Understanding Your Estate Plan

From time to time prospective clients tell me that they don’t completely understand their estate plan. I empathize since wills, trusts and durable powers of attorney can be confusing. What may appear as straightforward terms take on entirely different meanings under the law. Moreover, each state’s laws are different, so when you migrate from another state to become a Florida resident, unintended consequences might arise in your plan if you don’t update it to Florida law.

Let’s talk about income, for example. Suppose that Mike has an annuity that pays out income over the course of twenty years, but he dies in year 5. The annuity pays to a marital trust for his wife, Betty, and, upon her death, the trust is distributed to his sons from a prior marriage, Stan and Larry.

Assume that, at Mike’s death, the annuity has a basis of $100,000 and the current value is $400,000. So for every distribution, 75% of it is taxable. So, over 15 years each year’s annuity payment approximates $30,000, of which $22,500 is taxable as income.

Under Florida law, however, most of the $30,000 annuity distribution is not “income” to the marital trust, rather it is “principal’ or corpus. This same law is true in many other states, by the way.

What does it mean when the annuity distribution is mostly principle under trust law rather than income? Unless the marital trust authorizes the distribution of principal to Betty following Mike’s death, most of the annuity distribution will remain in the marital trust share undistributed until Betty’s death.

Worse, since under federal income tax law $22,500 of the annuity distribution is taxable, the trust will pay the income tax. Note what’s happening here. State law calls the annuity distribution “principle” but federal tax law deems that same distribution to be taxable income.

When the taxable income is not distributed from the trust to a beneficiary, it is accumulated inside of the trust. Accumulated income is taxed at a very high rate, as under federal tax laws compress the marginal tax rate schedules applicable to irrevocable trusts. Mike’s trust became irrevocable at his death.

In other words, the marital trust, despite the modest amount of taxable income, will likely incur the current highest marginal tax rate, which is equivalent to 37%.

This is not very easy for layman to understand. It’s not that the average client isn’t smart enough; it’s just that when you are dealing in trust and tax law, what may appear simple often isn’t. This is one reason why so many individuals who attempt to construct their own estate plans through web-based programs get themselves into trouble. To create the best estate plan, one must not only understand the complex income and trust tax laws, but also how the various types of assets that are unique to one’s own situation affect the plan’s outcome.

I’m holding a unique interactive workshop on November 7th at the Sanibel Community house at 2:00PM. I’m trying something new in that I’m asking the attendees to bring their current estate planning documents with them. I’ll explain the major elements of a revocable trust, and my law partner and associates will roam the audience and help attendees find the provisions that we’re discussing, answering any questions about their application.

We’ll review the differences between wills and trusts, common trustee issues that every trust should address, and provisions governing the disability of the grantor, and what happens, for example, if you can’t act as the trustee of your own trust because you lost your mental acuity. We’ll also review administrative, tax and distribution provisions.

If you’re interested in attending, you can RSVP through our website estateplanu.org or by calling (239) 322-3831.

© 2018 Craig R. Hersch. Originally published in the Sanibel Island Sun.

Drug and Alcohol Dependency

Allow me to relay a story of a client who once had significant concerns about her son.  Her son suffered from drug and alcohol dependency, but she didn’t want to deprive him of his inheritance. Tricia was distraught as she sat in my office conference room, directing me to prepare a trust that would disinherit her son, Antoine.

“I love Antoine, as he is my son,” she explained with tears in her eyes, “but I’m afraid whatever I leave him when I pass away will be wasted on drugs and alcohol. He’s had a terrible dependency problem his whole life, in and out of rehab.  Because of his problems he can’t hold down a decent job – so he really needs an inheritance. I’m so conflicted – I don’t know what to do.”

I explained to Tricia that there is a way to provide Antoine an inheritance while preventing Antoine from wasting the money on drugs and alcohol. I told her that Antoine’s share could be held in a continuing trust rather than having money and assets distributed to him outright at Tricia’s demise.

“You would name an independent party – usually a bank or trust company is the best idea, to act as Antoine’s trustee. They would invest his inheritance to earn income, which they could distribute to pay for his food, clothing, shelter, health, and other needs.”

“Could I name my other son, Jeremey, to act as Antoine’s trustee?” Tricia asked. “I hate the idea of paying large bank fees to manage Antoine’s inheritance.”

“You could name Jeremey to act as trustee,” I answered, “but it would be against my advice. It’s never wise to name a son as the gatekeeper to his brother’s inheritance. Antoine is likely to resent Jeremey for having control over money that Antoine believes is rightfully his to control. And imagine a situation where Antoine approaches Jeremey for some money, Jeremey asks Antoine what the money is to be used for – suspecting that Antoine intends to buy drugs or something – and Antoine telling him that it’s none of his business. That could lead to some pretty nasty confrontations and acrimony.”

“So I should name a bank – but you didn’t answer my concern about fees,” Tricia said.

“The fees are usually quite reasonable when you consider everything that a trust company will do in this situation. They are going to professionally manage the wealth and help Antoine create a budget so that the money will last for Antoine’s lifetime. They’ll file tax returns for the trust, and interact with me as the attorney for the file. They’ll also decide on the best way to make distributions.”

“Antoine is very charming,” Tricia said with a wry smile, “and he can fool the best of them that he’s not suffering from his addiction when he really is.  How is the trust company to know that the money it is distributing to Antoine will really be used for his necessities?”

“I will build provisions into your trust that would allow the trust company to suspend distributions to Antoine if they had reason to believe that he was having a relapse. Instead of making distributions of cash to Antoine, the trust could pay his rent directly, his doctors and health care agents directly and even his credit card receipts for groceries. The document would allow the trust company to demand that Antoine consent to taking blood tests or having a urinalysis completed to verify his condition. The trust could also provide that should rehabilitation be necessary, the trust will pay for those services. There’s a lot that we can do to keep the money away from being used for drugs and alcohol.”

“That sounds so harsh,” Tricia said with a worried look on her face.

“Yes, it is in a way,” I replied. “But it’s all to protect him from himself. You’d be doing him a favor, really, leaving an inheritance that will last his lifetime, be professionally managed, and keep it from being used for self-destructive behavior.”

“I don’t know about entrusting all of these decisions to a faceless entity like a bank or trust company.” She said.

“This is where you can enlist the help of Jeremey or some other trusted family member or friend. You could name Jeremey to remove and replace the bank or trust company if they aren’t doing a good job, and you could direct, in the document itself, the trust company to consult Jeremey’s opinion on Antoine’s condition or on any discretionary distribution that Antoine may request.”

“I guess that it’s a good idea,” Tricia said thoughtfully.  “Let me see the draft and look at the wording to see if I like it.”

These decisions are never easy.  Typically the language used in the legal documents is first drafted, then read and discussed before being modified to meet the particular needs of a beneficiary’s situation. Since no two situations are ever the same, the documents will always be different – but the concern remains the same.

 © 2018 Craig R. Hersch. Originally published in the Sanibel Island Sun.

Lifetime Extender

According to various reports, the average life insurance agent dies about ten year earlier than the average purchaser of life insurance. A theory persists that agents believe in the actuarial tables — which to me is just an average of when people die — more than the customers do. Similarly, physicians die earlier than patients because they’re more in touch with all the things that can kill you; whereas, the average individual doesn’t think about these issues until they become a problem.

Is life expectancy therefore affected by your mindset? And, if so, what mindsets serve to extend life rather than minimize it?

Dan Sullivan, founder of the Strategic Coach program, came up with eight mindsets that he believes extend the average individual’s life. In many of his workshops he asks the class a question — at what age do you think you will die? He asks us to write down that number. For many, that number is based on family history as well as what they believe the actuary tables say is a normal life expectancy. Typically, the numbers range from the late 50s to 100 years old.

Sullivan next asks “Is that a number you agree with, or would you like to have another number?” He says that almost everyone writes down a larger number. “By having a number that’s farther off in the future, you take the present day experience you have available to you now more seriously. You get more focused on the real meaning and value of your present circumstances,” he informs. From here, he launches into his eight mindsets:

Lifetime Extender — You understand that the age at which you expect to die is negotiable — and changing the future number changes your present mindset towards a variety of topics. You realize that just because the average American has a life expectancy of eighty-some years, this isn’t necessarily a ceiling you must buy into.

Your Number — You confidently choose the extended age at which you’ll die and then use that number to transform everything else. You change how you eat, exercise, work, invest in finances and relationships;

Ignoring Other’s Expectations — You no longer pay attention to how long other people expect to live or what they think about your goal for a longer life. Sullivan encourages you to verbalize how long you intend to live, even if it seems outrageous. His personal goal is 156 years! He’s currently age 74. He says it’s irrelevant whether he makes that span. What is relevant is how this mindset affects how he lives the remainder of his life;

Friends, Money and Purpose — You continually expand these three crucial daily capabilities for living a longer life. It’s important to replenish your sets of friends, and to make sure not to stick to your own age group. By sticking to friends only within your age group, you become convinced that your life expectancy is the average as your friends die off. When you don’t have money, you feel dependent, and no longer want to be a burden to others which shortens life expectancy. Finally, it’s vital to have a purpose to live for, to give meaning to your life;

Eliminating the Idea of Retirement — Sullivan believes that retirement is a vestige of the industrial age and is no longer applicable to our society. Here, you see yourself becoming increasingly more capable, useful and productive as your longer life expands. He stresses that you need not remain at your present occupation, rather it’s important to have some career purpose that continually motivates and drives you;

Ever Expanding Happiness — You continually identify new areas of happiness in all areas of your life and work to keep expanding them. Instead of always pursuing happiness, start with expressing and internalizing gratitude, which is a voluntary activity. Once you master that capability, then you’re always increasing the value of everything and everyone you encounter, expanding your happiness;

Future Bigger Than Past — You always see and make your life ahead transformatively bigger and better than your previous experience. Consequently, you set up what your future experience will be. You become motivated and fascinated with the things in your life that keep getting bigger and bigger. You leave behind conventional thoughts about older people declining and slowing down;

Age Reversing Technology — It’s only because you have the goal of living longer that you’re going to pick up on the phenomenal scientific, technological, and medical breakthroughs that will allow you to take advantage of them. These developments will enable you to seem physically younger than your actual age because, as the actuary and physician examples reflect, the body does follow the mind.

You may not buy into these mindsets and whether they’ll increase your longevity, but my take on all of this is: “What’s the harm?!” At a minimum, these mindsets all appear life-enhancing. Certainly no one wants to die before their time. The whole question before us, therefore, is, when exactly, is your time?

 © 2018 Craig R. Hersch. Originally published in the Sanibel Island Sun.