When Is a Family Limited Partnership Needed?

When Is a Family Limited Partnership Needed?

Being able to transfer wealth from one generation to the next is a good thing, especially now, when a big change is coming to the federal estate tax exemption amount, says a recent article titled “The Pros and Cons of Family Limited Partnerships” from The Wall Street Journal.

In 2022, estates valued at up to $12.06 million are exempt from federal taxes. However, on January 1, 2026, the exemption sinks to around $6 million, with adjustments for inflation. As a result, wealthy Americans are now re-evaluating their estate plans and many are turning to the Family Limited Partnership, or FLP, as a tax saving strategy.

An FLP can be tailored to suit every family’s needs. You don’t have to be ultra-wealthy for an FLP to make sense. An upper-middle class family owning a small business or real estate properties they’re not ready to sell could make good use of an FLP, as well as a real estate mogul owning properties in multiple states.

There are some caveats. The cost of setting up an FLP ranges from $8,000 to $15,000. However, it can go higher depending on the state of residence and the complexity of the partnership. There are annual operating costs, tax filings and appraisal fees. The IRS isn’t always fond of FLPs, because there is an institutional belief that FLPs are subject to abuse.

The FLP needs to be drafted with an experienced estate planning attorney, working in consultation with a CPA and financial advisor. This is definitely not a Do-It-Yourself project.

What makes these partnerships different from traditional limited partnerships is that all partners are family members. There are two kinds of partners: general and limited. The parents or grandparents are usually the general partners. They contribute the bulk of the assets, typically a small business, stock portfolio or real estate. Children are limited partners, with interests in the partnership.

The general partners control all of the investment and management decisions and bear the partnership liability, even though their ownership of assets can be as little as 1% or 2%. They make the day-to-day business decisions, including funds allocation and income distribution. The ability of the general partner to maintain control of the transferred assets is one of the FLP’s biggest advantage. The FLP reduces the taxable estate, while maintaining control of the assets.

Once the entity is created, assets can be transferred to the FLP immediately or over time, depending on the family’s plan. The overall goal is to get as much of the property out of the general partners’ taxable estate as possible. Assets in the FLP are divided and gifted to limited partners, although this is often a gift to a trust for the limited partners, who are the general partners’ descendants. Placing the assets in a trust adds another layer of protection, since the gift remains outside of the limited partner’s taxable estate as well.

To avoid a challenge by the IRS, the partnership must be conducted as a business entity. Meetings need to be scheduled regularly, with formal meeting minutes recorded properly. General partners are to be compensated for their services, and limited partners must pay taxes on their share of income from the partnership. The involvement of professionals in the FLP is needed to be sure the FLP remains compliant with IRS rules.

An alternative is to create a Family Limited Liability Company instead of a Family Limited Partnership. These can be created to operate much like an FLP, while also protecting partners from liability.

Partnerships are not for everyone. Your estate planning attorney will advise regarding whether an FLP or an FLLC makes more sense for your family.

Reference: The Wall Street Journal (Dec. 3, 2022) “The Pros and Cons of Family Limited Partnerships”

Should I Keep Beneficiary Designations Up to Date?

Should I Keep Beneficiary Designations Up to Date?

If you don’t know who your beneficiaries are, then it’s time for a beneficiary designation check. Even if you think you remember, every now and then, they should be checked, according to an article “Are your beneficiary designations up to date?” from Community Voice.

Your choices may change with time. When did you open your very first IRA? Do you even remember when you purchased your life insurance policies? If it was back in the 1990s, chances are good the people in your life have changed, as well as your priorities.

When we filled out those forms on paper, back in the day, we were all confident they’d be the same forever, but time and life have a way of changing things. In five, ten or twenty years, big changes may have happened in your life. Your beneficiary designations and your estate plan need to reflect where you are now, not where you were then.

Smart people review these items every year. If you’re still working, your employer may have changed custodians for your retirement plan and your insurance policy. When a new custodian takes over, sometimes beneficiary designations can get lost in the change.

If you don’t have a beneficiary designation on these accounts, or any account where you have the option to name a beneficiary, you may have a bigger problem. The tax-focused part of your estate plan could be undone if you thought your 401(k) would go to your spouse but your spouse predeceased you.

If you don’t want your spouse to inherit your 401(k) or other retirement plan, your spouse will need to waive the inheritance in writing, if you want those assets to go to children or others. By law, spouses are protected when it comes to certain kinds of retirement accounts.

What most people don’t realize is that whatever choice you make on the beneficiary designation overrides anything in their wills. If you named someone to be your beneficiary, whether or not they are in your life, they will still receive the inheritance. Your family can try to fight it out in court, but they most likely will lose.

Another pitfall: naming the financial whiz in the family, then forgetting to review documents. Problems can arise if the whiz-kid moves far away or dies. If you make big changes to how you wish your estate to be distributed and neglect to tell the person named to carry out your updated wishes, they spend a lot of time trying to effectuate an out-of-date plan.

If you name your spouse as a beneficiary, the tax consequences are simpler. However, you still need an estate plan to plan for when the second spouse dies. In other words, you need an estate plan, including a will and trusts, and you also need to review it at least every three to five years.

Reference: Community Voice (September 30, 2022) “Are your beneficiary designations up to date?”

Why Do You Need an Estate Plan?

Why Do You Need an Estate Plan?

Everyone benefits from having an estate plan. If you own property, investments, or anything of value, you need an estate plan. If you have family or dependents, you need an estate plan. Estate planning directs how assets are directed, if you become incapacitated or when you die.

The checklist for creating an estate plan includes a will, powers of attorney and assigning beneficiary account designations. Using an estate planning lawyer ensures that your plan meets all legal requirements, according to the article “What is estate planning? A strategy to safeguard your family and your finances, and ensure your plans for them get carried out as you wish” from Business Insider.

In this usage, “estate” means the things you own. An estate plan inventories everything, including your home, cars, bank accounts, life insurance policies, retirement accounts and personal possessions. It outlines in writing exactly what you want to happen with your property. It also directs who you want to handle your affairs during life and after death and who you want to inherit your assets.

Why does estate planning matter? If you die without a will, your assets may get tied up in probate, where the court oversees the distribution of your estate according to your state’s laws. Without a will and the tax planning part of estate planning, your estate may shrink and your heirs receive less.

The will is just the start of a comprehensive estate plan. It details where you want your assets to go and names an executor who will oversee your estate. If you have minor children, the will is where you name a guardian to raise your children.

A durable power of attorney designates a person to act on your behalf for legal and financial matters if you become incapacitated. Without it, family members will not be able to file tax returns, collect government benefits, manage investments and handle any financial transactions. They’ll need to go to court and have a judge appoint someone to manage these and other tasks. It’s far easier and less expensive to have this document in place than to get the courts involved.

A health care power of attorney is your opportunity to name someone to make medical decisions on your behalf if you become incapacitated. This includes choosing doctors, deciding what tests to run and whether you want to have surgery or certain treatments.

You’ll want a living will to ensure your wishes for end-of-life decisions are followed. A living will also relieves your loved one of the enormous burden of determining “what Mom would have wanted” if you become terminally ill, enter the late stages of dementia, are seriously injured, in a coma, or near the end of your life. What extreme measures do you want to be taken to prolong your life? What would you not want to be done to maintain your life?

Beneficiary designations are the forms to be completed when you open a retirement account or purchase a life insurance policy. Beneficiary designations override any instructions for these accounts set out in your will, so its very important to review and update them regularly.

Trusts are used to take assets out of your probate estate. A trust is created by an estate planning attorney and upon death, assets are distributed according to the directions of the trust. If you own a lot of assets, trusts are a useful tool to avoid estate and inheritance taxes.

Digital asset protection trusts are a way to legally transfer domain names, social media accounts and other digital assets to heirs upon your death. Emails, text messages, cloud-based storage accounts, websites and social media accounts all need to be inventoried and a plan needs to be in place to protect these assets.

Reference: Business Insider (Sep. 22, 2022) “What is estate planning? A strategy to safeguard your family and your finances, and ensure your plans for them get carried out as you wish”

How Can I Choose an Estate Planning Lawyer?

How Can I Choose an Estate Planning Lawyer?

Only about a third of Americans have an estate plan, according to the article “Choosing an estate planning lawyer” from Senior Matters. The number of people with wills is decreasing, rather than increasing, despite the events of recent years. Estate planning is worth doing, for the peace of mind, the personal and financial protection it provides, not to mention leaving a legacy of caring about the future for the next generation.

Estate planning involves making end-of-life decisions, with an emphasis on both finances and health. Most people think of it as “who gets what,” which is accomplished largely through wills and trusts. For people who have amassed significant assets, this can be complex. An estate planning attorney makes it streamlined and will explain the implications of all aspects of the plan.

Estate planning includes gifting, generation skipping transfers, taxes, advance directives, power of attorney, health care proxies, living wills, naming an executor, organ donations, burial preferences, Do Not Resuscitate (DNR) orders and final wishes.

It is a highly personal process. This is why it’s important to find an attorney who is compassionate, as well as technically proficient. Estate planning attorneys tend to be caring individuals who chose this field of law because they sincerely wish to help others. They also know what happens when the planning is not done, because they also help children when their parents fail to do so.

Some people are reluctant to embark on estate planning, in part because they don’t wish to be reminded of their own mortality. Others are concerned about relatives with designs on their estate. However, not having a plan makes it more likely that relatives or others could challenge the estate and end up owning assets and provides protection.

When a person dies without an estate plan and assets subject to probate, their estate is considered to be “intestate.” Only the court will have any control over how the probate assets are distributed. The probate court will simply follow the laws of your state, which frequently are based on kinship. The exact details vary from state to state, and this is known as “intestate succession.”

The intestate laws may result in outcomes completely different than what you wished. An estranged spouse could end up owning everything, or a child with substance issues could inherit a substantial sum which will be gone in months. In most states, minor children may not receive inheritances, so trusts or custodial accounts are needed.

Estate planning is just as important for people of modest means as it is for wealthy people. If a senior owns their own home, the increase in property values could mean their estate is much bigger than they even realize.

Choosing an Attorney isn’t difficult. Ask friends and family for referrals, visit websites and find an estate planning attorney who shares your values, understands your family and feels like a good fit. Once your estate plan is in place, you’ll gain peace of mind.

Reference: Senior Matters (Aug. 17, 2022) “Choosing an estate planning lawyer”

Can You Leave an IRA to a Beneficiary?

Can You Leave an IRA to a Beneficiary?

Conversations about death and legacies aren’t always easy. However, defining what matters most to a person is a good way to start estate planning. IRAs can play an important role in estate planning and legacy creation, as discussed in a recent article entitled “IRA Gifts at Death” from The Street.

Let’s say someone has a large portion of their assets in an investment account, a Roth IRA and a traditional IRA. If they want to avoid having their estate go through probate but aren’t in love with the idea of building trusts, they need to be sure their IRAs have beneficiaries. At their passing, the assets will flow directly to the beneficiaries.

Make sure that at least one living beneficiary is on the account. If the primary beneficiary is a spouse, be sure to also have contingent beneficiaries, or designate the beneficiary as “per stirpes,” which means if the named beneficiary passes before the account owner, their share of the assets automatically passes to their lineal descendants.

If there’s no valid beneficiary, the contents of an IRA of any kind could end up in the probate estate, creating a nightmare for heirs.

If an intended beneficiary is a charitable organization, passing an IRA is a powerful giving strategy. The organization must be a 501(c)(3), a tax-exempt organization. When IRAs are passed to the charity, the charity doesn’t pay taxes on the gift.

Individual beneficiaries do have to pay taxes on assets received from traditional IRAs, and when and how much they pay depends upon their relationship to the IRA owner. If the recipient is not the spouse, not a minor and not a disabled adult, the heir will need to take taxable withdrawals from the traditional IRA over the course of ten years from the date of death of the original account owner. Some people take a set amount annually, so they can plan for the taxes due. For others, a low-income year is the time to take withdrawals, since their tax bracket may be lower.

Another IRA distribution strategy is to divide IRAs into separate accounts, allowing for increased control over the amount of assets passing to a specific beneficiary. One IRA could be used for your charitable giving, while another IRA could be used to benefit family members.

Changing beneficiaries on your IRA is relatively easy. Checking on beneficiary names should be done every time you review your estate plan, which should happen every three to five years. Your estate planning attorney will be able to help determine the best strategy for your IRAs. Generally speaking, traditional IRAs are best to gift for charities. Roth IRAs are best to gift to family or loved ones. This is because the money in a Roth IRA is inherited tax free and can remain tax free for a number of years.

Reference: The Street (July 17, 2022) “IRA Gifts at Death”

What Assets are Not Considered Part of an Estate?

What Assets are Not Considered Part of an Estate?

In many families, more assets pass outside the Last Will than through the Last Will. Think about non-probate assets: life insurance proceeds, investment accounts, jointly titled real estate assets, assuming they were titled as joint tenants with right of survivorship, and the like. These often add up to considerable sums, often more than the probate estate.

This is why a recent article from The Mercury titled “Planning Ahead: Pay attention to your non-probate assets” strongly urges readers to pay close attention to accounts transferred by beneficiary.

Most retirement accounts like IRAs, 401(k)s, 403(b)s and others pass by beneficiary designation and not through the Last Will. Banks and investment accounts designated as Payable on Death (POD) or Transfer on Death (TOD) also do not pass through probate, but to the other person named on the account. Any property owned by a trust does not go through probate, one of the reasons it is placed in the trust.

Why is it important to know whether assets pass through probate or by beneficiary designation? Here’s an example. A man was promised half of this father’s estate. His dad had remarried, and the son didn’t know what estate plans had been made, if any, with the new spouse. When the father passed, the man received a single check for several thousand dollars. He knew his father’s estate was worth considerably more.

What is most likely to have happened is simple. The father probably retitled the house with his new spouse as tenants by the entireties–making it a non-probate asset. He probably retitled bank accounts with his new spouse. And if the father had a new Last Will created, he likely gave 50% to the son and 50% to the new spouse. The father’s car may have been the only asset not jointly owned with his new spouse.

A parent can also accidently disinherit an heir, if all of their non-probate assets are in one child’s name and no provision for the non-probate assets has been made for any other children. An estate planning attorney can work with the parents to find a way to make inheritances equal, if the intention is for all of the children to receive an equal share. One way to accomplish this would be to give the other children a larger share of probated assets.

Any division of inheritance should bear in mind the tax liability of assets. Non-probate does not always mean non-taxed. Depending upon the state of residence for the decedent and the heirs, there may be estate or inheritance tax on the assets.

Placing assets in an irrevocable trust is a commonly used estate planning method to ensure inheritances are received by the intended parties. The trust allows you to give very specific instructions about who gets what. Assets in the trust are outside of the probate estate, since the trust is not owned by the grantor.

Your estate planning attorney will be able to review probate and non-probate assets to determine the best way to achieve your wishes for your distribution of assets.

Reference: The Mercury (April 12, 2022) “Planning Ahead: Pay attention to your non-probate assets”

Special Needs Planning
Family Care And Love - Hands With Family Symbol Silhouette

Special Needs Planning

When a family includes a disabled individual, sometimes referred to as a “person with special needs,” estate planning needs to address the complexities, as described in a recent article titled “Customize estate plan to account for disabled beneficiaries” from The News-Enterprise. Failing to do so can have life-long repercussions for the individual.

This often occurs because the testator, the person creating the estate plan, does not know the implications of failing to take the disabled person’s situation into consideration, or when there is no will.

The most common error is leaving the disabled beneficiary receiving an outright inheritance. With a simple will, or no will, the beneficiary receives the inheritance and becomes ineligible for public benefits they may be receiving. The disruption can impact their medical care, housing, work and social programs. It may also lead to the loss of their inheritance.

If the disabled beneficiary does not currently receive benefits, it does not mean they will never need them. After the death of a parent, for instance, they may become completely reliant on public benefits. An inheritance will put them in jeopardy.

A second common error is naming the caregiver as the beneficiary, rather than the disabled individual. This causes numerous problems. The caregiver has the right to do whatever they want with the assets. If they no longer wish to care for the beneficiary, they are under no legal obligation to do so.

If the caregiver has any liabilities of their own, or when the caregiver becomes incapacitated or dies, the assets intended for the disabled individual will be subject to any estate taxes or creditors of the caregiver. If the caregiver has any children of their own, they will inherit the assets and not the disabled person.

The caregiver does not enjoy any kind of estate tax protection, so the estate may end up paying taxes on assets intended for the beneficiary.

The third major planning mistake is using a will instead of a trust as the primary planning method. A Special Needs Trust is designed to benefit a disabled individual to protect the assets and protect the individual’s public benefits. The trust assets can be used for continuity of care, while maintaining privacy for the individual and the family.

Planning for individuals with special needs requires great care, specifically for the testator and their beneficiaries. Families who appear to be similar on the outside may have very different needs, making a personalized estate plan vital to ensure that beneficiaries have the protection they deserve and need.

Reference: The News-Enterprise (March 15, 2022) “Customize estate plan to account for disabled beneficiaries”

Do You Have to Pay Taxes on Inherited IRAs?

Do You Have to Pay Taxes on Inherited IRAs?

If you’ve inherited an IRA, you won’t have to pay a penalty on early withdrawals if you take money out before age 59½. However, you may have to make those withdrawals earlier than you’d wanted. Doing so may trigger additional income taxes, and even push you into a higher tax bracket. The IRA has always been a complicated retirement account. While changes from the SECURE Act have simplified some things, it’s made others more stringent.

A recent article titled “How Do I Avoid Paying Taxes on an Inherited IRA?” from Aol.com explains how the traditional IRA allows tax-deductible contributions to be made to the account during your working life. If the IRA includes investments, they grow tax—free. Taxes aren’t due on contributions or earnings, until you make withdrawals during retirement.

A Roth IRA is different. You fund the Roth IRA with after-tax dollars, earnings grow tax free and there are no taxes on withdrawals.

With a traditional inherited IRA, distributions are taxable at the beneficiary’s ordinary income tax rate. If the withdrawals are large, the taxes will be large also—and could push you into a higher income tax bracket.

If your spouse passes and you inherit the IRA, you may take ownership of it. It is treated as if it were your own. Howwever, if you inherited a traditional IRA from a parent, you have just ten years to empty the entire account and taxes must be paid on withdrawals.

There are exceptions. If the beneficiary is disabled, chronically ill or a minor child, or ten years younger than the original owner, you may treat the IRA as if it is your own and wait to take Required Minimum Distributions (RMDs) at age 72.

Inheriting a Roth IRA is different. Funds are generally considered tax free, as long as they are considered “qualified distributions.” This means they have been in the account for at least five years, including the time the original owner was alive. If they don’t meet these requirements, withdrawals are taxed as ordinary income. Your estate planning attorney will know whether the Roth IRA meets these requirements.

If at all possible, always avoid immediately taking a single lump sum from an IRA. Wait until the RMDs are required. If you inherited an IRA from a non-spouse, use the ten years to stretch out the distributions.

If you need to empty the account in ten years, you don’t have to withdraw equal amounts. If your income varies, take a larger withdrawal when your income is lower and take a bigger withdrawal when your income is higher. This can result in a lower overall tax liability.

If you’ve inherited a Roth IRA and funds were deposited less than five years ago, wait to take those funds out for at least five years. When the five years have elapsed, withdrawals will be treated as tax-free distributions.

One of the best ways for heirs to avoid paying taxes on an IRA is for the original owner, while still living, to convert the traditional IRA to a Roth IRA, paying taxes on contributions and earnings. This reduces the taxes paid if the owner is in a lower tax bracket than beneficiaries, and lets the beneficiaries withdraw funds as they want with no income tax burden.

Reference: Aol.com (Feb. 25, 2022) “How Do I Avoid Paying Taxes on an Inherited IRA?”

What Is Considered an Asset in an Estate?

What Is Considered an Asset in an Estate?

Estate planning attorneys are often asked if a particular asset will be included in an estate, from life insurance and real estate to employment contracts and Health Savings Accounts. The answer is explored in the aptly-titled article, “Will It (My Home, My Life Insurance, Etc.) Be in My Estate?” from Kiplinger.

When you die, your estate is defined in different ways for different planning purposes. You have a gross estate for federal estate taxes. However, there’s also the probate estate. You may also be thinking of whether an asset is part of your estate to be passed onto heirs. It depends on which part of your estate you’re focusing on.

Let’s start with life insurance. You’ve purchased a policy for $500,000, with your son as the designated beneficiary. If you own the policy, the entire $500,000 death benefit will be included in your gross estate for federal estate tax purposes. If your estate is big enough ($12.06 million in 2022), the entire death benefit above the exemption is subject to a 40% federal estate tax.

However, if you want to know if the policy will be included in your probate estate, the answer is no. Proceeds from life insurance policies are not subject to probate, since the death benefit passes by contract directly to the beneficiaries.

Next, is the policy an estate asset available for heirs, creditors, taxing authorities, etc.? The answer is a little less clear. Since your son was named the designated beneficiary, your estate can’t use the proceeds to fulfill bequests made to others through your will. Even if you disowned your son since naming him on the policy and changed your will to pass your estate to other children, the life insurance policy is a contract. Therefore, the money is going to your son, unless you change this while you are still living.

However, there’s a little wrinkle here. Can the proceeds of the life insurance policy be diverted to pay creditors, taxes, or other estate obligations? Here the answer is, it depends. An example is if your son receives the money from the insurance company but your will directs that his share of the probate estate be reduced to reflect his share of costs associated with probate. If the estate doesn’t have enough assets to cover the cost of probate, he may need to tap the proceeds to pay his share.

Another aspect of figuring out what’s included in your estate depends upon where you live. In community property states—Arizona, California, Idaho, Louisiana, New Mexico, Nevada, Texas, Washington, and Wisconsin—assets are treated differently for estate tax purposes than in states with what’s known as “common law” for married couples. Also, in most states, real estate owned on a fee simple basis is simply transferred on death through the probate estate, while in other states, an alternative exists where a Transfer on Death (TOD) deed is used.

This legal jargon may be confusing, but it’s important to know, because if property is in your probate estate, expenses may vary from 2% to 6%, versus assets outside of probate, which have no expenses.

Speak with an experienced estate planning attorney in your state of residence to know what assets are included in your federal estate, what are part of your probate estate and what taxes will be levied on your estate from the state or federal governments and don’t forget, some states have inheritance taxes your heirs will need to pay.

Reference: Kiplinger (Dec. 13, 2021) “Will It (My Home, My Life Insurance, Etc.) Be in My Estate?”