The Basics of Estate Planning and Administration


The Purposes of Estate Planning

Estate planning has several purposes, which include:

  1. Having your wealth transferred to your heirs in the manner of your choosing;

  2. Planning for Taxation;

  3. Providing for the future care and needs of your children; and

  4. Planning for business succession.

Estate planning professionals who are familiar with your estate can help you fashion an estate plan that works to effect your wishes and goals. Most estate plans are structured around either a will or a trust, or a combination of the two.

Common Estate Planning Tools

When people plan their estates, they will utilize various tools or devices in order to ensure that their wishes for the distribution of their assets are carried out. Those tools include means of planning for disability, for making lifetime gifts, for distributing assets outside of the probate process, and for distributing assets through probate proceedings.

Disability Planning

An estate plan will often include documents for disability planning, specifically documents that outline how a person's assets will be managed and how their personal and healthcare needs will be met if they become legally disabled and unable to make or express their wishes without assistance. Those documents include:

  • Durable Power of Attorney: A document that designates a person who will be authorized to control and manage your assets and finances and pay your bills upon your becoming disabled.
  • Healthcare Proxy: A medical power of attorney that designates a person who will be authorized to manage your medical care upon your becoming disabled.
  • Living Will: A document that describes your wishes for your end-of-life care, if you are unable to express those wishes to your care providers.

Lifetime Gifts

Many people choose to make gifts to their heirs during their lifetimes, rather than postpoining gifts until after they pass away. A lifetime gift carries the benefit that you're able to see the recipient benefit from and enjoy the gift. Lifetime gifts can also be an effective tool for distributing assets or transferring control of a family business without going through probate.

When making gifts, it is important to consider possible tax consequences, including possible gift tax consequences for the estate, how the gift of property might affect the recipient's basis in the property for purposes of capital gains tax, as well as how structured lifetime gifts might allow a larger estate to avoid having to pay estate taxes.

When making a gift of property, particularly when real estate is involved, it is important to consider the practical consequences of the gift. If you add a beneficiary to the deed to your home with a right of survivorship, while that gift will allow the person to receive ownership when you pass away it can create significant complications during your lifetime. Among possible complications, you will not be able to sell or refinance the property without their cooperation, and the property may become a target by their creditors. Similar issues can arise with the grant of property to heirs in association with a retained life estate.

Gifts Outside of Probate

One popular tool for making gifts that do not go through probate is the trust, and most commonly a revocable living trust. Although transferring assets into a trust will not necessarily prevent creditors from reaching those assets if your estate lacks the funds to pay its bills, broadly speaking, assets that are properly transferred into a trust will be given to beneficiaries under the terms of the trust and do not go through probate.

It is possible to make gifts that do not become fully effective until you pass away. For example, you can designate beneficiaries for your retirement accounts, financial accounts, and insurance policies. Named beneficiaries will receive those assets without the need for probate. Similarly, you can create joint bank accounts where the joint account holder will automatically become sole owner of the money in the account upon your passing, or create a "payable on death" account that directs the funds in the account to a named beneficiary.

Leaving Bequests in a Will

For most people, the simplest way to leave their assets to their heirs is through the creation of a will. A will can be complex, but most people will be able to execute a relatively simple will that ensures that their assets go to their heirs in the manner of their choosing.

What If You Don't Have A Will or Estate Plan?

In case you die intestate, a term for dying without having an estate plan, every state has passed laws of intestate succession that govern the distribution of your estate. In most states, this means that if you do not have an estate plan your assets will be distributed to your spouse and children, or if none, to other members of your family.

Even if you are young and have few assets, and thus have no real need for a detailed estate plan, it is wise to have a will. This becomes even more true if you marry, or have children. Please note that depending upon the laws of the jurisdiction where you live, your will may become fully or partially invalid upon certain major life events such as divorce or the birth of a child.

Also, most estate plans now include power of attorney forms, that provide for people to attend to your financial and medical needs in the event that you become incapacitated. If you do not execute powers of attorney prior to becoming disabled by accident or illness, it may be necessary for your loved ones to go to court to get permission to manage your finances and health care.

Probate and Estate Administration

In its narrowest sense, probate refers to the determination that your will represents your final testamentary intentions. In its broader sense, probate is the process of putting the terms of your will into effect, including the gathering of all of your assets and the payment of any outstanding debts and taxes, the payment of the expenses associated with the administration of your estate, and the distribution of bequests to your heirs. The executor you named in your will has the responsibility to manage this process.

The executor is entitled to a reasonable fee for performing these services. In a formal probate, the executor's actions are conducted under the oversight of a probate court. In an informal probate, the court may do little more than sign a final order approving the distribution of assets and closing the estate. There is a popular perception that probate is something to be avoided, and living trusts are often sold with the notion that they will help people avoid probate. As probate laws vary between jurisdictions, the effect of the probate process on your estate will vary depending upon where you live. However most jurisdictions have updated their probate laws and processes to reduce the length and cost of the process, and a will that is properly drafted and executed can remove many of the burdens of that process.

Also, avoiding probate will not eliminate some of the more complex or time-consuming aspects of administering an estate, including the preparation and filing of final tax returns. As the cost of probate can vary significantly between jurisdictions, this is something you should discuss with an estate planning professional. While challenges to wills ("will contests") are rare, they can happen. Some jurisdictions permit an estate plan to include a "no contest" clause, whereby if somebody unsuccessfully challenges a will that person will be excluded as an heir.

Also, while it is typically permissible to disinherit certain people, such as one of your children, a court may modify your will if it appears you accidentally omitted mention of a person to whom you otherwise would have left money, such as a child who was born after you drafted your will (a "pretermitted heir"). Thus, if you do intend to disinherit an heir, you should expressly state that intention in your will.

Most jurisdictions have provisions to protect a spouse, which provide that they can choose between the bequest you have made and a share of your estate as defined by statute. If they determine that their statutory share is larger than the bequest, they may "opt against the will" to take the larger share. Thus, if you intend to give your surviving spouse less than approximately half of your estate, you should consult with an estate planning professional to see if that is permitted in your jurisdiction.

Recall also that the probate process is a public process. It is possible for somebody to examine the court records to determine what assets you had and how they were distributed. If this concerns you, you should consider setting up a trust or implementing other estate planning measures that won't end up as part of a public court file.

Estate and Inheritance Taxes

Despite the hype associated with estate taxes, due to the size of the exemptions for federal estate taxes, few estates will owe taxes to the federal government, and most states have abolished both estate and inheritance taxes. You need to be concerned with federal estate taxes only if you have an extremely large estate, valued at considerably more than $5 million. An estate is responsible for paying income taxes for a deceased person's last year of life, and for income of the estate itself.

Gifts and Gift Taxes

People sometimes hear about gift taxes and become concerned that they will have to pay taxes on a gift that they receive, but very few people will ever have to worry about gift taxes. For a typical estate, the concern should be how a lifetime gift will affect the recipient's future tax liability, as there can be capital gains tax advantages to inheritance. When you receive a gift of a valuable item or property, you get the same tax basis as the giver, meaning that if the recipient sells the gift for $40,000 but the giver paid $10,000, the recipient's basis is $10,000. The recipient becomes responsible for capital gains tax on the $30,000 difference between that basis and the market value.

With inheritance, the recipient enjoys a step up in basis, meaning that no matter what the decedent paid for the item the recipient's basis is its value at the time of death. If the item was purchased for $10,000 but is worth $40,000 at the time of death, the recipient's taxable basis is $40,000. This tax benefit can be very significant when planning for business succession or the transfer of real estate, fine art and jewelry, and other items of significant value. When gift taxes are due they are owed by the giver, and gifts do not carry any tax liability for the recipient. Unless the total value of gifts you make in your lifetime sums to well over $5 million dollars, your estate will not be responsible for gift taxes.

Under a doctrine called portability, if proper procedures are followed widows and widowers can take advantage of the unused portion of their spouse's annual gift tax exclusion, meaning that a married couple won't have to worry about gift taxes unless their total taxable gifts -- not including annual gifts that are valued at less than the annual exclusion -- sum to well over $10 million.

Unless you are giving very large gifts, totaling more than $14,000 in a single year for a single recipient, you do not have to worry about filing gift tax returns during your lifetime as your gifts are less than the annual exclusion. If you give gifts of $14,000 or more, at the present level of the exclusion, you file an advisory gift tax return so that the amount of your gift in excess of the annual exclusion is counted toward your lifetime exclusion, but you incur no present tax liability. If you are married, you and your spouse can each make a gift of up to the full amount of the annual exclusion, filing an advisory gift tax return to reflect how you allocated your gift, avoiding any gift tax liability. Gifts of any amount provided to pay somebody else's tuition, dental and medical expenses are not counted toward gift taxes.

Revising Your Estate Plan

Certain events or changes in your life justify revisiting your estate plan. While an estate plan may anticipate the possibility that you will have children, it often will not contemplate divorce or remarriage. Similarly, as you get older, you may have cause to provide unequal shares of your estate to your children and grandchildren, or to provide for stepchildren. Also, you may acquire assets which are not described in an earlier estate plan. You should periodically review your estate plan to make sure it is consistent with changes in your estate, and with your present desires.

Copyright © 2003 Aaron Larson, All rights reserved. No portion of this article may be reproduced without the express written permission of the copyright holder. If you use a quotation, excerpt or paraphrase of this article, except as otherwise authorized in writing by the author of the article you must cite this article as a source for your work and include a link back to the original article from any online materials that incorporate or are derived from the content of this article.

This article was last reviewed or amended on Sep 20, 2017.