When a person dies, someone must step in to wind up the deceased person’s financial affairs. You don’t want it to be on the courts-that’s called “probate”. Probate can drag on many months and squander many of those hard-earned assets.
Here’s some good news: you can avoid probate. From the simple to the complex, following are five common techniques to avoid probate:
Name a Beneficiary for Your Retirement Account
You can choose a beneficiary to inherit money remaining in a 401(k) plan, IRA or Keogh. Although you’re required to withdraw some of these funds after you reach the age of 70, many people die with money remaining in a plan.
The process of naming a beneficiary for any leftover funds is relatively easy. However, if you leave this money to a young person, make sure you name a proper guardian. The same holds true for all pay-on-death designations.
Protect Property in Joint Tenancy
Joint tenancy operates in the following manner: When a co-owner dies, the surviving owner automatically inherits the deceased owner’s shares-the right of survivorship. Many states have a similar type of ownership-tenancy by the entirety -accessible only to married couples. Other states have what is called “community property with the right of survivorship”, another ownership variety for married couples, which also includes the probate-avoidance benefit of joint tenancy.
Each state has different requirements for establishing joint tenancy. Usually, the ownership document-the deed to a house, for example- must explicitly state that the property is held in joint tenancy. Some states even require that it clearly state the owner's intention that there be a right of survivorship. A few states have their own quirky laws. Alaska, for example, stipulates that only married couples can own real estate in joint tenancy. In Texas joint tenancy is allowed unless the owners develop a separate agreement on it.
Joint tenancy works best for people who buy property together and want the survivor to inherit the property. It's generally not wise, however, to transfer property you own be yourself into joint tenancy just to avoid probate. The new joint co-owner could sell his or her share, or borrow against it-and you can't take back your gift. Plus, gift taxes will usually be assessed if you transfer property worth more than $10,000 into joint tenancy with another person. Also, complex federal tax rules can result in heavy burdens on the joint tenant when you die.
Select a Pay-on-Death Beneficiary
Naming a pay-on-death designation, is an easy way to avoid probate for government bonds, bank accounts, and in some states, stocks, and other securities. Simply use the form provided by your bank or stockbroker to name a beneficiary to inherit the property. While you’re alive, you maintain full control over your property-you can always sell your stocks, close your bank accounts, or even change your pay-on-death beneficiary. When you die, your property goes to the person you named as the pay-on-death designation-free of probate.
If you want to use a pay-on-death designation to leave property to a young child, you should arrange for someone to manage it until the child turns 18. The law requires that an adult manage property inherited by minors until they reach the age of majority. You do this by naming a property guardian in your will. Another option is putting the property into a living trust that appoints someone to manage the assets for the young person.
The Art of "Gifting"
Obviously, money or property that you've given away during your life won't go into probate. Because probate costs are generally proportional to the estate's value, a smaller estate can save money in probate while benefiting other during your lifetime. If you have an estate worth more than $2 million (the estate tax threshold), you can cut your eventual estate taxes through gifts. Gifts up to $11,000 per person each year are not taxed. A regular gift-giving program allows people with large estates to save money now in taxes while avoiding probate in the afterlife.
The Living Trust
The revocable living trust is the most popular anti-probate tool. With it you can entirely avoid probate. It works like this: like a will, the trust is a legal document that specifies what happens to your property when you die. Key differences are that the trust must actually own the property, and trust property never has to go through probate. You don’t lose control of your property either-while alive, you retain all control over property in a living trust-that’s why they call it “living”.
The only disadvantage of a living trust is that it can be complicated to set up, depending on your asset profile. You might want to wait until later in life, or until you have enough property to justify establishing a living trust.
Probate and Life Insurance
Another way to avoid probate is to buy a life insurance policy and then designate a specific beneficiary. When you die, the proceeds of the policy won’t go through probate. However, be careful: life insurance is often bought unnecessarily by people who don’t really need it. On the other hand, life insurance is a smart investment for parents who seek a way to provide for their children on the event of untimely demise.
Final Thoughts
If you're considering estate planning, an attorney can sit down with you and evaluate your total financial profile, recommending the best solutions to avoiding probate and reducing taxes now and later. Frequently, people do not know their estates are over $2 million in value, but when they start adding everything up they own-everything-many of them suddenly realize the wisdom of avoiding probate.