Estate Planning Basics

By Katie Hanson, Randall K. Hanson, and LeAnn Luna

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Estate planning has changed dramatically over the past few years, for reasons that relate to both tax and nontax developments. Many estate planners now recommend that taxpayers execute four documents when they are planning for the future: a testamentary will, a living will, a durable power of attorney for health care, and a durable power of attorney for finances. In addition, recent estate tax legislation should be considered.

Estate Tax Exemptions

The 2001 Tax Act increased estate exemptions and reduced estate tax rates. If a person dies in 2004, no estate taxes will be owed unless the net taxable estate (including prior taxable gifts) exceeds $1.5 million.

This exemption will increase to $2 million in 2006, and then to $3.5 million in 2009. The maximum estate tax rate is reduced to 48% in 2004 and then drops 1% each year in 2005, 2006, and 2007. The rate will remain 45% in 2008 and 2009 before dropping to zero in 2010. If Congress does nothing to change the law, on January 1, 2011, the exemptions and estate tax rates will revert to the 2001 levels. Most commentators anticipate that there could be an estate tax implemented by 2011 but believe that the exemptions will remain at a high level.

With the present exemption of $1.5 million, most taxpayers will not owe any estate tax. Those taxpayers with a taxable estate exceeding the exemption will continue to try to minimize the tax owed, typically by taking advantage of various types of trusts and lifetime giving programs.

Formal Testamentary Will

Will preparation is a crucial estate planning activity, although estate planners need not always serve as executors. If a taxpayer dies without a will, state statutes and a probate judge will dictate who receives the deceased’s assets. The intestate succession statutes, which set forth who will receive property, generally protect immediate family members. State statutes vary on what property passes to whom upon the death of an individual, but spouses and children are typically the priority heirs. Individuals uncomfortable with the heirs specified in their state’s statutes should execute a will to set forth an acceptable plan for the distribution of their assets. Any person at least 18 years old and of sound mind may lawfully execute a will.

There are some key advantages to having a will even if one is content with the heirs listed in the state statutes. For example, a will is the proper vehicle for designating the guardian for minor children. One can also designate a personal representative responsible for inventorying the estate, paying debts, and distributing the excess pursuant to the will.

Other key advantages of a will are that it allows for bequests to charities, bequests in unequal proportions, and specific bequests of personal items. State statutes adopt a rigid format for distributing assets, and the assets are always distributed outright. In many cases, testators may not want a mathematically equal distribution of assets among heirs, and may not want certain assets (e.g., the family farm) divided or liquidated.

Another benefit of having a will is that the grieving heirs will be able to read the specific wishes of the deceased. This helps many people to deal with the grieving process. If the heirs have no will to read, they are sometimes left with uneasiness about the deceased person’s true wishes. Unfortunately, that uneasiness frequently leads to bitter disagreements and even lawsuits between family members at a time when concerns over money or assets should be avoided.

Most states permit individuals to refer to a personal property list in their will and then itemize in a separate document a suggested list of what items of personal property they wish to go to particular persons. In this way the executor may distribute personal items, such as wedding rings, antiques, photo albums and dishes, to the persons the decedent most wishes to have them. Including sentimental objects on the personal property list eliminates any controversy about the testator’s wishes.

Leaving a will also prompts heirs to make decisions and arrangements. The decedent’s personal representative will know that an attorney needs to be retained and the probate process needs to be initiated. Simple probates typically take at least six months to validate a will, appoint a personal representative, inventory the assets, pay creditors, and distribute the remaining assets to the heirs.

Some people are tempted to use simple software programs to prepare their own will. Many times these documents will be sufficient. When they fail, however, even for the simplest of shortcomings, the consequences can be devastating. For example, a will dispute in Tennessee was appealed all the way to the Tennessee Supreme Court because one of the witnesses left the table for a few minutes during its execution and may or may not have actually witnessed the testator sign the document. The will was ultimately held as valid, but the cost to the heirs was over $100,000 in legal fees.

Finally, many individuals use a will as the funding mechanism for various types of trusts. Trusts can address several ordinary concerns, including the relatively common situation of a potentially spendthrift heir. A simple trust with a thoughtful nominee for trustee can ensure that assets are used productively rather than to fund an extravagant lifestyle. The trust might allow expenditures for education or health care or to fund a new business venture, but severely restrict withdrawals for items such as cars or travel. Trusts may also be used to control assets in the case of a divorce or to guarantee a college fund for children or grandchildren. In addition, trusts are frequently set up for family members with a physical or mental disability. A trust can ensure a disabled person’s care for many years without disqualifying that person for available need-based programs provided by private or public entities.

Living Wills

A living will documents a person’s health-care wishes if that person is unable to make her own health-care decisions because she has become terminally ill, comatose, or conscious with irreparable brain damage. The basic purpose of a living will is to control whether one’s life will be prolonged by life-support methods. Because of the current litigious environment, allowing a person to die can be time-consuming, expensive, emotionally draining, and sometimes impossible unless a living will has been executed. A living will sets forth the conditions under which life support can be removed, and it allows a physician to lawfully withhold artificial respiration, nutrition, or hydration, thus allowing a person to pass away.

All states have statutes on living wills, with varying provisions. For example, in some states, two physicians must certify that the patient’s condition is terminal before life support can be removed pursuant to a living will. Some states provide that a person must be in a coma for seven days before any action is taken to remove life support. Hospitals are a very good source for information on living wills. Another excellent source is Partnership for Caring (, which offers downloadable, state-specific living wills free of charge. The forms are continuously updated and reflect legislative changes in each state. Discussing the living will with close family members is almost as important as the document. Doctors and hospitals are understandably hesitant to withhold life support if the family objects, even if such action is authorized or required by a living will.

Remember that living wills are not just for the elderly. Young people should also execute a living will to clarify their feelings about what care they desire if an unfortunate event or illness strikes.

Durable Power of Attorney for Health Care

A durable power of attorney for health care allows individuals to appoint someone to act on their behalf in making health-care decisions that do not necessarily involve terminating life-support measures. This power of attorney is specifically limited to health care and medically related decisions and is activated anytime a person is unable to make medical decisions. It may be activated if a person is temporarily unconscious, confused, or unable to communicate medical desires. The power of attorney will typically allow the grantee to authorize routine medical tests, scans, or surgery. This document will effectively allow timely permission and consent so that proper care can be given and received.

Individuals must be mentally competent and of sound mind to execute a valid, durable health-care power of attorney. The health-care power of attorney is not, however, invalidated if the grantor becomes mentally incompetent subsequent to its execution. It is therefore very important that elderly persons execute this durable power of attorney while they are mentally alert and have the capacity to grant such a power to another person.

Obviously, an individual executing a health-care power of attorney must have the utmost confidence in the designated person, who is typically a trusted family member. Many states require that this type of power of attorney be witnessed and notarized. Most states will not allow medical personnel or nursing home employees to be named under a health-care power of attorney.

Durable Power of Attorney for Finances

Most estate planning attorneys now recommend that clients also execute a durable power of attorney for finances. This power of attorney allows an individual to designate a representative to handle financial affairs if the grantor becomes unable to fully administer personal affairs. This document provides valuable assistance for someone whose mental state is so diminished she is unable to make wise financial decisions. The powers given can be broad or narrow. Common broad powers include activities such as opening mail, paying everyday expenses, filing and paying taxes, maintaining property, collecting Social Security benefits, investing money, executing bank transactions, filing insurance claims, operating a business, and managing retirement accounts.

A durable power of attorney for finances continues to be valid even if the individual granting the power later becomes incompetent. The grantor must only be competent at the time that the power of attorney is executed. It is imperative that the person given power of attorney for finance be fully trusted. The form will have to be witnessed and notarized, and some states also require that the form be recorded.

If a person fails to execute a durable power of attorney for finances and that person becomes mentally incompetent, a conservator or guardianship will have to be created and overseen by a judge. This process is time-consuming and expensive. A bond may be required, and court approval is often needed to dispose of real estate or to make financial investment decisions.

Katie Hanson, MSA, CPA, is a senior associate accountant at Dixon Hughes, PLLC, in Sanford, N.C.
Randall K. Hanson, JD, LLM, is a professor of business law and LeAnn Luna, PhD, is an assistant professor of accounting, both at the Cameron School of Business, University of North Carolina Wilmington.




















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