Top Five Mistakes to Avoid When Passing your Legacy

Many families think of the transfer of their wealth and values from generation to generation as an important legacy to their loved ones. A report from Cerulli Associates says approximately $84 trillion will be passed from today’s older generation to heirs by 2042.

As a firm that focuses on legacy planning, we recognize how important for this legacy to succeed.  In order to successfully transfer legacy to the next generation, families and their loved ones should consider the pointers in a recent article from yahoo! finance, “Don’t Make These 5 Mistakes When Passing Down Generational Wealth to Your Family.”

This is by no means an exhaustive list and all situations are different, but consider each in how it affects your legacy to your loved ones.

  1. Prepare beneficiaries for their inheritance. I’m not always a fan of this as sometimes it creates an unhealthy expectation, but considering speak with your loved ones about how their inheritance might change their lives. Educate them early on about personal finance, and introduce them to your advisors, including your estate planning attorney, financial advisor, and CPA. This is especially true with natural heirs, such as children or grandchildren.
  2. Teach heirs how to be financially independent. This is more specifically a family problem, but problems can occur if children expect to receive an inheritance and don’t think they’ll need to work. This could get in the way of their personal and professional growth, and unfortunately is almost never true. A recent study showed that the average time it took to spend an inheritance, regardless of its value, is 4.5 years. You want them to know how to support themselves and the value of money earned, while benefiting from the legacy you leave them.
  3. Make sure to diversify your portfolio. When did you last increase your 401(k) contributions or diversify your portfolio? Be mindful of your investments. You don’t want to overestimate the value of your wealth or leave your children with an out-of-date investment portfolio, or have it shrink due to mismanagement.
  4. Involve your beneficiary in the family business. If your legacy includes a family business, you need to consider the importance of ensuring that whomever you wish to leave it to is fully involved in how the business operates and its financial needs and goals. If you simply toss them into the business without completely understanding it, the transition may not work, or in some cases, lead to catastrophe. As a result, your years of hard work could disappear quickly. A succession plan should be in place, so everyone knows what is expected of them.
  5. Don’t neglect your estate planning. Sit down with an estate planning attorney and create a comprehensive estate plan, including a last will and testament, power of attorney, health care power of attorney, living will, and any trusts needed to pass wealth to the next generation. Do this long before you expect it to be needed. A major mistake is people want to do the first estate plan when they are 85, and aren’t willing to accept that they might not be capable, or that incapacity will be an issue long before.  If you fail to create an estate plan, you may be left with a mess for your heirs (next of kin, not beneficiaries you choose) to figure out. It could take years before they receive the assets you want them to inherit.

For more ideas on this topic, see this article on wealth transfer and legacy:  https://galligan-law.com/common-wealth-transfer-mistakes/

Reference: yahoo! finance (June 5, 2023) “Don’t Make These 5 Mistakes When Passing Down Generational Wealth to Your Family”

 

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Estate Planning for Singles

Single clients often don’t think about estate planning as much as married clients, especially if they don’t have kids.  But, estate planning is even more critical for singles than married couples—and it has nothing to do with whom you’ll leave assets to when you die. A recent article from AARP, “6 Estate Planning Tips for Singles,” explains how estate planning addresses support during challenging life events.

To consider this, keep in mind that estate planning addresses medical and financial decisions for an incapacitated person, not just where you leave property when you die. For singles, these may be more complex questions to answer.

Whether someone has never married or is divorced or widowed, these are challenging questions to answer. However, they should be documented. In addition, singles with minor children need to nominate a trusted person who can care for their children if they cannot. Estate planning addresses all of these issues.

To be sure you complete this process, start with a conversation with an experienced estate planning attorney. This will help with accountability, ensuring that you start and finish the process.

See the original article for the fuller list, but here are some pointers for singles who keep putting this vital task off:

1.What would happen if you don’t leave clear instructions about who makes decisions for you during your incapacity? Some states have default decision makers for medical decisions, but not for financial ones.  Also, how will the person who acts (whether you chose them or not), know if you don’t want to be placed on a ventilator for artificial breathing or fed by a stomach tube while in a coma? Or how will they know what financial decisions you are ok with?

2. Dying without a will is known as dying “intestate.” All of your assets will be distributed according to the intestate succession laws in your state. That very often isn’t what clients wanted or are expecting, and typically is a far more expensive and time consuming process. Also, singles often want to leave assets to friends or non-family loved ones, and none of those individuals are beneficiaries in intestate laws.

3. Part of your estate plan includes naming a personal representative—an executor—who will oversee your affairs after your death. You’ll want to designate someone who is organized, has good judgment and can handle financial matters. You should also name a backup, so that if the first person cannot or does not wish to serve, there will be someone else to take control. This same issue applies to your financial and medical decision makers.

4. Your estate plan should include or at least consider the following:

Last will and testament. This is where you nominate your executor, heirs and how your assets will be distributed. Note that anyone named as a beneficiary on a retirement, insurance policy, or investment account supersedes any instructions in your will, so be sure to update those and check on them every few years to be sure they are still aligned with your wishes.

Living trust. This is a legal entity owning assets to be given to beneficiaries, managed by a trustee of your choosing, and avoids the delays and costs of probate. It also is helpful with managing assets during your incapacity

Financial Power of Attorney (POA). This document authorizes someone you name to act as your agent and make financial decisions if you cannot. A POA can prevent delays in accessing bank and investment accounts and paying your bills. The POA ends upon your death.

Living will, medical power of attorney, or advance health care directive. Different states use different documents here, but generally these documents allow you to designate someone to communicate your health care wishes when you cannot. For example, you can include instructions on pain management, organ donation and your wishes for life support measures.

Guardianship Nominations.  If you lack a fiduciary to control one of the issues described above during your lifetime, a court can appointment someone to do so.  That is far from ideal, but you can name who you want to be your guardian should it be necessary.  You can use similar documents to name guardians for your children.

Final Interment.  Estate plans, either through standalone documents or through the ones mentioned above, can indicate your final interment wishes (e.g. burial) and who you wish to be in charge of that process.

5. Be sure to communicate your wishes with family, friends and other advisors. Tell your fiduciaries where your documents may be found and provide them with the information they’ll need so they may act on your behalf.

Finally, we have a page on our website devoted to this topic, so see here for more ideas:  https://galligan-law.com/estate-planning-life-stages/planning-for-singles/

Reference: AARP (April 7, 2023) “6 Estate Planning Tips for Singles”

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What Is the Step-Up in Basis?

Many clients are concerned about taxes in their estates.  Some people are concerned with federal estate taxes, although those rules don’t affect too many people.  Capital gains tax and the “step-up” in basis rule apply to almost everyone, and so it is important for clients to be familiar with this rule.

The “step-up” is tax rule which changes the cost basis of an inherited asset, including stocks or property, to its value as of the date of death.   As a result, the beneficiary may receive a reduction in the capital gains tax they must pay on the inherited assets. For others, according to the recent article, “What Is Step-Up In Basis?” from Forbes, it allows families to avoid paying what would be a normal share in capital gains taxes by passing assets across generations. Estate planning attorneys often incorporate this into estate plans for their clients to minimize taxes and protect assets.

Here’s how it works.

If someone sells an inherited asset, a step-up in basis may protect them from higher capital gains taxes. A capital gains tax occurs when an asset is sold for more than it originally cost (subject to some other provisions we won’t worry about here). A step-up in basis considers the asset’s fair market value when it was inherited versus when it was first acquired. This means there has been a “step-up” from the original value to the current market value.

Assets held for generations and passed from original owners to heirs are never subject to capital gains taxes, if the assets are never sold. However, if the heir decides to sell the asset, any tax is assessed on the new value, meaning only the appreciation after the asset had been inherited would face capital gains tax.

For example, Michael buys 200 shares of ABC Company stock at $50 a share. Jasmine inherits the stock after Michael’s death. The stock’s price is valued at $70 a share by then. When Jasmine decides to sell the shares five years after inheriting them, the stock is valued at $90 a share.

Without the step-up in basis, Jasmine would have to pay capital gains taxes on the $40 per share difference between the price originally paid for the stock ($50) and the sale price of $90 per share.

An extremely common example of this is the primary residence.  Clients who live in their home for 40 plus shares may have purchased it for $20,000, only to have it be worth $350,000 now.  Absent the step-up in basis, the beneficiaries might sell the residence after mom dies and would pay capital gains tax on $330,000 worth of growth.  With the step-up in basis, they would sell it for its then present value of $350,000, have a cost basis of $350,000, and therefore no gain on which to pay tax.

Other assets falling under the step-up provision include artwork, collectibles, bank accounts, businesses, stocks, bonds, investment accounts, real estate and personal property, including assets held in a revocable trust. Assets not affected by the step-up rule are retirement accounts, including 401(k)s, IRAs, pensions and most assets in irrevocable trusts.  Cash also has no cost basis, and therefore no step-up.

Now, clients commonly want to make gifts of property.  Giving a gift during lifetime means the original owner does not have the asset at their deaths, and so no there is step-up in basis.  With gifting, the recipient retains the basis of the person who made the gift—known as “carryover basis.” Under this basis, capital gains on a gifted asset are calculated using the asset’s acquisition price.

Say Michael gave Jasmine five shares of ABC Company stock when it was priced at $75 a share. The carryover basis is $375 for all five stocks. Then Jasmine decides to sell the five shares of stock for $150 each, for $750. According to the carryover basis, Jasmine would have a taxable gain of $375 ($750 in sale proceeds subtracted by the $375 carryover basis = $375).

Taking my real estate example, mom decides to transfer the house to two of her children.  She gifts them the property with her $20,000 cost basis, and when they sell the property (pre or post her death), they will be responsible for the capital gains on the $330,000 worth of growth.  I have met many clients over the years who have done this on their own without the advice of an attorney, ironically on the belief they are avoiding taxes.

It is worth noting one other issue.  People refer to it as the step-up because it almost typically is an increase in cost basis.  Inflation makes the present value of assets much more than it was 40 years ago let’s say, but it is possible to have a step-down in basis.  You see this more with stock where an individual bought and sold recently, and then passed in a down market.   On the whole this rule is very taxpayer friendly, but doesn’t have to be in every case.

In summary, the step-up in basis is a powerful tool for managing capital gains tax for beneficiaries, and should be utilized in most estates.

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