Here’s a quick list of some specific disadvantages of relying on intestate succession laws at death:
- There is no opportunity to do any tax planning—distributions are hard-wired in specific amounts to specific people.
- Establishing testamentary trusts is impossible.
- Charities are not included.
- Assets may pass to the wrong people.
- Assets may pass to the right people, but in the wrong way. For example, assets passing to minors are administered by a guardian, but only until the minors reach age 18, when the minors can do with them whatever they please.
- And there is no document nominating a fiduciary to handle the estate or a guardian to take responsibility for any minor children if their other parent has already passed away.
A formal written estate plan is the only solution.
So, the next question is whether it should be implemented just by a will or wills (for a couple) or by a revocable trust plan (a joint revocable trust plan for a couple). Some will say that the revocable trust is the only way to go because it saves taxes. But that would be misleading. Any tax planning a revocable trust can accomplish can also be accomplished with wills. What distinguishes the two approaches is that administering an estate plan implemented with wills requires probate proceedings at both deaths (and perhaps multiple probates if there are out of state assets).
But a revocable trust plan almost always costs more than one relying only on wills. And that may be a significant hurdle for some folks, especially if they are young, have few assets and no children. However, sooner or later, the revocable trust plan will be clearly superior. So, if cost is not a big issue, why not start there?
The primary advantage of using a revocable trust is that the trust assets are non-probate assets. This means that no probate proceeding is required for the plan to be implemented. The successor trustee has full authority to act under the document without any court oversight or approval. Hence, the trustee can hit the ground running and work toward implementing the plan right away. This eliminates significant fees, delays and intrusions into the family’s private affairs.
Keep in mind that the term “estate” for income tax purposes is much narrower in scope than “gross estate” for estate tax purposes. A decedent’s gross estate for estate tax purposes is just a tax concept, meant to include not only the decedent’s probate estate, but also a variety of other assets in which the decedent had some interest or over which he or she exercised some control. The purpose of the gross estate is to define the estate tax base. The probate estate, however, is a legal entity designed to transfer property from the decedent to their intended beneficiaries. Subchapter J is only concerned with the probate estate.
When someone dies, their assets become property of their estate. Any income those assets generate is also part of the estate and may trigger the requirement to file an estate income tax return. Examples of assets that would generate income to the decedent’s estate include savings accounts, CDs, stocks, bonds, mutual funds and rental property. IRC section 6012(a)(3) requires that Form 1041, U.S. Income Tax Return for Estates and Trusts, be filed if the estate generates more than $600 in annual gross income, and (a)(4) requires that a Form 1041 be filed with respect to “every trust having for the taxable year any taxable income, or having gross income of $600 or over, regardless of the amount of taxable income.”
