The Most Important Differences Between Wills and Estate Planning
It is not uncommon for people to confuse writing a will with estate planning. After all, a will is a legal document that dictates how you want the possessions that make up your estate to be distributed after you die. However, a will is only one of the documents included in a good estate plan.
An estate plan does more than distribute your assets after you die. It provides guidance for your loved ones on how you want your financial affairs and medical care to be handled if you become incapacitated or die. If you have a spouse, minor children, or family members with special needs, your estate plan should provide for their care and financial support after you have gone. Finally, an estate plan minimizes estate taxes and provides a fast, orderly distribution of your assets.
The following sections will explain the difference between a will and estate planning, the role a will plays in estate planning, and what other documents should be included in a well-crafted estate plan. Those documents include wills, living wills and healthcare powers of attorney, financial powers of attorney, and trusts.
What Is an Estate?
Most people know they leave behind an "estate" when they die, but what is included in your estate? At its most basic, your estate consists of everything you own. That consists of the following:
- Checking and savings accounts
- Your home and other real estate
- Your car
- Life insurance
- Your personal possessions
Depending on the state law where you live, some debts may be collected from your estate after you die, which may significantly reduce your estate's value. That means that if your debts are greater than the size of your estate, there will be no assets to distribute in your estate plan. Fortunately, if there is not enough in the estate to repay your debts, your family members usually can't be held responsible for your unpaid bills.
Last Will and Testament
Most estate planning attorneys will tell you that a last will and testament is the foundation of any good estate plan. The document sets out your wishes for distributing your property after you die and who will care for your minor children. The individuals or organizations who will receive your assets under the terms of the will are your “beneficiaries."
Essentially, a will is a set of instructions to be followed by the estate's executor, who is the person responsible for administering your estate. The executor should be someone you trust to carry out the will's instructions and manage your assets until they can be distributed to your beneficiaries. A state probate court usually supervises the executor to ensure that your wishes are carried out.
Each state has its own rules, but a court will usually find a will to be valid if it is signed by someone who is at least 18 years old and understands its contents. The will must also be signed by at least two witnesses over the age of 18. Some states allow for unwitnessed handwritten wills if the document is written by the same hand as the signature.
Living Will and Healthcare Power of Attorney
A living will sets out your wishes for your medical care should you be incapacitated or rendered unable to make your own decisions due to illness. These are sometimes called “advanced medical directives" and usually state your wishes concerning life support or other life-sustaining interventions if you cannot decide for yourself.
A healthcare power of attorney lets you give another person legal authority to make crucial decisions regarding your medical care. In most cases, the named individual is given durable medical power of attorney so that person can continue making those decisions if you have become incapacitated. In most states, it is assumed that a person who has healthcare power of attorney has been granted durable power of attorney, but the estate plan should be clear on this issue.
Financial Power of Attorney
A financial power of attorney allows you to name someone to manage your assets and finances on your behalf. In most cases, the named individual receives durable financial power of attorney that lets them continue making financial decisions if you are incapacitated or too ill to manage your financial affairs. If you cannot make decisions for yourself and have not given someone durable financial power of attorney, a probate court will appoint someone to act on your behalf if you are unable to do so.
Whoever you grant financial power of attorney is legally required to act in your best interests; this includes:
- Managing your finances and assets in an honest and reasonable manner
- Avoiding situations where their interests will conflict with yours
- Keeping detailed records of their actions on your behalf
Married couples often assume they don't need to grant their spouse financial power of attorney because many of their assets are held jointly. However, it is not uncommon for a medical emergency to quickly exhaust the money in the couple's joint bank account, where each spouse has the right to draw funds. Without financial power of attorney, your spouse may be unable to access things like 401(k) accounts held in your name or accounts that require both spouses' signatures. Additionally, some state agencies will require power of attorney to seek benefits on behalf of an incapacitated spouse.
Using Trusts for Estate Planning
While you can establish a trust to hold your assets on behalf of your beneficiaries in your will, many people choose to establish trusts through separate documents. Among other things, creating separate trusts allows its assets to transfer outside of probate and may reduce the inheritance taxes due.
What Is a Trust?
A trust is a fiduciary relationship where one party gives another party (called a "trustee") the right to hold title to assets or property for the benefit of a third party. The person or organization establishing the trust is known as the “grantor." The purpose of the trust is to protect the grantor's assets by moving them to an independent trust entity and provide for them to be distributed to the trust's beneficiaries. The trustee is responsible for acting in the best interests of the beneficiaries and operating the trust in a manner consistent with the trust agreement.
Trusts are often used in estate planning because they reduce the amount of estate tax that must be paid, avoid the time and expense of probate proceedings, and govern the distribution of assets to beneficiaries. Because the federal estate tax is levied based on the size of a person's estate when they die, moving your assets to a trust before you die reduces the size of your estate and the amount of tax that must be paid.
The two types of trust most often used for estate planning purposes are revocable and irrevocable trusts. Both are examined in more detail below.
Revocable Trusts (Living Trusts)
Revocable trusts are often referred to as living trusts because they can be modified or revoked during the grantor's lifetime. The grantor also serves as the revocable trust's initial trustee and has the power to do things like add or remove beneficiaries and change how the assets are managed.
While a revocable trust offers maximum flexibility in estate planning, it does not provide much asset protection. Since the grantor still has the power to add or remove assets from the trust, their creditors can ask a court to have them remove assets from the trust and pass it along to them.
Once the grantor dies, the revocable trust becomes an irrevocable trust.
The terms of an irrevocable trust are set when the trust is initially created. It can't be changed after that point, even if the grantor seeks to do so. The grantor's assets are moved to the trust when it is created, and the assets are no longer considered their property. That means creditors of the grantor and the beneficiaries cannot access any assets held in an irrevocable trust.
When a revocable trust becomes irrevocable upon the grantor's death, the grantor can no longer serve as a trustee. A successor trustee takes over responsibility for managing the trust. If no successor trustee is named, or the named individual is unable to serve, a probate court can appoint someone as trustee. That makes it essential to name a successor trustee when you create a revocable trust if you don't want a stranger administering your assets.
Additional Questions? Contact an Attorney
If you have any questions about what should be included in your will or your estate plan, you should contact a local estate planning lawyer to find the options that will work best for you. An experienced attorney can help you establish a plan that offers protection to your family and any assets you want to pass on to them.
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