A Key Estate Planning Tool for Uncertain Times

Rarely has the estate planning environment been as uncertain as it is now.The current estate tax law is set to expire after 2025. After that, the lifetime exemption will be cut in half and other changes will be made if Congress doesn’t act. Key income tax breaks also will expire after 2025 without congressional action.

In addition, this November’s election results could bring tax code changes sooner, and there is a range of possible outcomes. The economy and markets also increase estate planning uncertainty.

The value of your assets and reliability of your income influence the details of the plan. Most people, when faced with such uncertainty, decide to wait it out. They won’t take action until the legal and financial picture is clearer.Waiting isn’t a good strategy. You need an up-to-date estate plan.

The key in times of high uncertainty is to have a plan with some built-in flexibility.Just as you don’t want to have no plan or an outdated plan, you don’t want an inflexible plan that can’t adapt to rapid changes. You want to give your executor and heirs some choices.

Fortunately, there’s an estate planning tool that is made for uncertain times. Adding this tool to your plan ensures you have a current plan and that the plan details can be adjusted by your executor and heirs as needed.It is a somewhat obscure tool. Many estate planners do not make much use of it. But you should give it strong consideration today.I am talking about a qualified dis-claimer, or simply a disclaimer.A disclaimer is when the person who’s named to inherit something effectively says, “No, I don’t want it.”

When that happens, the next person in line to inherit receives the property, unless he or she also disclaims it. If the second per-son in line disclaims, the third person in line receives the property. The next person in line doesn’t have to be an individual. It can be a trust, a charity, or other entity.The IRS has a few simple rules concerning when a disclaimer is effective for tax purposes, making it a qualified disclaimer.

The disclaimer must be in writing and made within nine months after the date of death of the estate owner. Also, the disclaiming person can’t have accepted any interest in the benefits being disclaimed.

A qualified disclaimer can reduce the family’s estate, gift and income taxes. The disclaimer allows the estate to adapt to tax law changes even if you didn’t have time to update the plan documents. It also can get money or property into the hands of family members who need it without it having to pass through other family members first.

A typical family estate plan has a husband and wife with wills that leave all or most of their estates to whichever spouse survives. After that, the property passes to the children of the marriage and then the grandchildren.

Suppose the wife is the surviving spouse and after examining the situation, preferably with the assistance of an estate planner and financial advisor, finds she doesn’t need all the money she’s slated to inherit. She decides there’s no reason to make the children or grandchildren wait to receive part of the estate. Also, it seems likely that the income and estate taxes imposed during the rest of her life will reduce the after-tax amount eventually inherited by the others.

So, she disclaims part of the inheritance. A disclaimer is not an all-or-nothing tool. The wife in this case can disclaim inheriting specific assets or portions of specific assets.A traditional IRA is a good use of a disclaimer. The surviving spouse might conclude that in her tax bracket, the required minimum distributions from the IRA will trigger a lot of income taxes on income she doesn’t need. So, she disclaims being the beneficiary of the traditional IRA. Or she could disclaim inheriting part of the IRA.

Her adult children are next in line to inherit it. They aren’t required to take distributions for up to 10 years. That allows them to continue the tax deferral of the IRA. There’s a double benefit if they’re also in a lower tax bracket than their mother. So, when they do take distributions the taxes will be lower than if the distributions were made to their mother. But the adult children might decide they, too, should disclaim the IRA. Perhaps they also don’t need the money now or are in a high tax bracket.

When they also disclaim the inheritance, the IRS is inherited by the next-in-line beneficiaries, who are the grandchildren. The grandchildren aren’t required to take distributions until 10 years after they reach age 18. They also are likely to be in lower tax brackets than their parents or grandchildren.

So, it might make sense for both the surviving spouse and the children to disclaim inheriting all or part of the traditional IRA so it can be inherited by the grandchildren or trusts set up for their benefit.

That’s an example of how a disclaimer strategy can be used for one asset, a traditional IRA. The strategy can be used for all types of assets. To make the disclaimer strategy work, you need to name a line of beneficiaries for each of your assets.

As in this example, the line typically would be your spouse, then your children, and next your grandchildren. But you can adapt that line for your situation and preferences.It can be a good idea to name one or more charities as the ultimate beneficiary.

This ensures there’s a final beneficiary other than your estate and lets the family decide to give some of the estate to charity you liked if they want. It is important to include a line of beneficiaries for each of your assets. IRAs and other retirement plans need to have the beneficiaries named in the beneficiary designation form. The same is true for life insurance and annuities. The inheritance of these assets isn’t affected by what’s in your will or living trust.

Your will, revocable living trust and other estate planning documents should anticipate that an inheritance might be disclaimed. The documents should state that the inheritance may be disclaimed and how the property should be distributed if it is disclaimed.

You name a primary beneficiary (your spouse in the example above) and then one or more contingent beneficiaries. As noted, you can name several levels of contingent beneficiaries so anyone can disclaim and pass the asset to the next beneficiary without any addition-al estate, gift or income taxes.

You probably want to have one or more trusts drafted for the benefit of the grandchildren, in case it makes sense for assets to be disclaimed in their favor but they’re too young to manage the assets. You probably want one trust that meets the unique conditions for being a qualified IRA beneficiary and another set up for non-IRA assets.

The big advantage of incorporating a disclaimer strategy is that it gives additional flexibility to your estate plan. The details of the plan aren’t locked in. The plan can adapt to changing circumstances in your family, the markets and the tax law. And you don’t have to redraft the documents to adapt to each change.Once you have the documents draft-ed to incorporate a disclaimer strategy, be sure your estate planner and at least the primary beneficiary know the plan.

After you pass away, they need to examine the details of the estate in light of current law and probable future law. They also can look at the cash needs and tax brackets of the contingent beneficiaries. The goals are to maximize the family’s after-tax wealth over several generations and distribute assets to beneficiaries when they need it at little or no additional tax cost. Remember, no one must disclaim an inheritance under this plan.

It is an option to use when the surviving spouse’s needs are met and a disclaimer will transfer wealth to other family members faster and increase the family’s after-tax wealth.With the disclaimer strategy, you aren’t required to have perfect foresight. Your plan is adjusted to the optimal distribution for your family at the time you pass away.