,” that can expose your estate to loss after your death.

By creating a trust for your child’s inheritance, you make it easier to keep the property separate from spouses, and more likely to pass to your grandchildren on your child’s death. Sadly, divorce is very common: you can help keep the inheritance from being considered as part of the property to be divided if your daughter does divorce.

Let’s consider creditors. “Our son is a doctor,” you say, “and he has plenty of money.” Ah, but professionals are vulnerable to future malpractice lawsuits, and anyone can have even a substantial estate drained by an auto accident or medical crisis. Creating a trust for your son can help protect the inheritance from lawsuits, creditors, and bankruptcy.

How about taxes? If your daughter is a successful professional, she might well have a taxable estate on her death. That could be true even though she is not particularly close to that figure today. If estate taxes do kick in, they start at a very high 40%. And though we tend to ignore state estate tax considerations in Arizona (we don’t have a state estate tax at all), other states do impose taxes, even on much smaller estates. You may have settled in Arizona for good, but your children may move several times before picking their final residence — and that may subject them to a state estate tax.

If you leave your daughter’s inheritance in trust, you can fairly easily arrange to keep it out of her “estate” for tax purposes. Even though she is worth, say, $3 million, and you are only going to leave her another $500,000, the math is compelling: by the time she dies, that $500,000 could mean $200,000 or more in additional tax liability to her estate.

So there are good reasons to leave an inheritance in trust, even though all your children are responsible and your estate is modest. But aren’t there some serious downsides? Doesn’t it mean a lot of additional costs and imposition of a bunch of difficult rules? Not really.

Depending on your family circumstances, you might even name your son trustee of his own trust. Or make your son trustee of the trust for your daughter, and make her trustee of his trust. Or make your daughter (you know, the one with her CPA who works for the bank) trustee for all the kids’ trusts. In other words, creating a trust does not mean you have to incur professional trustee fees — though it might actually make sense to name a non-family trustee. We can talk about those options.

The trusts for your children will have to file tax returns each year. That will in fact mean a small additional cost. But the total amount of income tax paid need not increase — it should be fairly easy to assure that each trust’s income is taxed to its beneficiary, rather than paying taxes at the (often much higher) trust rates. We can talk about those issues, as well.

What about your son’s access to the money? Do you think he might want to use his inheritance to pay off his mortgage, or to allow him to put more away for retirement, or to send your grandkids to college? You can give him the power to demand money from the trust, or give the trustee direction to follow those kinds of requests. Let’s talk about how much control you want to give each of your children over the trust while they are alive. And on their death, you can even give your children the power to name which of their children (or spouses, or charities, or whomever you want to permit) will receive the remaining trust’s assets. This concept, incidentally, is sometimes described as a “dynasty” trust — which makes it sound like a very fancy, expensive idea only for rich people.

Cost? Setting up a trust for each of your children will likely increase the cost of your estate planning — but by a pretty small number, in most cases. We do this a lot, and so we already have a library of provisions and ideas to draw on. We almost always charge flat fees for our estate planning work, so we can tell you upfront how much additional cost such provisions will add to our fees — and we predict that you will be at least mildly surprised at how little cost it adds.

Oh, and these principles apply even (perhaps especially) if you are leaving your estate to grandchildren, nieces and nephews, or anyone other than your children. The illustrations we use are not intended to limit the point by gender, either — whenever we say “son” you can substitute “daughter” and the point is still valid.

Why Do I Need a Lawyer — Can’t I Write My Own Will?

OCTOBER 14, 2013 VOLUME 20 NUMBER 39

“My father hates, absolutely hates, lawyers,” a casual acquaintance tells us at a social gathering. “I know it’s a bad idea, but can’t he just write his own will?”

Let’s get the answer out of the way right up front: yes, he can. And there’s a very high likelihood he will do it just fine.

We can hear the faint and distant voices of thousands of other lawyers from across the country even as we write those words. “You wouldn’t do your own brain surgery, would you?” they ask. Or, more subtly: “go ahead, encourage everyone to write their own wills — lawyers’ children will go to much better colleges as a result.”

We’ll let that one sink in a moment.

Seriously: writing a will is not brain surgery. It doesn’t require anesthetic, and failure to do a good job doesn’t lead to instant death. For our money, there are much better comparisons. Would you build your own airplane (and then fly it)? Or maybe, more prosaically: are you comfortable doing your own business income taxes? In either of these two cases the project is detailed and complicated, and the negative results flowing from a mistake will not be immediately apparent. In both cases (and numerous others we might draw on) the possible negative repercussions could be far more costly than getting good professional help at the outset.

And yet thousands of people do build kit airplanes and fly them. Millions prepare their own tax returns. So can’t they prepare their own wills?

Yes, they can. There are forms and computer software to help. In our experience most people will do just fine with those kinds of assistance. The product may not be beautiful, but it can be perfectly functional.

Are we saying that you don’t need a lawyer to prepare a will? Absolutely not — there is simply no question that you are better off getting a lawyer’s advice about your estate planning. And the cost is amazingly inexpensive (it is easy to insist on that point after our visit last week to the dentist — her bill was more than we usually charge for estate planning consultations, and the visit was both shorter and more painful). Though you can prepare your own will, here are some of the reasons you should not:

  • We frequently see mistakes in do-it-yourself estate plans. We have seen wills that failed to name a personal representative (what used to be called an executor), and percentage divisions that didn’t add up to 100% of the estate, and attempts at legalese that probably reversed the writer’s actual intentions. We have seen innumerable wills that attempted to leave individual items to someone, even though beneficiary designations (which overrode the will) named someone else as recipient. We once probated a “will” written on the back of an envelope on the way to the airport — the writer, incidentally, didn’t die on that trip but five years later, with the envelope still the most recent signed document.
  • “Holographic” wills — handwritten, signed wills, which are very popular among the do-it-yourself crowd — are not valid in every state. Requirements vary. The result: a lot of self-prepared wills turn out not to be wills at all.
  • So far we have focused on wills — but should you be preparing a living trust? Do you need a Limited Liability Company established? Are there income tax considerations involved in your estate planning? Does your son need a special needs trust? How will you know, without talking with a lawyer? Well-written documents are important, but what your lawyer realizes (and you might not) is that the choice of document is often more important than the words and phrases in the document.
  • Similarly, it is usually not enough to just write a beautiful will (or trust, or power of attorney). Beneficiary designations, titles, and the relative values of your assets all are important considerations in your larger estate plan. And yes, the documents need to be well-written, too.
  • Your estate plan is not immutable. How long will your will, trust, power of attorney and beneficiary designations last? Well, they will “last” forever, or until you change them — but they will likely start being out-of-date within about five (perhaps as many as ten) years of being completed. So your self-help approach, leaving you slightly uncomfortable about whether you have done everything right, will need to be started all over in about five years.

We can go on, but perhaps our point has been made. You hire an attorney to handle your estate plan so that you can be sure the correct questions have been asked (and answered), not just to write elegant-but-wordy documents. What you get from your lawyer is, yes, good documents — but also an effective estate plan and more peace of mind.

A last word: many clients think it might save money if they prepare their own documents and then have a lawyer review them. That almost never works. The lawyer’s fees are largely based on collecting information, analyzing your situation and determining what ought to be done. Those steps have to be completed even if you prepare the documents yourself. And your lawyer probably will take longer to review your documents than to prepare her own, more familiar ones — and she will be less comfortable with the result, too. So the cost is likely to be the same or higher if you take homemade documents in for review.

Oh, and a last last word: when someone tells us that their father just hates lawyers, we have exactly the reaction you might imagine.

 

©2017 Fleming & Curti, PLC