Leaving Inheritance Unequally to Heirs

Clients occasionally ask to create estate plans leaving property to beneficiaries who are not their natural heirs (next of kin). When they do, it might be because of estrangement, or because of the involvement of that heir’s family (think in-laws), because one of the heirs doesn’t need the money, because of how they might spend once received or because they do not have close natural heirs.  When it comes to estate planning, equal isn’t the same as fair, explains the article “Are Unequal Inheritances Fair?” from Advisor Perspectives.

The first will I ever drafted as a law student had this issue.  The elderly mother wanted to leave everything she had to two of her four children.  The two she wanted to provide for lived far away, had very few assets, but still helped mom with her bills or spent time with her.  The two remaining children were much better off, but also spent far less time with her despite living in the same city.

She loved her children equally, but recognized that the value of the inheritance was different for the children who supported and who were in need compared to the two who did not support her and were self-sufficient.  In her case, I drafted the will leaving everything to the two supportive daughters, and we used ethical will language to explain the reason why she didn’t leave everything to all four. (see here for info on an ethical will: https://galligan-law.com/estate-planning-attorneys-recommend-that-clients-consider-writing-an-ethical-will-or-legacy-letter/)

But, that solution doesn’t always work, especially where the heirs don’t get along, or would become suspicious of each other.  This is exacerbated where a child is being cut out for reasons like substance abuse or family difficulties.  So, here are a few things to consider when removing a natural heir from your estate plan or substantially reducing their share.

Be Direct. Clients often are worried about hurting the feelings of the heir they cut out, and so don’t want to be direct.  I handled an estate of a client who reduced the share of one child compared to the other.  This was a very complicated estate, and the attorney who prepared the last estate plan made a subtle change in a very complex document so that one child wouldn’t get a particular trust fund and the other would.

The estate turned out better than anticipated, but the problem with a subtle cutting out is the child doesn’t believe its true or that is what their parent wanted.  They don’t believe mom or dad made this choice, and instead they believe the other child (who typically is going to be the executor in this situation) is cheating them, unduly influenced them, the attorney made a mistake or that mom or dad lost capacity.  This leads the fight directly from one beneficiary to the other.

Instead, being clear and direct about your intentions directs the beneficiary’s focus on what you wanted (which is where estate planning should be focused) instead of looking for ways they wronged.  The law allows you to leave the property to whom you want, so better to be clear about your intentions then to leave your family to fight over it.

Use a Trust. The value of the trust in this situation varies a bit amongst the states, but generally stated, using a trust is better than a will when not leaving everything to your natural heirs.  Wills are very public, and depending on your state may require notice to your heirs, whether or not they are a beneficiary.  Trusts can both make the administration more private and can avoid fighting.  Trustees also often have more power to close the trust or handle disputes than an executor who is handling a will.

Leave Property in a Different Way. In some cases, clients want to remove a beneficiary because of a concern over the child’s receipt of assets.  For example, if a child is bad with finances, has creditors, a messy marriage, substance abuse issues and so on.  It is a situation where the emphasis isn’t “I want to leave everything to two of my three children,” but an instance where “I don’t want to give one money, so it has to go to the other two.”   In this case, it’s possible that you could still leave the difficult child an inheritance, but do so in a way to protect the inheritance and the beneficiary from the money.

For example, I have regularly written blogs about leaving inheritance in trust for a beneficiary and we regularly draft estate plans using them.  If the problem is spending habits or addiction, you could leave the inheritance to a child in a trust and leave someone else in charge of the trust.  That trustee could spend the money on their behalf so that the beneficiary receives the value of the inheritance without direct control, which is where the problems arise.

Similarly, beneficiaries who have disabilities and may use government benefits could receive a trust which keeps the assets outside of their control (so not countable for their benefits) but is still available should they need it.  Likewise, leaving property in a trust to a child where you are concerned about divorce helps protect the property by keeping it separate from the marriage.

You can see this article for more details and ideas on how trusts help beneficiaries:  https://galligan-law.com/protecting-inheritance-from-childs-divorce/

In sum, the reason a client wants to remove a beneficiary might be addressable in a different way so that they can still receive their inheritance.

None of these are perfect solutions, but are worth considering for your family if you wish to remove or reduce an heirs share.

Reference: Advisor Perspectives (Aug. 22, 2022) “Are Unequal Inheritances Fair?”

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Benefits of Life Insurance in Estate Planning

I’ve had a lot of conversations recently with clients about life insurance in their estate plans.  As an estate planner, I like life insurance.  It provides many benefits in estate planning that are worth considering.  So, I wanted to address some benefits of life insurance.

I’m not doing to talk about whether you should get it per se (other advisors are better suited for that and we can recommend excellent ones), and I’m not going to talk about the financial pros and cons, but instead will focus on the role of life insurance in an estate plan and administration.  For more on how insurance works and the pros and cons, you may want to read Bankrate’s recent article entitled “Life insurance for parents” which exams how life insurance can help your family.

Liquidity:Sometimes clients will ask for very detailed estate plans involving several bequests.  The estate plan is truly their legacy, and they want to express their love and appreciation to many people by giving them a gift in their estate planning.  I think that’s wonderful, but it does present a problem if the estate is illiquid.

For example, a client may have a very healthy estate of $3,500,000 and want to leave $100,000 a piece to 7 different relatives.  That’s fine in theory, but where do you get $700,000 in cash?  That client might have a house, a vacation/beach home, retirement and minimal bank accounts.  The 401(k) might have to (or tax wise should) go to his spouse.  If the house is worth $750,000, the beach home $250,000 and the retirement $2,000,000, you don’t have enough cash left over to give $700,000 to the family, unless you start selling.  With life insurance, you have the cash available.

Estate Tax Planning.This is a bit more complicated, but for clients concerned about estate tax, life insurance is a very useful tool.

The first reason why is similar to the liquidity point.  If you know you are going to pay the estate tax, which is a 40% tax rate on the value of the estate which exceeds your exemption, you may have a rather large check to write.  So, having cash at death provides your beneficiaries with a way to pay the tax without having to liquidate assets at death.

Second, it has a low lifetime value, and most of the value comes post death.  So, if you want to leave more money to your beneficiaries while keeping a smaller amount of assets during your lifetime, you may consider using life insurance in an irrevocable trust.  Here is a useful article talking about how life insurance trusts work.

https://galligan-law.com/the-irrevocable-life-insurance-trust-why-should-you-have-one/

Providing for Beneficiaries with Disabilities: Life insurance is a great income replacement tool, which the Bankrate’s article addresses.  In this particular estate planning context, it is an extremely useful tool for planning for beneficiaries with disabilities.  For example, many couples who have a child with disabilities will provide for that child for as long as they are able.  Their lifetime support provides benefits, both tangible and intangible, for their child that government benefits can’t address.  However, that support may go away when you pass.

Now, that situation is often best addressed by leaving assets to that child in a supplement needs trust, but more importantly, the assets you leave have to be liquid as you know they will be used liberally for the care of your loved one.  So, creating a trust to hold the insurance, such as an inexpensive second-to-die policy, allows the cash to be held in a tax and benefits-efficient manner for your loved one.

Simplicity.Life insurance, in its simplest form, is a contract for a company to give cash to a person you named when you die.  That money is income tax free and doesn’t have complicated rules about how to distribute the proceeds.  For comparison, retirement assets like IRA’s and other qualified retirement funds have complicated rules about to whom they pay out, how long those beneficiaries have to take the money and very specific steps to follow to obtain them.  Retirement assets are wonderful of course because tax deferral allows retirement assets to grow tremendously and provide for your retirement, but are taxed to beneficiaries and don’t flow through your estate plan as easily as life insurance proceeds.

Creditor Protection:  This is not true everywhere, but in Texas life insurance has creditor protection.  So, there are situations where an estate or a beneficiary has creditors, but life insurance can be shielded.  You don’t want to rely on that alone for asset protection planning, but is a helpful feature that cash in a bank account lacks.

If you have life insurance and want to discuss its role in your estate plan, please reach out to your estate planning attorney to learn how it can help you.

Reference: Bankrate (July 26, 2022) “Life insurance for parents”

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What Is a Marital Trust?

Clients use marital trusts for multiple benefits in their estate plans, including asset allocation, planning for blended families, creditor protection and tax benefits.  If you are married, marital trusts are worth considering in your estate plan.

Forbes’ recent article entitled “Guide To Marital Trusts” says that a marital trust is an irrevocable trust that allows you to transfer a deceased spouse’s assets to the surviving spouse at death in a tax efficient manner.  When the surviving spouse dies, the assets in the trust aren’t necessarily part of their estate. That may keep the taxes on their estate lower.

A marital trust is created by one spouse in their trust or wife, and it holds property for the benefit of the surviving spouse.  The trustee of the marital trust can be the surviving spouse, or another person chosen by the creator.

All of the income of the trust is paid to the spouse during their lifetime.  This basically means if the trust is producing money such as dividends, rent and so on, it pays out to the surviving spouse.  This is often a good way to provide an income stream for the surviving spouse without giving them unfettered access to all of the assets.

At the death of the surviving spouse, the remaining trust property can go to the beneficiaries the first spouse designated.  This is especially helpful in blended families where one spouse wants to provide for their spouse, but wants what remains to go to their children.

The trust may also protect assets from creditors and future spouses that the surviving spouse may encounter. It accomplishes this by keeping the assets within the trust and prevents them from freely being taken out by a creditor or predator.

If keeping wealth within your family after you die is important, then a marital trust is an estate planning tool that may help

Reference: Forbes (June 30, 2022) “Guide To Marital Trusts”

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