Probate and the Asset Transfer Process
We have all watched a movie where the reading of the Will is a turning point of the story. In practice, if you have completed the steps outlined in the funding letter of instruction, your Will should have almost no impact on who is to receive your assets. One of the most misunderstood concepts of estate planning is your Will is your last chance to designate who is to receive your assets and only applies to assets that pass-through probate.
Probate is the legal process that occurs after someone passes away or becomes unable to manage their own affairs. In the case of death, probate is the process by which assets are transferred from the deceased’s name to the beneficiaries. Retitling assets through probate can be costly, time-consuming, and lack privacy. One of the primary goals of estate planning is to ensure your assets pass to your intended beneficiaries without going through probate.There are four primary methods for avoiding probate; however, not completely understanding how each approach works can sometimes lead to unintended consequences.
- Establishing and funding a Living Trust.
- Having beneficiary designations on retirement accounts, life insurance policies, and in some cases, investment and bank accounts.
- Having multiple owners of financial accounts and real estate.
- Executing a Lady Bird deed that transfers real estate upon death of the owner.
1. Living Trust
The living trust serves as the primary estate planning tool for the orderly transfer of assets while avoiding probate. The trust’s terms include provisions that most people would associate with a Will including who is to receive the assets (the beneficiaries), when those beneficiaries will receive distributions from the trust’s assets and who will oversee the decision making process (the trustee). By transferring title of your assets to the trust during your lifetime, you enable the trustee to continue to manage the assets upon your disability or death and to distribute assets to the beneficiaries as provided in the document without the involvement of the probate court.
A living trust can be a joint trust created by husband and wife or an individual trust. Unless there are estate tax concerns, or children from a prior marriage, it is common for spouses to create a joint trust. In many ways, a joint trust is like having a joint account. In this scenario, both spouses serve as co-trustees. Upon the death of the second spouse, a successor trustee named in the trust agreement, often a child or multiple children, take over management of the trust.
For a living trust to function as intended, most nonretirement assets such as real estate, investment and bank accounts will need to be retitled in the name of the trust. Failure to complete the funding process is the greatest source of problems that arise after death. If assets are not transferred into the trust prior to death, then probate will not be avoided.
2. Joint Ownership
There are two ways property can be owned in multiple names: Tenants in Common and Joint Tenants with Right of Survivorship. When you die owning an asset as Tenants in Common, your share will pass under the terms of your Will and probate will not be avoided. When an asset is titled Joint Tenants with Right of Survivorship, the last surviving person will be the owner of the asset. The account title will usually include the names and “JTWROS” or “JT Ten.” When property is owned in this manner, whether there is a Will or living trust is irrelevant, as the asset directly passes to the last survivor outside of probate.
It is common for spouses to jointly own bank accounts and investment accounts, especially if they have not created a living trust. When the first spouse dies the jointly owned asset automatically passes to the surviving spouse outside of probate. Problems arise if the surviving spouse does nothing after becoming sole owner. In this case the account would now be owned individually and it will pass through probate upon the death of the second spouse.
As a result, surviving spouses are often encouraged to add a family member to create a joint account so probate will be avoided. The typical situation is where one child, usually the one that helps the parent the most, is added to the account at the suggestion of the bank representative. This practice is discouraged as it can create multiple issues. The child added to the title will become the sole legal owner of the account upon the passing of the parent. This often is not the result desired by the parent. They are just trying to avoid probate. Sometimes the surviving child will rationalize that the deceased parent wanted them to have the assets. After all, they were the person who reminded their siblings it was mom’s birthday and they handled almost all the caregiving responsibilities. If the account was substantial, this arrangement can destroy sibling relationships. In most cases, the surviving child will do the right thing and make gifts to siblings, but this is a potential issue that can easily be avoided by retitling the accounts in the name of the living trust.
For example, mom and dad had $250,000 Certificate of Deposits at three local banks. Upon dad’s death, mom updated her living trust naming her three daughters, Molly, Madeline, and Marcie equal beneficiaries of all her assets. Molly went to each bank with mom to get dad’s name off the accounts but forgot to bring mom’s trust with her to the bank. The banker recommended adding Molly’s name as JTWROS to the accounts. He said the bank would be able to share information with Molly since she was an account holder having Molly’s name on the account would avoid probate. Everything worked out fine until mom died. Madeline and Marcie were shocked to discover that the three bank accounts legally belonged to Molly since she was the last surviving joint tenant. Molly had become uncooperative and unwilling to share the assets since she was the one who took care of mom the last few years. The family dispute could have been totally avoided if instead of adding Molly’s name to the account she had put the CDs in the name of her living trust.
Another reason to avoid adding someone as a joint owner is that it potentially exposes the assets in the account to their creditors. If the joint owner faces financial difficulties or legal issues, creditors may pursue the funds held in the joint account. For example, if the added joint owner is sued, defaults on a loan, or is subject to IRS seizures, the parent’s assets can be put at risk. Again, this potential problem can be avoided by titling accounts in the name of the parent’s trust.
3. Beneficiary Designations
Confirming your beneficiary designations are up to date is one of the most important steps of the estate planning process. The three main assets that transfer through beneficiary designation are retirement accounts (such as IRAs, 401(k)s), annuities and life insurance policies. These assets typically represent a large portion of the deceased’s estate. While the funding letter will outline instructions for naming beneficiaries, the attorney typically does not assist in this process. The challenge is that each retirement account, annuity, life insurance company and employer will have their own beneficiary form and the companies will not communicate with third parties. As a result, you are on your own to make sure this important part of the funding process is completed.
Unless you designate your living trust or estate as beneficiary, the amounts in these accounts and policies will pass totally outside of your estate planning documents. If your estate plan leaves 100% of your assets to your spouse, but you have an old life insurance policy listing your parents as beneficiaries, the insurance company will pay the death benefit to your parents. Understanding how your beneficiary designations can override your estate planning documents is critical to ensuring assets pass as intended.
4. Lady Bird Real Estate Deed
Real estate often represents a significant asset that may be subject to probate. We often see problems when someone purchases a second home and fails to follow the instructions in the funding letter for the titling of the real estate. When you own real estate, an attorney may recommend two different approaches to avoid probate. The first is to transfer the real estate to your living trust. The second is to use a special type of deed known as Lady Bird deed. A Lady Bird deed is a legal document that allows the property owner to retain ownership and control of the property during their lifetime (technically a life estate) but avoid probate upon their death. The owner can use, sell, mortgage, or transfer the property. Upon the owner’s death, the property automatically transfers to the named beneficiaries in the Lady Bird deed without going through probate. Not all states provide for Lady Bird deeds, but they are recognized in Michigan and Florida.
In summary, if your assets are held in your living trust, titled with the right of survivorship, or have a beneficiary designation, then they will pass outside of probate. If an asset is owned individually or does not have a named beneficiary, then your Will controls how it will pass, and probate will not be avoided.
