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What if I Cannot Find a Beneficiary?

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When someone has named you as the executor (also known as a personal representative) of their will or the trustee of their trust passes away, you are obligated to distribute that person’s money and property according to the document’s terms to the designated beneficiaries. (For convenience, the roles of executor and trustee will be referred to throughout this article as the general term fiduciary.) Sometimes, perhaps because of a family conflict or just falling out of touch, the whereabouts of a will or trust beneficiary are unknown. What should you, as the fiduciary, do if you cannot locate a beneficiary of the will or trust?

As a fiduciary, you have an obligation to use reasonable diligence to locate a missing beneficiary. What is considered reasonable depends on the circumstances, including what efforts have been made to locate the missing beneficiary and how much money or property is at stake.

At a minimum, a fiduciary should call the last known phone number and send notice of the estate or trust administration to the last known address. If this initial effort yields no results, then the fiduciary should contact known family members or friends for information that may lead to the beneficiary’s location, search social media and people-search sites on the Internet, publish notice in the newspaper, check property records, and otherwise use their best efforts to locate the missing beneficiary.

If the value of property to be distributed to the missing beneficiary is very small, then the fiduciary will likely not be required to spend a lot of the estate or trust’s money to locate the missing beneficiary. If, however, the property value is significant, then the fiduciary may have to take additional efforts to locate the missing beneficiary to satisfy the reasonable diligence requirement. Such additional efforts may include hiring a private investigator or using an heir search service.

Heir Search Services

Heir search services are dedicated specialists to find missing beneficiaries. They employ forensic genealogists and estate investigators who conduct extensive searches throughout the United States or the world to locate missing beneficiaries. They often have access to additional records, such as birth, marriage, and death certificates, adoption and other court records, and genealogical databases.

Heir search services can provide the added benefit of verifying the identity of the beneficiary to ensure that you, as the fiduciary, make distributions to the proper person and not someone pretending to be the beneficiary to take advantage of a fiduciary’s ignorance.

If the missing beneficiary cannot be found even with the help of a professional heir search service, you can petition the court to allow you to make a preliminary distribution of money and property to the beneficiaries who have been located. The court will likely order that the missing beneficiary’s property be held in trust for a certain period of time, as specified by state law, allowing time for the missing beneficiary to claim it. You may also be able to obtain indemnity insurance to protect you in case a missing beneficiary later appears and makes a claim after the estate or trust has already been distributed.

Work with an Attorney

Locating a missing beneficiary can take considerable time and cause significant delays in an estate and trust administration. Meanwhile, beneficiaries who have been located and expect to receive their share can become impatient. In situations where a missing beneficiary adds a layer of complexity to an administration, it can be advantageous to hire a legal professional who has experience in navigating the demands of impatient beneficiaries while protecting your interests as the fiduciary.

Further, in cases where a missing beneficiary cannot be located and it becomes necessary to petition the court to allow a preliminary distribution to the known beneficiaries, using a legal professional’s expertise of the state’s laws and procedures can lead to a quicker resolution of the issue.

Being named as the fiduciary of a will or trust carries a large responsibility to locate the beneficiaries and make distributions to them in accordance with the terms of the will or trust. When a beneficiary cannot be located, the fiduciary has an obligation to be diligent in their efforts to find the beneficiary, including hiring a professional heir search service. We have the expertise and resources to help you navigate the additional complexities that come with a missing beneficiary. Contact us if you would like to discuss how we can help you with your administration or craft your own plan to provide your loved ones with a smooth administration.

Why a Trust Is the Best Option to Avoid Probate

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Ideally, when someone passes away, the paperwork and material concerns associated with the deceased’s passing are so seamlessly handled (thanks to excellent preparation) that they fade into the background, allowing the family and other loved ones to grieve and remember the deceased in peace.

In fact, the whole business of estate planning—or at least a significant piece of it—is concerned with ease. How can money, property, and legacies be transferred to the next generation in a harmonious, stress-free, fair process? To that end, many people strive to avoid burdening their loved ones with the complications and costs involved with probate.

There are numerous tools of the trade that a qualified attorney can use to keep your money and property out of probate, for example, establishing joint ownership on bank accounts and real estate titles, designating beneficiaries for life insurance policies and certain accounts, and so on. However, setting up a revocable living trust is quite often the best, most comprehensive option for avoiding probate. Let’s discuss why this is true.

What is a trust?

Often touted as an alternative to a will, a trust is a legal structure that owns your accounts and property or is named as the beneficiary of certain accounts and property (like a retirement account) and is managed by a trusted decision maker, also known as a trustee, on your and your beneficiaries’ behalf. A living trust is established while you are still alive, as opposed to being created upon your death. You can be the trustee for your own living trust until you are no longer able to manage your financial affairs or you pass away, at which point your chosen backup trustee, also known as a successor trustee, steps up and assumes the responsibility for managing the trust on your or your beneficiaries’ behalf.

How does a trust help you avoid probate?

The purpose of probate is to transfer property ownership for all accounts and property that are owned in your sole name and that do not have a beneficiary, pay-on-death, or transfer-on-death designation when you pass away. A trust can bypass this process completely because your accounts and property are either transferred to the trust while you are alive, or the trust is named as the beneficiary at your death. Therefore, when you die, there is nothing that needs to be transferred by the probate court (everything is already in your trust or was transferred to the trust automatically at your death). Furthermore, a trust can cover virtually any type of account or property, from real estate to heirlooms to stock to bank accounts. When a trust is structured correctly with the help of an experienced estate planning attorney, your affairs can stay out of probate court entirely. This process not only limits court costs but also maintains the privacy of your financial records while enabling your beneficiaries to enjoy the benefits of the trust without disruption or delay.

Establishing a trust can seem a bit complicated, and the process can cost a bit more initially than preparing a will. However, if you are willing to invest a little more up front, a trust can be your best option for avoiding probate later.  The key to effective planning that minimizes the likelihood of a drawn-out, contentious, expensive process is to work with highly qualified, trusted people. Find a lawyer who genuinely cares about you and your loved ones and who knows how to forge the right strategy for all of you. Give us a call today to learn more about the next steps for achieving the peace of mind you deserve.

Three Reasons to Avoid Probate

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When you pass away, your family may need to sign certain documents as part of a probate process in order to claim their inheritance. This can happen if you own property (like a house, car, bank account, investment account, or other assets) in your name only and you have not completed a beneficiary, pay-on-death, or transfer-on-death designation. Although having a will is a good basic form of planning, a will does not avoid probate. Instead, a will simply lets you inform the probate court of your wishes—your loved ones still have to go through the probate process to make those wishes legal. 

Now that you have an idea of why probate might be necessary, here are three key reasons why you may want to avoid probate, if at all possible.

1. It is all public record. 

Almost everything that goes through the courts, including probate, becomes a matter of public record. This means that in order to properly wind up your affairs (i.e., pay your bills, file any remaining tax returns, and distribute your money and property to your chosen recipients), documents—including associated family and financial information—could become accessible through the probate court to anyone who wants to see them. This does not necessarily mean that account numbers and Social Security numbers will be made public, as the courts have at least taken some steps to reduce the risk of identity theft. But what it does mean is that the value of your accounts and property, creditor claims, the identities of your beneficiaries, contact information for your loved ones, and even any family disagreements that affect the distribution of your money and property may be publicly available. Most people prefer to keep this type of information private, and the best way to ensure discretion is to keep your affairs out of probate.

2. It can be expensive. 

Thanks to court costs, attorney’s fees, executor fees, and other related expenses, the price tag for probate can easily reach into the thousands of dollars, even for small or simple matters. These costs can easily skyrocket into the tens of thousands or more if family disputes or creditor claims arise during the process. Your money and property should be going to your loved ones, but if it goes through probate, a significant portion could go to the courts and legal fees instead.

Of course, setting up an estate plan that avoids probate does have its own costs. Benjamin Franklin wrote, “An ounce of prevention is worth a pound of cure.” Like the “ounce of prevention,” costs you incur now to put a plan in place are more easily controlled than uncertain costs in the future, especially when you consider that your loved ones may be making decisions while grieving. With proper planning, you can minimize the risk of costly conflict and also reduce or eliminate some costs; if there is no probate case, there will not be any probate filing fees or court costs.

3. It can take a long time. 

While the time frame for probating an estate can vary widely by state and by the value, amount, and complexity of the deceased person’s accounts and property, probate is not generally a quick process. It is not unusual for probates, even seemingly simple ones, to take six months to a year or more, during which time your beneficiaries may not have easy access to the money and property you intended to leave them. This delay can be especially difficult for loved ones experiencing hardship who might benefit from a faster, simpler process, such as the living trust administration process. Bypassing probate can significantly expedite the disbursement of money and property so that beneficiaries can benefit from their inheritance sooner. If you have property located in multiple states, a version of the probate process must be repeated in each state in which you hold property. This repetition can cost your loved ones even more time and money. The good news is that with proper trust-centered estate planning, you can avoid probate in all of the states, simplify the transfer of your financial legacy, and provide lifelong tax savings and asset protection to your family. To learn more, call us to schedule an appointment. One of our experienced attorneys will be happy to strategize with you.

The Pros and Cons of Probate

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In estate planning circles, the word “probate” often carries a negative connotation. Indeed, for many people—especially those with valuable accounts and property—financial planners recommend trying to keep accounts and property out of probate whenever possible. That being said, the probate system was ultimately established to protect the deceased’s accounts and property as well as their family, and in some cases, it may even work to an advantage. Let us look briefly at the pros and cons of going through probate.

The Pros

For some situations, especially those in which the deceased person left no will, the system works to make sure all accounts and property are distributed according to state law. Here are some potential advantages of having the probate court involved in wrapping up a deceased person’s affairs:

  • It provides a trustworthy procedure for redistributing the deceased person’s property if the deceased person did not have a will.
  • It validates and enforces the intentions of the deceased person if a will exists.
  • It ensures that taxes and valid debts are paid so there is finality to the deceased person’s affairs rather than an uncertain, lingering feeling for the beneficiaries. 
  • If the deceased person had debt or outstanding bills, probate provides a method for limiting the time in which creditors may file claims, which may result in discharge, reduction, or other beneficial settlement of debts.
  • Probate can be advantageous for distributing smaller estates in which estate planning was unaffordable.
  • It allows for third-party oversight by a respected authority figure (judge or clerk), potentially limiting conflicts among loved ones and helping to ensure that everyone is on their best behavior. 

The Cons

While probate is intended to work fairly to facilitate the transfer of accounts and property after someone dies, consider bypassing the process for these reasons:

  • Probate is generally a matter of public record, which means that some documents, including personal family and financial information, become public knowledge.
  • There may be considerable costs, including court fees, attorney’s fees, and executor fees, all of which get deducted from the value of what you were intending to leave behind to your loved ones.
  • Probate can be time-consuming, holding up distribution of your beneficiaries’ inheritance for months and sometimes years. 
  • Probate can be complicated and stressful for your executor and your beneficiaries. 

Bottom line: While probate is a default mechanism that ultimately works to enforce fair distribution of even small amounts of money and property, it can create undue cost and delays. For that reason, many people prefer to use strategies to keep their property out of probate when they die.

An experienced estate planning attorney can develop a strategy to help you avoid probate and make life easier for the next generation. For more information about your options, contact us today to schedule a consultation.

Three Celebrity Probate Disasters and Tragic Lessons

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One would assume that celebrities with extreme wealth would take steps to protect their estates. But think again: some of the world’s richest and most famous people enter the pearly gates with no estate plan, while others have made estate planning mistakes that tied up their fortunes and heirs in court for years. Let us look at three high-profile celebrity probate disasters and discover what lessons we can learn from them. 

1. Prince

The court battle over musician Prince’s estate was a probate disaster. 

  • When the ‘80s pop icon died in early 2016, he left no estate plan (reportedly due to some previous legal battles that left him with a distrust of legal professionals). 
  • The probate court had the task of determining Prince’s heirs among all of the people who stepped forward claiming an interest in Prince’s money and property. In 2017, the court ruled that his five half-siblings and his sister were to inherit from Prince. 
  • The court battle among Prince’s potential heirs cost millions of dollars, and all matters involving Prince’s money and property took about six years to resolve. 

Lesson learned: Accurate legal documentation protects your legacy. Do not let a general distrust or a bad experience propagate through generations, leaving your loved ones to fight or lose their inheritance.

2. Whitney Houston

Whitney Houston’s failure to update her estate plan ended up leaving her daughter with more than she probably intended.

  • Whitney Houston executed a will in 1993 and died in 2015 without making any updates to the distribution instructions in her will.
  • Her will left everything to her nineteen-year-old daughter, Bobbi Kristina Brown.
  • According to the will, one-tenth was to be given to Bobbi at age twenty-one (about $2 million), another one-sixth at age twenty-five, and the remainder at age thirty. 
  • Unfortunately, Bobbi died in 2015 at the age of twenty-two, of drowning.
  • Many people have speculated that Bobbi was not mature enough to have received $2 million when she turned twenty-one.

Lesson learned: Naming your child in your estate plan is not enough. You must periodically review the documents and assess whether your original plan to leave your money and property is still in the best interest of your child.

3. Michael Crichton

  • Michael Crichton, author of Jurassic Park, had a will prepared and died leaving behind a daughter from a previous marriage and his surviving wife. His surviving wife had signed a prenuptial agreement and was not considered an heir when he died. She was, however, pregnant with his son.
  • He did not update his will to provide for his soon-to-be-born son.
  • A court battle was fought between his daughter and his wife, on behalf of her son, to determine what share he was to receive. Was he to split the inheritance fifty-fifty with his half-sister, or a smaller amount as a pretermitted (omitted) heir?
  • His son ultimately inherited from his father, but the cost of the litigation reduced the inheritance, the process took a considerable amount of time, and the conflict most likely damaged familial relationships.

Lesson learned: There are four major events that should trigger a review of your estate plan: a birth, death, divorce, or move. These milestones could have a lasting impact on your estate plan. When they occur, review your plan and contact an experienced estate planning attorney to make the necessary changes.

These celebrity probate disasters serve as stark reminders that no one’s wealth is exempt from the legal trouble that can occur without proper estate planning. As always, we are here to help you protect your loved ones and legacy. Give us a call today to discuss protecting your hard- earned money and property and your loved ones.

Three Tips for Overwhelmed Executors

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While it is an honor to be named as a trusted decision maker, also known as an executor or personal representative, in a person’s will, it can often be a sobering and daunting responsibility. Being an executor requires a high level of organization, foresight, and attention to detail to meet responsibilities and ensure that all beneficiaries receive the accounts and property to which they are entitled. If you are an executor who is feeling overwhelmed, here are some tips to lighten the load. 

1. Get help from an experienced attorney.

The caveat to being an executor is that once you accept the responsibility, you also accept the liability if something goes wrong. To protect yourself and make sure you are crossing all the “t’s” and dotting all the “i’s,” hire an experienced estate planning attorney now. Having a legal professional in your corner not only helps you avoid pitfalls and blind spots, but it will also give you greater peace of mind during the process. In fact, in some states it is a requirement that an executor be represented by competent legal counsel, so it is always a good idea to discuss your responsibilities with an attorney before you take action. It is also important to note that the expense of hiring an attorney does not have to be borne by you. As an executor, you are allowed to hire professionals to assist you in carrying out your responsibilities, and they can be paid from the deceased person’s money. This includes professionals such as financial advisers and certified public accountants.

2. Get organized.

One of the biggest reasons that you may feel overwhelmed as an executor is that the details can come at you from all directions. Proper organization helps you conquer this problem and regain control. We will advise you of what to do and when. You will need to gather several pieces of important paperwork to get started. It is a good idea to create a file or binder so you can keep track of the original estate planning documents, death certificates, bills, financial statements, insurance policies, and contact information of beneficiaries. Bringing all of this information to your first meeting will be a solid start. As you continue with the administration process, you may be required to open or manage the deceased person’s bank accounts. It is important that you keep records of all transactions that occur because you will be required to account for how money has been spent. It is also important that you keep all of the deceased person’s finances separate from your own. Do not deposit money into your personal account.

3. Establish lines of communication.

As an executor, you are the liaison between multiple parties involved in the probate process: the courts, the creditors, the Internal Revenue Service, the beneficiaries, and the heirs. Create and maintain an up-to-date list of everyone’s contact information. Also, retain records such as copies of correspondence or notes about phone calls you make as executor. Open and honest communication helps keep the process flowing smoothly and reduces the risk of disputes. It is worth repeating because it is so important: keep records of all communications, so you can always recall what was said to whom.

If you have been appointed as an executor and are feeling overwhelmed, we can provide skilled counsel and advice to help you through the process. We can also help you draft your own estate plan so your family can avoid the stress of probate. Give our office a call today for an appointment. We look forward to hearing from you.

Things to Consider Before Accepting Your Inheritance

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The news that you will be receiving an inheritance is often bittersweet because it means that somebody close to you has passed away. But you might also have mixed emotions about your inheritance for reasons that have to do with the actual accounts or property you are inheriting. 

On the one hand, you might not want to reject your inheritance out of respect for the person who put you in their will or trust or named you as the beneficiary of an account or policy. On the other hand, depending on what you have been gifted, an inheritance might pose unintended logistical or financial difficulties that you are unable—or unwilling—to take on. 

An inheritance, like the loss of a loved one, can be life-changing. While there is no law that requires you to accept an inheritance, there are sometimes good reasons for doing so. And if you choose to turn down a gift, that does not mean it will end up in the hands of the state. Prior to accepting or rejecting an inheritance, you might want to seek legal and tax advice about the implications of either decision. 

When Estate Planning Does Not Go To Plan

An estate plan contains instructions for distributing a person’s money and property when they pass away. Some families discuss who will receive certain accounts or property. For example, maybe all of the kids are asked if they would like to inherit an item from mom’s collection of family heirlooms. 

In an effort to be fair, most testators (i.e., persons who have made a will or created an estate plan) or trustmakers divide their money and property equally among heirs. There are cases where one child or heir may be given a larger inheritance based on a larger caregiving role or contribution of their time to the family in some other way. But typically, there are family talks about such matters to ensure that everyone is in agreement and the unequal inheritance does not spur intrafamily resentment and conflict. 

However, unexpected inheritances are not out of the question. Testators or trustmakers are under no legal obligation to be fair. Generally, they are entitled to divide up their assets however they see fit. Furthermore, family dynamics can shift and force changes in an estate plan. 

For instance, maybe there are three siblings, and two of them have rocky marriages. The testator may have a provision in their will that gives the executor discretion to address this situation and keep their assets out of the hands of a sibling’s soon-to-be ex-spouse, such as by disinheriting a sibling or reducing their inheritance if their marriage is on the verge of failing at the time of probate. Or, a testator could simply decide to write an heir out of the will altogether and assign their share of an estate to somebody else. 

Similarly, the death of an heir could result in estate assets being reassigned. Indeed, there are many situations that could result in a surprise inheritance. Maybe you have a childless uncle or friend who wanted to surprise you with a windfall. Up until the moment a person passes away, a person is free to amend their will. Heirs usually have some idea of what they will be inheriting from whom, but estate planning does not always go according to plan. 

Weighing the Pros and Cons of an Inheritance

Accepting an inheritance is a free and voluntary act that is also affected by personal circumstances. If you were informed that you have an inheritance coming your way, you will have to decide whether to receive or reject it. Here are some factors that may impact your decision: 

  • Outstanding debt. Your inheritance could include a big ticket item, such as a house, car, or RV, that carries outstanding debt. As the inheritor, you may be responsible for servicing the loan or mortgage and will have to figure out if you can afford to pay it off or refinance and continue making the payments.1 You could always sell the item, but if more than one heir inherits a home, that would have to be a group decision. Also, keep in mind that real estate and other valuable property will need to be insured, at added cost to you. 
  • Oversized items. You could inherit a car, truck, RV, or other large item or collection that comes with no debt obligations but poses a storage problem. This is particularly true if you do not have your own home or if you live in an apartment or condo with limited space. Paying for additional storage is an option, but if you do not really want the item in the first place, storing it may not be worth the cost. 
  • Logistics. Taking possession of an item might sound good in theory but turn out to be a logistical nightmare. You might have to travel a long distance and pay for a trailer to haul it. Shipping may be an option, but who will pay for the transport? The money could come out of the estate or out of your own pocket. 
  • Tax consequences. Six states impose an inheritance tax on beneficiaries: Iowa, Kentucky, Maryland, Nebraska, New Jersey, and Pennsylvania.2 In addition to a potential inheritance tax, which ranges from 1-20 percent of the value of the assets you inherit,3 income-producing assets such as real estate, securities, and retirement accounts can increase your taxable income and could even place you in a higher tax bracket. Be clear on the tax implications of your inheritance and how inherited assets may affect your overall financial situation. 
  • Personal considerations. Perhaps you just do not want to take possession of an item that somebody left to you in their will. You may also realize that somebody else in the family really does want it and would feel hurt if you got it instead. Inheritances can produce hurt feelings and irritate existing tensions. To squelch conflicts before they get out of hand and lead to legal disputes, consider taking the high road.

Whichever path you choose—acceptance or refusal—be prepared to file documents stating your intentions. Another thing to keep in mind is that if you refuse an inheritance, you will have no say in who receives it. If the will does not name a backup (contingent) beneficiary, it will pass back to the estate and on to the next beneficiary according to state law. To make sure that a specific person receives what you are rejecting, you have the option to accept it and then gift it to them. However, as the giver, giving a gift comes with possible tax implications. 

Managing Your Inheritance and Planning for the Future

An inheritance could be a pleasant surprise, but most people expect to receive an inheritance at some point in their life. Whenever that day comes, you will want to make the most of your inheritance. Working with a trusted advisory team can help you assess your finances, preserve your wealth, plan for the future, and establish an estate plan of your own. For wealth and estate planning advice, reach out to our office to schedule an appointment.

Footnotes

  1. Victoria Araj, Inheriting a House with a Mortgage, Quicken Loans (Sept. 17, 2021), https://www.quickenloans.com/learn/inheriting-a-mortgage.
  2. Anna Hecht, Millennials Will Inherit $68 Trillion by 2030—Here’s What to Know If You Receive a Windfall, CNBC: Make It (Jan. 16, 2020), https://www.cnbc.com/2020/01/16/receiving-an-inheritance-four-things-experts-say-you-should-know.html.
  3. What Are Inheritance Taxes?, Intuit TurboTax (Oct. 16, 2021), https://turbotax.intuit.com/tax-tips/estates/what-are-inheritance-taxes/L93IUc3sC.

Generation-Skipping Transfer Tax

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When it comes to federal taxes, most people are very aware of the federal income tax because, if they earn a paycheck, they cannot help but notice the deductions each pay period. But there are lesser-known taxes such as the capital gains tax (a form of income tax), the estate tax, the gift tax, and the generation-skipping transfer tax, which is perhaps the least-known tax scheme.

What is the generation-skipping transfer tax?

The generation-skipping transfer (GST) tax is a federal tax on an individual’s transfer of property to a person at least two generations below the individual. Generally, GST tax applies to gifts made by an individual to grandchildren or descendants of the grandchildren. Gifts made by an individual to unrelated persons other than the individual’s spouse can also trigger GST tax. The types of recipients who would trigger GST tax are commonly known as “skip persons.” The GST tax is imposed whether the transfer occurs as a gift during the grandparent’s lifetime or at the grandparent’s death through inheritance by will or trust. 

Congress first introduced the GST tax in the mid-1970s to close a loophole that allowed wealthy individuals to evade inheritance taxes by transferring property directly to grandchildren and skipping the grandchildren’s parents, which avoided estate taxes at the first generation.

While the GST tax follows the gift and estate tax lifetime exemption limits, the GST tax is a separate tax that applies alongside and in addition to any gift and estate taxes.

When does it apply?

The GST tax typically applies when the amount that is transferred to skip persons (persons thirty-seven-and-a-half years younger than the transferor) is greater than the transferor’s lifetime GST tax exemption, which is $12.06 million in 2022. All lifetime gifts as well as transfers made at death by will or trust are counted against the exemption amount. For example, if you give $100,000 to each of your five grandchildren in 2022, then $500,000 is counted against your lifetime exemption of $12.06 million. If total transfers (during life and at death) to grandchildren exceed the exemption amount, a flat 40 percent tax is assessed on the overage.

There is an exception to the GST tax if your child predeceases you. The transfer of property to a grandchild where the grandchild’s parent has already passed away does not result in the imposition of the GST tax. Since transfers from a parent to child are not considered generation-skipping, the grandchild essentially steps into the shoes of the predeceased child (their parent).

The GST tax does not apply to tuition or medical care payments made directly to an institution (e.g., a school or doctor, hospital, etc.). For example, a grandparent can pay for a grandchild’s college tuition without worrying about GST tax as long as the payment is made directly to the school.

Things to Consider

While most people will not have to deal with GST tax issues at present because the value of the property transferred is not greater than $12.06 million, it is important to be somewhat familiar with the GST tax and when it applies because, under current law, the GST tax exemption amount is set to revert to $5 million (adjusted for inflation) in 2026. Likewise, proposals to lower the exemption amount are introduced regularly. Thus, the GST tax exemption amount could change at any time, so if you are considering transferring property to grandchildren, you should be aware of the GST tax.

Another thing to keep in mind is that, although married couples have essentially double the exemption amount, the GST tax exemption is use it or lose it. Unlike with the estate tax, where the first spouse’s unused exemption amount can be used by the surviving spouse, any unused GST tax exemption amount is lost at the first spouse’s death.

The careful reader of this short explanation of the GST tax may well have even more questions. Suffice it to say that this topic can be very challenging. Few tax advisors or attorneys are familiar with the complexities surrounding the GST tax. That is why it is crucial for you to seek experienced legal and tax counsel if you own property sufficient to trigger the GST tax that you intend to pass on to future generations. Doing so will ensure that you make the most of the tax rules and related GST tax planning strategies available to advisors today. And because these rules can and do change regularly, you should revisit multigenerational planning with your advisors on a regular basis. Contact us today.

Handling S Corporation Interests in Estate Planning: Electing Small Business Trusts and Qualified Subchapter S Trusts

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One of the many challenges of owning a small business is determining the appropriate tax classification of the business. When an individual owns a business entity that is classified either entirely or partially as an S corporation, it is important to seek the guidance of an experienced estate planning attorney and tax advisor when planning for death. Depending on your estate planning goals, the advice provided by these professionals may be very different from the advice given to another business owner.

For example, upon your death,

  • Do you intend to pass on your business as an ongoing business entity that will produce income for your spouse or loved ones?
  • Is it important that the business continue to operate for years after your death to provide employment for your employees?
  • Or would you prefer to sell the company to the other owners in exchange for cash, which can easily be distributed among your beneficiaries?
  • Alternatively, do you intend to simply have the business shut down and have the assets sold? 
  • Is it important that your beneficiaries be protected from lawsuits, divorce, or bankruptcy once they receive their inheritances?

As you can see, there are various scenarios that should be considered by a business owner when it comes to estate planning with a viable business. And because of certain federal laws, your estate planning must carefully address a business that is taxed as an S corporation.

What is an S corporation?

The Internal Revenue Service (IRS) describes S corporations as “corporations that elect to pass corporate income, losses, deductions, and credits through to their shareholders for federal tax purposes.” This election is allowed under § 1362 of subchapter S of the Internal Revenue Code (I.R.C.), which is where S corporations get their name. Unlike a C corporation, which is first taxed on profits when earned and then taxed again to the shareholders when those profits are distributed, an S corporation offers the tax advantage of being able to pass income to the shareholders without first being taxed at the corporate level. The shareholders report their share of the S corporation’s profits and losses on their individual tax returns and are assessed tax at their individual income tax rates.

Under the Internal Revenue Code, an entity must meet the following criteria to qualify for taxation as an S corporation:

  • It is incorporated within the United States.
  • It has only one class of stock.
  • It does not have more than one hundred shareholders.
  • The entity’s shareholders are individuals, specific types of trusts and estates, or certain tax-exempt organizations. Partnerships, certain corporations, and nonresident aliens cannot be shareholders of an S corporation.
  • It is not one of the types of corporations ineligible for S corporation taxation, such as certain financial institutions, insurance companies, and domestic international sales corporations.

What types of trusts can own stock in an S corporation?

As stated above, only specific types of trusts may be shareholders of an S corporation. The three most common types of trusts used to hold S corporation stock or membership interests are a grantor trust, a qualified subchapter S trust (QSST), and an electing small business trust (ESBT). (A voting trust may also be used but is beyond the scope of this article.)

Grantor Trust

In general, a grantor trust is a trust in which the grantor (also called the trustmaker) retains certain powers over the trust, which causes the trust income to be taxable to the grantor. The commonly used revocable living trust is one type of grantor trust. Because of some of the disadvantages of QSSTs and ESBTs (discussed below), a grantor trust is often the preferred type of trust for owning an S corporation. However,  grantor trusts (as well as testamentary trusts) may generally hold S corporation stock for only two years after the death of the grantor, at which point the trust must either qualify as a QSST or ESBT or distribute the stock to an eligible shareholder. Otherwise, the corporation’s S election will terminate.

QSST

A trust may qualify as a QSST if it meets several criteria:

  • The trust has only one current beneficiary who is a US citizen or resident.
  • All trust income is distributed to that sole beneficiary.
  • The income beneficiary files an election with the IRS.

A QSST may work well in many circumstances; however, its requirements can also be unfavorable in certain situations. For example, the requirement that there is only one current beneficiary means that the beneficiary’s children cannot also be beneficiaries of the trust. In addition, the requirement that all income is distributed to the beneficiary means that the income must be distributed regardless of the beneficiary’s need, potential taxable estate, or troubling behavior. Further, that distributed income would be exposed to the beneficiary’s creditors, lawsuits, and divorcing spouse. Some practitioners create multiple trusts to isolate subchapter S stock in a trust that meets the criteria and allow other assets to be held in a trust with different terms.

ESBT

In general, a trust may qualify as an ESBT if it meets the following criteria:

  • The trustee of the trust files an election with the IRS within a certain time frame.
  • The beneficiaries of the trust are all permissible beneficiaries under the Internal Revenue Code

Advantages of an ESBT are that they are not subject to the single beneficiary and mandatory distribution requirements of a QSST. In addition, because of certain phaseout deduction limitations that apply to individuals but do not apply to an ESBT, holding S corporation stock in an ESBT could result in income tax savings. However, the general rule is that all of an ESBT’s income is taxed at the highest federal income tax rate, so if not all trust beneficiaries are in the highest tax bracket themselves, the overall tax could be higher when using an ESBT to hold S corporation stock. If the trust beneficiaries are not in the highest income tax bracket, some practitioners use careful drafting to cause the beneficiaries to be treated as grantors or owners under I.R.C. § 678, which takes precedence over the regulations governing ESBT income taxation. 

When dealing with S corporation stock, it is essential to follow the S corporation requirements to ensure that the corporation’s S election does not terminate and result in disastrous tax consequences. If you currently own shares of stock in a business being taxed as an S corporation, call us to start forming a plan about what will happen to your business at your passing. Your loved ones and employees will thank you.

Harmless Error Statute—A Saving Grace

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When somebody dies without a legally recognized will, their money and property are typically subject to default state rules that determine who will receive it. To assert control over who will receive their money and property and who will wind up their affairs, many people choose to have a will prepared. In order for a will to carry out the person’s wishes, it must be properly prepared and executed or else the terms of the will may not be followed. However, for individuals who live in a state that has adopted a harmless error statute, even a document that does not meet all of the formal legal requirements of a will may still be considered valid and admitted to probate if they intended it to serve as their will. 

What is the harmless error rule?

Normally, in order for a will to be legally valid and enforceable, it must meet the following criteria: 

  • It is in writing.
  • It is signed by the testator (the person who made the will).
  • It is signed by at least two witnesses (most states require at least two witnesses; some require three) who observed the testator sign the will.

These rules are contained in section 2-502 of the Uniform Probate Code (UPC), which standardizes state laws about wills, trusts, and the probate process. Although intended to be adopted by all fifty states, fewer than half of the states adopted the UPC in its entirety. As a result, there are significant variations in probate law by state. 

In 1990, a harmless error provision was added to the Uniform Probate Code in section 2-503. It states that a document that is not executed in compliance with UPC section 2-502 can be treated as though it was executed in compliance if the noncompliant defects can be overcome by “clear and convincing evidence that the decedent intended the document” to serve as their will. 

The American Bar Association (ABA) notes that the harmless error rule was primarily expected to address two types of defects that could prevent a will from being officially recognized: 

  • Defective attestation (e.g., no witnesses or not enough witnesses)
  • Testator additions or amendments to a will (for example, the testator crosses off a gift or name in their will and writes in a different gift or name)

The ABA goes on to say that “the rule as drafted is not limited to these problems and has been applied more broadly.” It adds that clear and convincing evidence is a high standard of proof, and that courts are much more likely to excuse missing attestation than a missing signature. 

The Legal Information Institute at Cornell Law School notes that the harmless error rule sometimes excuses defects related to the signature and attestation requirements of executing a will, but the requirement that the will be in writing is usually not excused. 

Which states have a harmless error statute?

As of today, twelve states have adopted a version of the harmless error statute: Hawaii, Michigan, Montana, New Jersey, South Dakota, Utah, California, Colorado, Ohio, Virginia, Oregon, and Minnesota. 

Some of these states follow UPC section 2-503. Other states have accepted the rule with modifications. For example, California, Ohio, and Virginia require the decedent’s signature. Oregon does not require the decedent’s signature but adds requirements such as giving notice to heirs and providing a twenty-day period for anyone receiving notice to object prior to the court’s ruling. 

Minnesota’s harmless error rule was a direct response to COVID-19 and the social distancing rules that made it difficult to meet traditional will execution formalities, in particular the requirement that two witnesses provide a signature verifying that they witnessed the testator’s signature. 

In states where the harmless error statute has not been adopted, alternative workarounds to COVID-19 restrictions were adopted. New York, for instance, authorized residents to use video witnessing to satisfy attestation requirements. And in Texas, the requirement to execute a will before a notary was suspended and videoconference notarization was permitted. 

When might the harmless error rule be invoked?

Dying intestate—or without a will—is far from ideal. When that happens, state laws about intestate succession are followed, and a court takes charge of probate. Typically, this means that money and property are passed down to heirs based solely on their relationship to the deceased, with the surviving spouse and children taking precedence. 

Although this arrangement may not be a problem in many families, it operates independently of the decedent’s final wishes. The decedent is left with no say over the allocation of specific assets to specific family members. And if a decedent has no surviving family members, the state is the sole beneficiary of the estate. Having a will in place avoids these issues. 

Dying intestate can mean not only dying without a will but also dying without a will that is recognized by the court. The latter scenario can potentially be addressed by invoking the harmless error statute in a state where such a law is on the books. Surviving family members and estate planning attorneys may have to rely on this backup plan if they possess a document that expresses the decedent’s intentions but contains defects the court may be willing to overlook if clear and convincing evidence is produced. 

Unfortunately, there is no exact definition of what types of evidence a court would consider clear and convincing, although state legal precedents can offer clues. In Colorado, the harmless error rule was not applied in a case involving a signed note attached to a birthday card that a surviving spouse attempted to probate as a will. In Michigan, a court ruled that a suicide note left on a phone was sufficient to permit probate of the decedent’s estate. 

COVID-19 was an unusual and unpredictable occurrence that posed unique complications for executing a will. But the need to prove testamentary intent can arise for many reasons that have nothing to do with viruses and social distancing. Somebody could be on their deathbed and fail to sign the will before their passing. They could have most of a will in place and die unexpectedly. It could be a handwritten note that was signed, dated, and filed away, or a computer document typed up in a person’s final moments. 

What constitutes a harmless error is ultimately up to the courts where the decedent lived to decide. Ideally, a person’s will is recognized as legal prior to their death. If forced to rely on the harmless error doctrine as a plan B for a loved one’s will, you should consult with an estate planning attorney to ensure that their final wishes are carried out.