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What Is Estate Planning? A Comprehensive Overview of the Basics

Last update on: Aug 06 2020
Estate Planning

What is Estate Planning – Contents:


What is Estate Planning?

Estate Planning is defined as the process of determining how your wealth and assets should be transferred to the heirs of your choice: your children, grandchildren, friends, families, charitable causes, etc. and then deciding which legal tools and structures to use to best meet your estate planning goals. Estate planning is not simply reducing or eliminating taxes and avoiding probate. There was a time when tax reduction was the main focus of most estate plans, even for middle class families. Back then, before the 2001 tax law, the estate tax was imposed on all estates worth more than $600,000. The estate tax captured many middle class people if they didn’t have a plan to reduce their estate tax liability.

Only after establishing how you want your estate’s assets to be distributed should you consider ways to reduce taxes and avoid probate. From there, good estate plans deal with a host of other issues. Now, with all but a few estates exempt from the federal estate tax, those other issues are, or should be, at the forefront of estate planning. Indeed, estate planning is about much more than tax reduction. That’s a good thing for many people. Too often in the past, the other issues didn’t receive enough attention. Now, estate planners are making sure they are fully addressed. Although lawyers and others like to call this process Estate Planning, a better description would be Inheritance Planning.

The old tax laws distorted estate planning to make it mostly about tax planning in many people’s eyes. In fact, there are more important estate planning goals than tax reduction and always have been.

An estate plan is to ensure that you are taken care of the rest of your life and that your wealth is transferred to the people you want to have it. A good estate plan ensures these goals are accomplished with as much efficiency and as little cost as possible. A good estate plan also can smooth family relationships, while a bad estate plan makes bad family relationships worse and even turns good relationships into bad ones.

An estate plan addresses the management and distribution of an individual’s property and financial obligations after he or she dies with financial tools such as wills, revocable living trusts and power of attorney.

Estate planning is one of the most important actions a person can take to provide for his or her loved ones before dying. Estate planning helps transfer property and provides life insurance, disability income and long-term care insurance to family, friends and loved ones with few legal hurdles.


Components of an estate plan.

The Will

The basic component of every estate plan is the will. The will is a legal documents that details what a person wants to happen to his or her estate after he or she dies. A will dictates who is supposed to inherit the person’s estate and in what amounts.

More on the Will: How to Craft the Perfect Will for your Estate Plan


However, wills are subject to probate, the judicial process whereby a will is proven as legitimate in a court of law and acknowledged as the true last testament of the deceased individual. After listening to evidence from the estate’s representative, the court decides whether or not the will is valid. Subsequently, the court selects a personal representative as a fiduciary whose job it is to estimate the value of the estate. The representative also has to pay off any taxes and debt owed by the deceased individual from the estate’s assets.

Creditors are alerted to file any claims against the estate for money owed to them. Then, if there are remaining funds, claims are paid out in the order or priority dictated by state statute. After the inventory of the estate has been taken, the value of assets calculated, and taxes and debts paid off, the personal representative of the estate then seeks authorization from the court to distribute the remaining funds and assets, if any, of the estate to the beneficiaries listed in the will, or the heirs by law if there is no will. The document’s actions need to be carried out according to the laws of the jurisdiction of its origin.

More Probate Resources: To Probate or Not to Probate


Another component of most estate plans is one or more trusts. Trusts are legal relationships between a trustor and trustee. A trustor is someone who created the trust on behalf of beneficiaries and also is known as a grantor or creator of the trust. A trustee is a person who is granted control over the assets in a trust by the trustor and administers the property solely for the purposes specified until the beneficiary turns 18 or a later time stated in the trust agreement. The trustee distributes or otherwise disposes of the assets as directed by the trust agreement.

More about Trusts: Types of Trusts and Reasons for Using them

Avoiding Probate

Assets held by trusts generally avoid probate. For example, revocable living trusts, which are created during the trustor’s lifetime and can be changed or revoked at any time, are not subject to probate, or multiple probates if an individual owns property in more than one state. The trust creator usually serves as the initial trustee and manages the assets through the trust during his or her lifetime.

Revocable Living Trusts / “Will Substitutes”

Revocable living trusts also are known as will substitutes, because after the trust creator and initial trustee passes away, a successor trustee or trustees takes over management of the trust. The assets are managed and distributed according to the terms of the trust agreement. The person’s will and the probate process have no effect on these assets. That’s why it’s important when creating a revocable living trust to carefully consider how you eventually want the assets distributed.

A living trust also is a way to plan for disability. When the trustor and initial trustee is unable to manage the assets, a successor trustee named by the trustor takes over management of the trust. There’s no reason for anyone to go to court and ask for a guardian to be appointed to manage the assets.

It is important to transfer legal title to assets to the revocable living trust after it is created. That means changing deeds to real estate and titles to automobiles, boats and similar property. Otherwise, the trust doesn’t own the assets and has no effect on how they are distributed. Not all assets can be transferred to a trust. Qualified retirement plans (including IRAs), jointly owned property, annuities and other property with beneficiary designations pass outside the trust terms unless the trust is named beneficiary of the property.

Revocable living trusts are valid in every state, and the trustor can modify the document whenever he or she wants.

Trusts also can be created as part of the will, in which case they are called testamentary trusts. The will would detail which assets are to be transferred to the testamentary trust. A trust also can be created during a person’s life but not funded until after the person passes away. This usually is known as a pour-over trust. The will states which assets are to be transferred, or poured over, into the trust.

More on Living Trusts: Pros and Cons of Power of Attorney versus Living Trusts

A complete estate plan also contains several documents that take effect before the person’s death.

Power of Attorney

A durable power of attorney (POA) names one or more people to manage the person’s assets should he become unable to do so. For example, if the person were to become disabled, the agent or agents named in the POA would be authorized to pay bills, manage investments and take other actions that ensure the person and his assets are taken care of as long as he is unable to take the actions.

A POA can be general, in which case the agent is able to take almost any action on behalf of the person. A POA also can be limited. A limited POA spells out the specific actions the agent is allowed to make and might name actions that agent isn’t authorized to take. A limited POA ensures the agent doesn’t take actions the person wouldn’t approve of, such as selling certain assets or changing the investment portfolio. The downside of the limited POA is it is difficult to foresee the future and how circumstances might change. Actions a person wouldn’t authorize today might be desired in the future if circumstances change. Also, there’s no way to know how long the agent will be acting under the POA. Actions a person wouldn’t want taken in the short term might be desirable or even necessary after the passage of time.

More Power of Attorney Resources: Power of Attorney: The Most Important Document in your Estate Plan

Medical Care Documents: Medical Directive and Medical Power of Attorney

A complete estate plan also has one or more medical care documents. These have different names, with the most common being living will, advance medical directive and medical power of attorney.

These documents give one or more persons the authority to act as agent for the principal when the principal is unable to participate in medical decisions. The documents often provide guidelines for the agents, such as specifying whether the principal wants to be kept alive by any means available or prefers that life support or other means not be used under certain circumstances.

It is important that once the medical care documents are created that the principal’s medical providers have copies of them. If medical providers don’t know about the documents in advance, they’ll administer care as though the documents didn’t exist. In some cases, treatment will be delayed while medical providers determine who is authorized to make decisions. In other cases, treatment the person didn’t want will be administered.

More Medical Document Resources: How to Make Health Care Directives Work

Other Estate Plan Documents

An estate plan might contain other documents and strategies. For example, probate also can be avoided through jointly owned assets and payable on death (POD) financial accounts.

There also are many different kinds of trusts, each of which is appropriate in certain circumstances.

For example, a Spendthrift Trust provides for a beneficiary while protecting assets from the creditors or the beneficiary and the poor financial decisions of the beneficiary.

A parent who has a developmentally disabled child or children can put a Special Needs Trust in his or her estate plan. Special Needs Trusts enable the disabled beneficiary to enjoy the use of the assets that are held in the trust and, at the same time, allow the heir to receive vital needs-based government benefits. This type of trust is frequently used to receive an inheritance or personal injury settlement proceeds for a person younger than 18 years old or an individual with a disability (mental or physical).


Individuals also should integrate lifetime gifts into their estate plans.

Lifetime Gifts

Lifetime gifts to loved ones might provide several advantages. You see the benefits the gifts bring to the individuals. You also see how the person handles the gifts. That might cause you to reduce or increase the number of unrestricted bequests in your will, depending on how well the person handles the gifts. Lifetime gifts also enable the donees who receive the gifts to benefit from the them now, when they might really benefit, instead of receiving an uncertain amount at some unknown time in the future.

More Lifetime Gift Resources: How to Maximize the Power of Gifts in Your Estate Plan

Charitable Gifts

You also might consider charitable gifts. These can be given either during your lifetime or through your will. The income tax benefits of giving during a lifetime are higher for most people now, because so few people have to worry about the estate tax. Lifetime gifts also enable you to see how the gifts benefit the charities you favor.

More Charitable Gift Resources: Using Charitable Gifts to Increase your Income

Life Insurance

Life insurance also might be an essential part of your estate plan. Specifically, life insurance provides financial protection to a deceased individual’s surviving dependents. For example, when an individual dies, his or her family can use the life insurance benefits to pay death taxes, expenses, fund business buy-sell agreements and fund retirement plans.

More Life Insurance Resources: Life Insurance: How Much Do You Need?

Burial and Funeral

In your estate plan, you also can state what kind of funeral or memorial service you want, what should be done with your body (burial, cremation or donation), where obituaries should be published, and any other preferences about what type of ceremony you want. In many states, these preferences aren’t legally binding on the survivors. But stating your preferences can avoid uncertainty and disagreement among survivors.

More Burial and Funeral Resources: Funeral and Burial Arrangements


Consequences of estate planning misconceptions and mistakes.

Estate planning is not only for retired or wealthy individuals. Unfortunately, people put off estate planning because they think they do not own enough assets yet, are not old enough, are too busy, have plenty of time, are confused and do not know who can help them, or they do not want to think about it. As a result, if an individual owns an asset, and the individual becomes disabled and is not able to make decisions for himself or herself, a court will decide who makes decisions about the asset.

Similarly, if assets are not controlled by a will or trust, the assets go through probate and be dispersed according to state law. The distribution under state law probably is not what you would have wanted.

Furthermore, estate planning errors that may not seem that critical such as naming beneficiaries and updating an out-of-date or invalid beneficiary designation can impose long-term negative consequences after a person dies. For example, writing the name of the wrong beneficiary on a tax-deferred plan, a designated account, or investment account can cause the asset to be inherited by someone you didn’t intend while the intended beneficiary is left out. An attorney might have to be hired to try to fix the situation and, in many cases, the result can’t be changed.

Individuals may think that if they cannot afford a full estate plan they should delay estate planning altogether. This approach is a big mistake. Documents such as a basic will, durable power of attorney and medical care documents are essential at every age and amount of wealth. The estate plan can be expanded and updated over time. Even a bare bones estate plan should provide a person and loved ones with significant peace of mind.

More on Estate Planning Mistakes: 7 Estate Planning Mistakes to Overcome

Beginning the Estate Planning Process

To begin the inheritance planning process, you need to take these steps:

Make a list of all your assets and liabilities. You can’t prepare an effective inheritance plan without this information. And a legal or estate planning professional, no matter how skilled, can’t do anything without this starting point. Don’t forget frequently overlooked assets such as pension plans, life insurance policies, trusts of which you are a beneficiary, and inheritances you are likely to receive. Your heirs will inherit only your net assets, so you’ll need to compile a list of all your debts, including whether or not the debts are secured by certain property.

Decide how you want the assets distributed in the future. The traditional goal is for major assets to be inherited first by the spouse, if he or she still is alive, then by the children, usually in equal shares. Smaller amounts or specific items might be designated for special friends or other relatives.

Of course, you don’t need to follow the traditional route. You might want to favor one child over others, or you might want the bulk of your assets to go directly to your children instead of your spouse. Many people decide to give a portion of their estates to charity. The only real limits placed on your choices are that a spouse cannot be completely disinherited (unless there is a valid prenuptial or postnuptial agreement) and children can be completely disinherited if the intention is made clear in the will.

As part of this step, you’ll have to consider secondary goals. For example, do you want your spouse to inherit everything but only so that the property could not subsequently be inherited by a second spouse or family instead of by your children? Would you like to leave property to your children and grandchildren but with strings attached, so that they don’t waste the property or have to reach certain goals before getting the property? There are ways of accomplishing both your main and secondary goals, as long as you make the goals clear.

How much do you want to give now, and how much later? It’s easier to reduce taxes and other costs if you are willing to part with some of your wealth now. Some people want to do that, others don’t want to or can’t afford to do so.

Work with one or more estate planning professionals to develop a plan that achieves your goals and also takes into account estate taxes, probate and other concerns. An average middle-class individual might need to work only with an estate planning attorney. Other individuals might need to add a life insurance agent, business appraiser, trustees and other professionals.

Implement the estate plan after you fully understand it. Many people have great estate plans designed by skilled professionals, then they fail to fully implement the plans. They don’t set up trusts recommended by their planners or fail to transfer assets to the trusts. Maybe life insurance is not purchased as planned, annual gifts to children are not made, or each spouse does not have title to enough assets to take advantage of the lifetime exemption equivalent. Don’t let any of that happen to you.

Let your heirs know what you have decided and how things are set up. You can meet with them directly. You also should put together a letter of instructions that gives basic information such as where your will is kept, who your financial advisers are, as well as a summary of your assets and liabilities. This document should be updated at least annually and be accompanied by recent tax returns and an outline of your estate plan, at the minimum.

As you can see, from your point of view an inheritance plan really involves people more than law, life insurance, trusts and other legal tools. Your focus should be on how you want to provide for people both now and after you are gone, and how you want people to remember you. Then you should communicate your decisions clearly to the people involved.

Estate Planning Documents and Forms

More on Estate Planning Documents and Forms: What Estate Planning Documents and Estate Planning Forms Do You Need and Why Are They Important?

Estate Planning Checklist

Let me finish with a link to the Retirement Watch comprehensive Estate Planning Checklist




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