When it comes to wills, as a financial planner, I’ve seen a lot of sad, unfortunate or just plain weird things happen over the years. Poor estate documents can lead to people accidentally cutting loved ones out of inheritances, paying big tax bills unnecessarily and saddling families with expensive, head-scratching legal battles.
Here are 5 mistakes — from the obvious to the obscure — people tend to make when planning their estates:
1. Beneficiary blunders: Not naming a contingent beneficiary on retirement accounts and insurance policies — or failing to review beneficiaries often enough — is my clients’ No. 1 mistake. The default if no contingent is picked is likely your estate, which may be subject to probate, creditors, delays etc. No contingent beneficiary on an IRA means NO stretch IRA — a valuable tax break that enables someone who inherits an IRA to draw out distributions over his or her own life expectancy — if your original beneficiary has died. Only a person with a life expectancy can do a stretch. An estate has no life expectancy, therefore, no stretch to minimize taxes and potentially receive significantly more income over your beneficiary’s lifetime. (Note: The Secure Act, if it goes into effect, will eliminate the ability to stretch past 10 years for nonspouse beneficiaries.)
Forgetting to change an ex-spouse on an IRA can have unfavorable consequences for your new spouse or family. (Note, in a retirement plan your new spouse becomes your beneficiary the day you get married, but not in an IRA.) If you don’t want your current spouse to be the beneficiary of your retirement plan, then they must agree to you naming someone else. And no, your pre-nuptial agreement doesn’t matter in this case, because only a spouse can waive those rights, and a fiancée isn’t a spouse yet.
2. "Selling" property for $1: This was popular years ago in areas that saw very rapid land appreciation. For example, when my grandfather moved to Avalon, he paid almost nothing for his bayfront properties. Today those lots would sell for millions of dollars. The theory was that you could sell it for a very low price and not have to pay taxes on the gain and remove it from your estate. You can sell property for whatever you want but:
• The IRS will deem it a gift if it is less than market value, and
• Your heirs will lose the “step up” in value.
Here is an example: If I inherit a property worth $1 million and sell it for $1 million I may pay no tax. But if I “buy” it for $1 and sell it for $1 million, I pay tax on the $999,999 gain!
3. Naming specific investments in your will: Specific bequests are handled first, and the person who died might not even own that investment anymore. His estate might be required to purchase the investment at a much higher price, which could hurt all of his other beneficiaries. Here’s a great example: We had a client who left shares of a particular stock, which at the time of writing the will was worth $10,000, to a grandchild. Since the will was written 30 years earlier, the same number of shares was worth $600,000 at his death, and he didn’t own them anymore. His estate would have to go buy those shares and give them to the grandchild. This used up virtually all of the assets of the estate, and the remaining beneficiaries got very few assets.
4. Not having a residuary clause: A residuary clause deals with everything you didn’t specifically name in your will, forgot to put in your will, trust etc., things you don’t yet own but will before your death, and things you might not know you own. This happens more than you think! Here’s an example from my own personal experience. My family went to sell a property and found out there was a 4-foot by 25-foot strip of land that was part of the property but wasn't owned by us. When we asked the owner to sell it, he never even knew he owned it.
5. Leaving assets directly to a minor without assigning a custodian: Who will handle the money for them? Define “for their benefit.” Does a new Escalade count because the kids won’t fit in my Honda Civic? That phrase welcomes a whole host of potentially abusive interpretations.
Be sure to read next week’s column, which will cover 5 more mistakes. In the meantime, consider contacting a qualified estate-planning attorney to review your situation. Feel free to reach out if you need a recommendation!
T. Eric Reich, CIMA, CFP, CLU, ChFC is president and founder of Reich Asset Management and can be reached at 609-486-5073 or firstname.lastname@example.org.
Securities offered through Kestra Investment Services, LLC (Kestra IS), member FINRA/SIPC. Investment advisory services offered through Kestra Advisory Services, LLC (Kestra AS), an affiliate of Kestra IS. Reich Asset Management, LLC is not affiliated with Kestra IS or Kestra AS. The opinions expressed in this commentary are those of the author and may not necessarily reflect those held by Kestra Investment Services, LLC or Kestra Advisory Services, LLC. This is for general information only and is not intended to provide specific investment advice or recommendations for any individual. It is suggested that you consult your financial professional, attorney, or tax adviser with regard to your individual situation.