Although a complete estate plan can sometimes consist of many different documents, almost every estate plan will include either a Will, a Trust, or both. When I meet with clients to discuss their estate planning needs, they usually have one or both of the following goals in mind: 1) provide guardianship for their minor children in the event of their own premature death, and 2) put a plan in place to distribute their assets upon their death. With proper planning, these goals can be accomplished with a Will or a Trust.
By definition, a Will is a document through which a person provides instructions for the management of his or her estate after his or her death. Through a properly drafted Will, a person can provide instructions for final burial, for guardianship of a minor child, and for distribution of property.
A Trust is defined as a fiduciary relationship in which one party, known as the Trustor (the person creating the Trust), gives another party, the Trustee, the right to hold legal title to property or other assets for the benefit of a third party, the Beneficiary. There are two general types of Trusts - a Living Trust, and a Testamentary Trust. A Living Trust is effective during the Trustor's lifetime, whereas a Testamentary Trust is effective only upon the Trustor's death.
To properly determine whether a Will or a Trust is an appropriate estate planning document, it is important to understand the advantages of each.
The advantages of a Will are:
1) A Will is typically less expensive than a Trust.
2) A Will can be used to appoint a guardian for a minor child, whereas a Trust cannot. For that reason, if a Trust is necessary, the clients' estate plan will also usually include a simple Will, also called a "Pour-Over Will." This is another reason a Will is less expensive than a Trust.
The advantages of a Trust are:
1) A Trust can be used to avoid Probate. Probate is the process of taking the decedent's Will into Probate Court and seeking court approval to carry out the wishes that are expressed in the Will. Depending on the size and complexity of one's estate, the probate process can be expensive and time-consuming. A Trust, on the other hand, does not require court involvement upon the death of the Trustor.
2) A Trust can be used to control the Trustor's assets beyond his or her death. Since a Trust can "own" property, a Trust can exist beyond the Trustor's death, whereas a Will ceases to exist once the probate process is completed and the decedent's assets are distributed. So, a family cottage or other asset can be preserved for use by future generations through a Trust.
3) A Trust can be used to control when beneficiaries receive their inheritance. If parents want their children to receive their inheritance at age 25, for example, instead of at age 18, a Trust must be used. By law, beneficiaries are entitled to their inheritance through a Will at age 18.
4) A Trust is not public record, whereas a Will becomes public record once it is filed in Probate Court.
5) A Trust can be used to limit inheritance, or death, taxes.
Before deciding whether to use a Will or a Trust as part of your estate plan, it is important to determine your goals, and then to choose the estate planning document that will best help you achieve those goals. To learn more about this topic, or to schedule an appointment, please visit my website at http://www.toburenlaw.com/.
Tuesday, July 1, 2014
Tuesday, April 29, 2014
Estate Planning Basics: Why Married Couples Should Not Use a Joint Will
What is a Joint Will?
A joint will is a single document that is created by two or more people (usually husband and wife) who want to leave all of their property to each other, with the remainder being distributed upon the survivor's death. Since a joint will has to be agreed upon and signed by both creators, it is treated as a contract, and therefore both parties have to agree to modify or revoke the will. Therefore, a joint will cannot be amdended or revoked once the first spouse dies.
What are disadvantages of a Joint Will?
The main disadvantage of a joint will, and the reason I never recommend a joint will to a client, is that it cannot be amended or revoked after the first spouse dies. This presents a problem when the first spouse dies, and the surviving spouse wants to change the will - due to remarriage, or simply due to a change in life circumstances.
As an example, let's assume that Dave and Jill are married, and in 1995 they created a joint will, whereby they left everything to each other, and then once they both pass, the remainder is to be distributed evenly between their two children. In 2010, Jill died, so Dave became the sole owner of their estate. In 2015, Dave gets remarried, to Becky. Dave has a much larger estate than Becky, including the house that he and Jill had purchased years before, so Dave wants to modify his will to leave part of his estate to his new wife.
But, Dave cannot modify his original will because it became non-modifiable and irrevocable upon Jill's death. Since Dave cannot change his original will, he decides to create a new will, which divides his estate evenly between Becky and his two children. So, Dave's estate is now divided three ways instead of two. When Dave dies, his two children will have a breach of contract claim under the first will since they are intended beneficiaries of that will (which is a contract).
As another example, let's assume that Dave and Jill have the same two children, Bill and Steve. After Jill died in 2010, Steve was in a car accident and is now incapacitated. All of his medical and day-to-day expenses are now covered by Medicaid. Under Medicaid law, almost all of any money Steve inherits has to be turned over to Medicaid to cover his expenses. So, Dave should change his will so Steve does not inherit half of his estate, but he cannot do so because the will became non-modifiable when Jill died.
Are there any advantages to a Joint Will?
Although I strongly discourage use of a joint will, there are some benefits to a joint will as opposed to separate wills. The first advantage is cost. In most circumstances, it should cost less for a married couple to create one will as opposed to two wills. The other advantage is that a joint will prevents the surviving spouse from changing his or her mind about the final distribution of assets after the first spouse dies. But, as the examples above illustrate, the disadvantages of a joint will far outweigh the advantages, and for that reason, I would not recommend the use of a joint will.
What is the alternative to a Joint Will?
For a married couple, the alternative to a joint will is for each spouse to have separate wills, or to use a trust. The decision to use a will or trust can be complicated depending on family circumstances, the size of the estate, and the goals the clients want to accomplish. Before deciding to use a will or a trust, be sure to meet with an attorney you trust who will explain the differences between the two documents, and the advantages and disadvantages of each.
To learn more about this and other Estate Planning topics, please visit my website at www.toburenlaw.com.
A joint will is a single document that is created by two or more people (usually husband and wife) who want to leave all of their property to each other, with the remainder being distributed upon the survivor's death. Since a joint will has to be agreed upon and signed by both creators, it is treated as a contract, and therefore both parties have to agree to modify or revoke the will. Therefore, a joint will cannot be amdended or revoked once the first spouse dies.
What are disadvantages of a Joint Will?
The main disadvantage of a joint will, and the reason I never recommend a joint will to a client, is that it cannot be amended or revoked after the first spouse dies. This presents a problem when the first spouse dies, and the surviving spouse wants to change the will - due to remarriage, or simply due to a change in life circumstances.
As an example, let's assume that Dave and Jill are married, and in 1995 they created a joint will, whereby they left everything to each other, and then once they both pass, the remainder is to be distributed evenly between their two children. In 2010, Jill died, so Dave became the sole owner of their estate. In 2015, Dave gets remarried, to Becky. Dave has a much larger estate than Becky, including the house that he and Jill had purchased years before, so Dave wants to modify his will to leave part of his estate to his new wife.
But, Dave cannot modify his original will because it became non-modifiable and irrevocable upon Jill's death. Since Dave cannot change his original will, he decides to create a new will, which divides his estate evenly between Becky and his two children. So, Dave's estate is now divided three ways instead of two. When Dave dies, his two children will have a breach of contract claim under the first will since they are intended beneficiaries of that will (which is a contract).
As another example, let's assume that Dave and Jill have the same two children, Bill and Steve. After Jill died in 2010, Steve was in a car accident and is now incapacitated. All of his medical and day-to-day expenses are now covered by Medicaid. Under Medicaid law, almost all of any money Steve inherits has to be turned over to Medicaid to cover his expenses. So, Dave should change his will so Steve does not inherit half of his estate, but he cannot do so because the will became non-modifiable when Jill died.
Are there any advantages to a Joint Will?
Although I strongly discourage use of a joint will, there are some benefits to a joint will as opposed to separate wills. The first advantage is cost. In most circumstances, it should cost less for a married couple to create one will as opposed to two wills. The other advantage is that a joint will prevents the surviving spouse from changing his or her mind about the final distribution of assets after the first spouse dies. But, as the examples above illustrate, the disadvantages of a joint will far outweigh the advantages, and for that reason, I would not recommend the use of a joint will.
What is the alternative to a Joint Will?
For a married couple, the alternative to a joint will is for each spouse to have separate wills, or to use a trust. The decision to use a will or trust can be complicated depending on family circumstances, the size of the estate, and the goals the clients want to accomplish. Before deciding to use a will or a trust, be sure to meet with an attorney you trust who will explain the differences between the two documents, and the advantages and disadvantages of each.
To learn more about this and other Estate Planning topics, please visit my website at www.toburenlaw.com.
Tuesday, March 11, 2014
Estate Planning Basics: Using Life Insurance to Fund a Business Buy-Sell Agreement
A common issue facing small business owners, and one that is not often planned for, is how to transition ownership of a small business upon the death of one of the owners. The most common form of small business now is the Limited Liability Company, or LLC. In an LLC form of business, the owners are called members, and each member usually owns a percentage of the business. Although less common, a small business can also be formed as a corporation, where ownership is divided into shares.
When a small business is formed, the owners usually fund the business by investing their own money, or by taking out a small business loan. During the early years, the owners will often make additional investments -or take out additional loans - to cover losses, and as the business grows over time and becomes profitable, the owners will share in the profits, usually in proportion to each owner's respective investment in the business.
As the revenue and profits grow over time, so to does the value of the business. Whereas the initial value of the business was equal only to the investments made by the owners, the value of a successful business can quickly grow into the millions of dollars, especially when profits and assets such as buildings, equipment, patents and/or trademarks are factored in. And while it is indeed great for the value of the business to grow, challenges arise when one of the owners dies and the spouse and/or other heirs of the deceased owner want to collect on their share of the business. The following example will help illustrate the challenges small business owners and their families face upon the death of one of the owners:
Let's assume that Dave and Bob start a software business, with each owning 50% of the company. Dave and Bob form the business under Michigan law as an LLC, and both invest $10,000 of their own money. They also agree to split any profits 50/50. Over the course of many years, Dave and Bob build a highly profitable business, based primarily on a software program that they developed that is used extensively in the medical industry.
After fifteen years in business, Dave dies very unexpectedly, leaving behind a wife and three children, as well as two mortgages and significant amounts of personal debt that helped fund his family's lifestyle. He also leaves behind a business partner who is now on his own running the business. Because Dave and his wife had a Trust in place, his wife is set to inherit his half of the business. Dave's wife, however, is a school teacher who has no interest in running a business. His three children are still living at home and are too young to help run the business.
Dave's wife decides that the only way for her to survive financially is to sell her share of the business, and Bob decides that he wants to buy Dave's half of the business, as opposed to selling his half or bringing on a new partner. The business is appraised at $5,000,000. In order to buy the business, Bob would have to come up with half that amount, $2,500,000. Bob's challenge is that he also has significant personal debt, and he cannot come up with enough cash to buy out Dave's wife. With no other choice, Bob decides to bring on a new business partner.
The example above is very common with small businesses, and one potential solution is to fund a Buy-Sell Agreement with Life Insurance. In this example, Dave would have taken out a life insurance policy on Bob's life, and Bob would have taken out a life insurance policy on Dave's life, with the proceeds to be used by the surviving owner to purchase the deceased owner's share of the business. As the business grew through the years, Bob and Dave could have increased the value of the policies. Bob and Dave also could have signed a Buy-Sell Agreement when they started the business, stating that upon the death of either, the business would be appraised and the surviving owner would have the first opportunity to buy the business. The life insurance proceeds on the deceased owner's life would then have covered most, if not all, of the purchase price.
In our example, if Bob had a life insurance policy on Dave's life, he could have used the proceeds to buy the business, thus avoiding the unwanted necessity of bringing on a new business partner. Dave's wife could have sold her share of the business to Bob, and she could have used the proceeds of the sale to pay off the mortgages, put her kids through college, etc.
One other advantage of using life insurance to fund a Buy-Sell Agreement is that the value of the insurance proceeds is not included in the decedent's estate for estate tax purposes. As long as the insurance policy was taken out on the life of the decedent, and the proceeds are used strictly as payment to the decedent's estate for his or her ownership share of the business, the proceeds are not taxable.
In our example, and for many small business owners, a Buy-Sell Agreement funded by life insurance is a great way to protect the surviving owner's interest in the business, as well as a great way to protect the family of the deceased owner. To learn more about this and other Estate Planning topics, please visit my website at http://www.toburenlaw.com/
When a small business is formed, the owners usually fund the business by investing their own money, or by taking out a small business loan. During the early years, the owners will often make additional investments -or take out additional loans - to cover losses, and as the business grows over time and becomes profitable, the owners will share in the profits, usually in proportion to each owner's respective investment in the business.
As the revenue and profits grow over time, so to does the value of the business. Whereas the initial value of the business was equal only to the investments made by the owners, the value of a successful business can quickly grow into the millions of dollars, especially when profits and assets such as buildings, equipment, patents and/or trademarks are factored in. And while it is indeed great for the value of the business to grow, challenges arise when one of the owners dies and the spouse and/or other heirs of the deceased owner want to collect on their share of the business. The following example will help illustrate the challenges small business owners and their families face upon the death of one of the owners:
Let's assume that Dave and Bob start a software business, with each owning 50% of the company. Dave and Bob form the business under Michigan law as an LLC, and both invest $10,000 of their own money. They also agree to split any profits 50/50. Over the course of many years, Dave and Bob build a highly profitable business, based primarily on a software program that they developed that is used extensively in the medical industry.
After fifteen years in business, Dave dies very unexpectedly, leaving behind a wife and three children, as well as two mortgages and significant amounts of personal debt that helped fund his family's lifestyle. He also leaves behind a business partner who is now on his own running the business. Because Dave and his wife had a Trust in place, his wife is set to inherit his half of the business. Dave's wife, however, is a school teacher who has no interest in running a business. His three children are still living at home and are too young to help run the business.
Dave's wife decides that the only way for her to survive financially is to sell her share of the business, and Bob decides that he wants to buy Dave's half of the business, as opposed to selling his half or bringing on a new partner. The business is appraised at $5,000,000. In order to buy the business, Bob would have to come up with half that amount, $2,500,000. Bob's challenge is that he also has significant personal debt, and he cannot come up with enough cash to buy out Dave's wife. With no other choice, Bob decides to bring on a new business partner.
The example above is very common with small businesses, and one potential solution is to fund a Buy-Sell Agreement with Life Insurance. In this example, Dave would have taken out a life insurance policy on Bob's life, and Bob would have taken out a life insurance policy on Dave's life, with the proceeds to be used by the surviving owner to purchase the deceased owner's share of the business. As the business grew through the years, Bob and Dave could have increased the value of the policies. Bob and Dave also could have signed a Buy-Sell Agreement when they started the business, stating that upon the death of either, the business would be appraised and the surviving owner would have the first opportunity to buy the business. The life insurance proceeds on the deceased owner's life would then have covered most, if not all, of the purchase price.
In our example, if Bob had a life insurance policy on Dave's life, he could have used the proceeds to buy the business, thus avoiding the unwanted necessity of bringing on a new business partner. Dave's wife could have sold her share of the business to Bob, and she could have used the proceeds of the sale to pay off the mortgages, put her kids through college, etc.
One other advantage of using life insurance to fund a Buy-Sell Agreement is that the value of the insurance proceeds is not included in the decedent's estate for estate tax purposes. As long as the insurance policy was taken out on the life of the decedent, and the proceeds are used strictly as payment to the decedent's estate for his or her ownership share of the business, the proceeds are not taxable.
In our example, and for many small business owners, a Buy-Sell Agreement funded by life insurance is a great way to protect the surviving owner's interest in the business, as well as a great way to protect the family of the deceased owner. To learn more about this and other Estate Planning topics, please visit my website at http://www.toburenlaw.com/
Tuesday, January 21, 2014
Michigan Family Law: If Parents are Divorced, which Parent is Entitled to the Tax Exemption for the Children?
As we move into 2014 and prepare to file our income tax returns, divorced or separated parents of minor children often wonder - or fight over - which parent gets to claim the dependency tax exemption for the children. If the parents file a joint return, this is not an issue. However, if the parents file separate returns, only one parent can claim each child, and this can mean a significant difference in the amount of taxes that are owed.
In order for a child dependency tax exemption to be available to either parent, the child must be a "qualifying child." Once it is determined that there is a qualifying child, the second step in the process is to determine which parent is entitled to the tax exemption.
1) Qualifying Child
Parents have a qualifying child if the following requirements are met:
- The parents must be divorced, legally separated, or have lived apart for the last six months of the year.
- The child must be the taxpayer's son, daughter, stepson, or stepdaughter.
- The child must have lived with one or both parents for more than half the year, and with the parent claiming the exemption for more time than with the other parent.
- The child must be under age 19, or if the child is a full time student, under age 24. (There is no age limitation if the child is permanently disabled).
- Both parents combined must have provided more than half the child's financial support during the year.
2) Which Parent is entitled to the Tax Exemption?
As a general rule, if the child meets the requirements of a "qualifying child," the parent who has physical custody of the child for more than half the year is the custodial parent and is entitled to claim the dependency exemption. If the child is not a qualifying child, neither parent can take the tax exemption.
Parents often think that the tax exemption belongs to the parent who provides more financial support for the child. This is not the case, as the determination is based on physical custody, as outlined above.
There are also exceptions to the general rule that the parent with physical custody for more than half the year is entitled to the exemption. The first exception is that the custodial parent can agree to release the exemption to the non-custodial parent as part of a negotiated divorce settlement. For example, the custodial parent may agree to more parenting time, or more spousal support, in exchange for releasing the tax exemption to the non-custodial parent.
The second exception to the general rule is that the court may award the non-custodial parent the tax exemption. The Michigan Court of Appeals has ruled that Michigan state courts have the authority to deviate from the general rule, although the criteria for making that decision have not been clearly established.
Although not directly related to the question of which parent is entitled to the tax exemption, it is also important to note for income tax reporting purposes that child support payments are not tax deductible for the payer, and the parent receiving payment does not have to claim the payments as income.
To learn more about this topic, please visit my website at http://www.toburenlaw.com/my-blog/
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