What is estate planning? Estate planning is a crucial aspect of personal finance involving the organization, management, and distribution of an individual’s assets during their lifetime and upon death. It encompasses a variety of legal and financial tools designed to protect and preserve one’s wealth, ensuring that it is passed down to loved ones or designated beneficiaries in accordance with wishes.
The purpose of this article is to provide an updated understanding of estate planning in early 2023, including the essential components of estate planning and recent developments that may impact your estate planning strategy.
Essential Components of Estate Planning
A will is a legal document that outlines how an individual’s assets should be distributed after their death. It allows the testator (the person creating the will) to designate beneficiaries, appoint an executor to manage the estate, and name guardians for minor children.
A valid will must be in writing, signed by the testator, and witnessed by at least two competent, disinterested individuals. It should clearly identify the testator, beneficiaries, executor, and guardians, if applicable.
It is important to review and update your will regularly, especially when significant life events occur, such as marriage, divorce, the birth of a child, or changes in financial circumstances.
Trusts are legal arrangements that allow a third party, known as a trustee, to hold and manage assets on behalf of one or more beneficiaries. There are various types of trusts, including revocable living trusts, irrevocable trusts, and testamentary trusts, each with its specific purpose and benefits.
Trusts offer several advantages, such as avoiding probate, preserving privacy, minimizing estate taxes, and providing greater control over asset distribution.
Creating a trust typically involves drafting a trust agreement with the help of an estate planning attorney. The trust agreement should detail the terms of the trust, including the assets to be transferred, the trustee’s responsibilities, and the beneficiaries rights.
Find out a lot more about setting up trusts in our comprehensive guide to them, available here.
Durable Power of Attorney
A durable power of attorney is a legal document that grants a designated person (called an agent or attorney-in-fact) the authority to make financial and legal decisions on behalf of the principal (the person granting the authority) in the event of incapacity.
There are different types of powers of attorney, such as general, limited, and springing, which determine the scope and timing of the agent’s authority. It is essential to select a trusted individual to act as an agent, as they will have significant power and responsibility in managing the principal’s affairs.
Advance Healthcare Directives
A living will is a document that specifies an individual’s preferences regarding medical treatment in the event they become terminally ill or permanently unconscious and are unable to communicate their wishes. A healthcare power of attorney designates an agent to make medical decisions on behalf of the principal if they become incapacitated and cannot make those decisions themselves.
In both living wills and healthcare powers of attorney, it is crucial to provide clear and specific instructions to ensure that one’s healthcare preferences are honored and that the designated agent can make informed decisions on the principal’s behalf.
Estate Tax and Planning
Estate taxes are levied on the transfer of an individual’s assets after their death. In the United States, the federal estate tax applies to estates above a certain exemption threshold, which is subject to change over time. As of early 2023, the federal estate tax exemption amount is $12.92 million ($25.84 million per married couple), and the tax rate ranges from 18% to 40%. Some states also impose their own estate or inheritance taxes with varying exemption amounts and rates.
Strategies to Minimize Estate Tax
One way to reduce the value of your taxable estate is to gift assets to your beneficiaries during your lifetime. The annual gift tax exclusion allows individuals to give a certain amount per year (as of early 2023, the exclusion amount is [insert current exclusion amount]) to any number of recipients without incurring gift tax or reducing their lifetime exemption.
Donating assets to qualified charitable organizations can reduce the size of your taxable estate and provide an income tax deduction. Establishing a charitable trust, such as a Charitable Remainder Trust or Charitable Lead Trust, can offer additional estate tax and income tax benefits.
An ILIT is a trust designed to hold a life insurance policy outside of your estate. By transferring ownership of the policy to the ILIT, the policy’s death benefit is not included in your taxable estate, potentially reducing estate tax liability.
Staying Updated on Tax Laws and Regulations
Estate and tax laws are subject to change, and staying informed about the latest developments is essential for effective estate planning. Consult with an estate planning professional to ensure that your estate plan remains compliant with current laws and takes advantage of available tax-saving strategies.
Digital Assets and Estate Planning
In today’s increasingly digital world, it is crucial to include digital assets in your estate plan. Digital assets, such as online bank accounts, social media profiles, email accounts, and digital files, can have financial or sentimental value and should be managed and transferred in accordance with your wishes.
Types of Digital Assets to Consider
When planning for digital assets, consider the following categories:
- Financial accounts: Online banking, investment, and cryptocurrency accounts
- Social media profiles: Facebook, Instagram, Twitter, and other platforms
- Email accounts: Gmail, Yahoo, Outlook, etc.
- Digital files: Photos, videos, documents, and other files stored on computers or cloud services
- Online businesses: E-commerce sites, blogs, and other online income-generating platforms
Strategies for Managing Digital Assets
Creating a digital inventory: Make a comprehensive list of your digital assets, including account names, URLs, usernames, and any other relevant information.
Password management and access: Use a password manager to securely store your passwords and share access with your designated executor or digital asset manager.
Designating a digital executor: Appoint a trusted individual to manage your digital assets after your death. This person should be given clear instructions on how to access and manage your digital assets, as well as how to distribute or delete them in accordance with your wishes. Ensure that your will or trust includes provisions addressing the role and authority of your digital executor.
Choosing an Estate Planning Professional
When creating or updating an estate plan, it is essential to work with qualified professionals who can help ensure that your plan is legally sound and tailored to your specific needs. The following types of professionals can be involved in the estate planning process:
- Estate planning attorneys: These specialized lawyers have expertise in wills, trusts, probate, and other aspects of estate law. They can help draft and review legal documents, provide advice on estate tax strategies, and ensure that your estate plan complies with applicable laws.
- Financial planners: Financial planners can offer guidance on wealth management and asset allocation, as well as help you develop a comprehensive financial plan that aligns with your estate planning goals.
- Certified public accountants (CPAs): CPAs can provide valuable tax advice and assist with tax planning strategies to minimize estate and income tax liabilities.
Factors to Consider When Selecting an Estate Planning Professional
When choosing an estate planning professional, consider the following factors to ensure you select the right expert for your needs:
- Credentials and experience: Look for professionals with relevant qualifications and experience in estate planning. For attorneys, seek those who are members of the state bar association and have specialized training or certifications, such as an LL.M. in Taxation or membership in the American College of Trust and Estate Counsel (ACTEC). For financial planners, look for designations such as Certified Financial Planner (CFP) or Chartered Financial Consultant (ChFC).
- Communication and trust: Effective communication is crucial for a successful estate planning process. Choose a professional who listens carefully to your needs, explains complex concepts in understandable terms, and is responsive to your questions and concerns. Trust is also essential, as you will be sharing sensitive personal and financial information with this individual.
- Fees and cost: Before engaging an estate planning professional, inquire about their fees and billing structure. Costs can vary depending on the complexity of your estate plan and the professional’s level of expertise. Ensure that you understand the fee structure upfront and are comfortable with the cost of their services.
Remember that while cost is an important consideration, it should not be the sole determining factor in selecting a professional. The expertise and quality of service provided by your chosen expert can have a significant impact on the effectiveness of your estate plan and the ultimate preservation of your assets for your beneficiaries.
Regular Reviews and Updates
Estate planning is not a one-time event but an ongoing process. Regularly reviewing and updating your estate plan is essential to ensure that it continues to meet your needs and objectives, as well as remains compliant with current laws and regulations.
Life Events that May Prompt Changes
Significant life events and changes in personal or financial circumstances may necessitate updates to your estate plan. These events can include:
- Marriage or divorce
- Birth or adoption of a child
- Death of a spouse, beneficiary, or executor
- Acquisition or sale of significant assets
- Changes in tax laws and regulations
- Retirement or changes in employment
- Illness or disability affecting you or your loved ones
Frequency of Estate Planning Reviews
As a general rule, it is advisable to review your estate plan every three to five years. However, it is essential to revisit your plan sooner if any significant life events occur or if there are changes in estate or tax laws that may impact your planning strategies.
What is Estate Planning? Our Final Thoughts
Estate planning is a vital aspect of personal finance that enables you to protect, manage, and distribute your assets according to your wishes. By understanding the essential components of estate planning, including wills, trusts, durable powers of attorney, and advanced healthcare directives, you can create a comprehensive plan tailored to your unique needs.
Additionally, addressing estate tax considerations and digital assets in your plan can help ensure a more efficient and effective transfer of wealth to your beneficiaries.
Engaging qualified estate planning professionals, such as estate planning attorneys, financial planners, and CPAs, can provide valuable guidance and expertise throughout the planning process.
Lastly, remember to regularly review and update your estate plan to account for changes in your life and the legal landscape. By taking these steps, you can secure your financial legacy and provide peace of mind for yourself and your loved ones.