Estate Planning: A holistic Approach

DIFFERENTIATING BETWEEN PROBATE and non-probate assets is critical. The easiest way to understand the difference is to determine if the property, through its titling or beneficiary designation, directs the distribution of the asset to its beneficiaries at the time of the owner’s death. Common probate properties include real property owned outright or as a tenancy-in-common, nonqualified bank or brokerage accounts not held in joint-tenancy, interest in corporations and otherlegal entities, jewelry and automobiles. Common non-probate assets include real property held jointly; life insurance (unless the decedent’s estate is the beneficiary); qualified retirement accounts such as IRAs, Keoghs, profit-sharing plans, pension plans and 401(k) plans; bank or brokerage accounts with a named beneficiary on the account; and beneficial interests in a trust account expiring at death.

Probate and non-probate assets together comprise the gross taxable estate. As noted last month, the estate planning team should prepare an overall analysis of all assets to increase the odds the ultimate distribution will match the client’s intent. A substantial portion of a client’s estate could be non-probate assets and be distributed to beneficiaries outside of the will. Accordingly, not having an accurate accounting of all assets may have negative effects on what may have been an excellent plan at the time of implementation. A detailed understanding of probate versus non-probate assets dovetails with a well-contemplated estate tax allocation provision in the client’s will.

For some clients, the estate tax allocation provision is the most important or the most complicated provision in the will. For clarity, reference here to a “will” includes any dispositive document that is a so-called will substitute, such as a revocable trust. It is imperative, therefore, the attorney communicates with the client about the flow of assets and estate tax consequences, and perhaps income and generation-skipping transfer taxes as well. Sometimes, however, attorneys who might spend considerable time discussing transfer taxes and how to reduce them will choose an estate tax allocation clause without conferring with the client. Even where tax apportionment is discussed, drafting oversights or mistakes can lead to negative results.

The estate planning team and the client need to first consider if all estate taxes, including those resulting from non-probate assets, should be paid from the residuary estate or if beneficiaries of non-probate assets and specific (pre-residuary) bequests should pay their share of estate taxes. Generally, the client’s intent is that beneficiaries of personal property and specific bequests receive such assets in their entirety without being reduced by estate taxes.

Additionally, where a client names both charitable and noncharitable beneficiaries of the residuary estate, the intent is for only the non-charitable beneficiaries to pay estate taxes.

If the attorney does not address estate tax apportionment, drafts the provision improperly or fails to consider all the taxable estate’s assets, it is possible the attorneyinstead of the client determines the dispositive plan. There is no significance to a lack of an estate tax allocation provision or having an incorrect one if a decedent’s estate is not taxable or if the beneficiaries of probate and nonprobate assets are the same and share in the same percentages.

Much as a person who dies intestate is given an estate plan by applicable state law, so, too, with estate tax allocation clauses. If a decedent’s will lacks one, state law provides a plan, and the tax follows the asset. More often than not this results in the most equitable outcome, as compared with the residue of the probate estate paying the entire tax bill; however, it may not be what the client desires. The bottom line is every client with an estate subject to estate taxes should have and is entitled to an estate tax allocation provision that makes sense for the client and results in accomplishing his or her goals.