In our last edition of Retirement Watch Weekly, I shared some estate planning tips on how to avoid probate. Let’s look at some more ways today…
A transfer on death provision (TOD) is another approach to avoid probate.
Most financial institutions now have transfer on death provisions in their new account applications and allow the designation to be changed or added later.
Transfer on death provisions, also known as payable on death (POD) accounts, are allowed in real estate deeds in many states.
The transfer of a financial account with a transfer on death provision is similar to the transfer of a retirement account.
After the original owner passes away, the account is turned over to the beneficiary or put in his or her name once the financial institution receives the death certificate and some other information.
The probate court isn’t involved.
You can name multiple beneficiaries and specify the percentage of the account each will inherit.
Unlike a joint account, the beneficiaries under a TOD have no rights in or access to the account while the owner is alive.
Also, you can change the beneficiaries or make other changes at any time without anyone’s approval or knowledge, as long as you are deemed to be mentally competent.
A transfer on death provision (TOD) account is not safe from the estate’s creditors in most states.
Also, if you are married, in most states the surviving spouse has rights to the TOD account before any other beneficiaries do. You might come across the traditional term Totten trust. That’s another name for a TOD or payable on death (POD) account, though there’s no trust involved.
Be sure your executor or the beneficiaries know about the account and the TOD provision. Otherwise, it could be lost.
Two other ways to avoid probate are the life estate and the variation known generally as a ladybird deed.
They most frequently are used with real estate, but the life estate can be used with most types of property.
An owner of property can split the title into a life estate and remainder estate.
The life estate holder usually is the current owner, and one or more beneficiaries have the remainder estate.
The life estate holder has unlimited use of the property during his or her life but generally can’t sell, give, or encumber the property without the consent of the remainder owner.
The life estate holder also can’t change the remainder owner or alter the remainder owner’s rights without the consent of the remainder owner.
After the life estate owner passes away, the remainder interest owner receives full title to the property by operation of law without going to the probate court.
The ladybird deed variation is very much like a TOD for real estate.
The initial owner has unlimited control of the property.
Without asking the remainder owner or beneficiary, the initial owner can sell, give, or encumber the property and can terminate the rights of the remainder owner without the remainder owner’s consent.
If the initial owner sells the property, the sale proceeds don’t have to be shared with the remainder owner.
There’s a trick to ladybird deeds regarding the property’s insurance.
Legal title to the property passes to the beneficiary as soon as the initial owner dies.
If the beneficiary wasn’t named as an insured in the insurance on the property, the beneficiary isn’t covered if something happens to the property shortly after the initial owner dies.
In a recent case, a niece inherited a home under a ladybird deed. But the ex-wife of the deceased owner set fire to the property a few days after the owner died.
The niece wasn’t named as an insured in the deceased owner’s homeowner’s policy and hadn’t yet obtained new coverage, so she received no insurance benefits.
Also, the deceased’s estate couldn’t claim benefits, because it no longer had a legal interest in the property.
The estate planning lesson? All owners and beneficiaries in a ladybird deed should have insurance coverage.
Another possible way to avoid probate is to create an inheritance agreement, a contract in which the owner agrees that another will inherit the property after the owner’s death.
The contracts most frequently are used among business co-owners. A court isn’t involved unless there’s a disagreement about the contract.
The agreements, however, can be cumbersome, and there aren’t many court precedents for them, especially when business co-owners aren’t involved.
It is better to use one of the other methods above to avoid probate.
When using any method of avoiding probate, it’s important to understand the potential gift tax consequences.
Adding someone as a joint owner to your account or creating a remainder interest for someone in your property is a gift.
The gift tax consequences depend on the amount of the gift. If the value of the gift exceeds the $16,000 annual gift tax exclusion, a gift tax return probably has to be filed.
The value of the gift exceeding $16,000 will reduce your lifetime estate and gift tax credit, or exemption.
There will be gift taxes due only after your lifetime exemption is exhausted.
There are no gift tax consequences for naming someone as the beneficiary of a living trust, retirement account, life insurance policy, annuity, TOD or ladybird deed.
Those are all incomplete gifts, because the beneficiary designation can be changed at any time and the beneficiary has no rights until the property owner passes away.
Keep in mind that avoiding probate is different from excluding assets from your taxable estate.
The assets you have lifetime ownership or use of are likely to be included in your estate for tax purposes, even when they avoid probate.