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1 Hogan Financial Management Paula H. Hogan CFP, CFA 250 West Coventry Court, #210 Milwaukee, WI (414) Fax (414) We provide comprehensive, fee-only financial planning and portfolio management services for individuals and families. QUARTERLY NOTE Fourth Quarter, 2001 TAXES, AND ILLNESS, AND DEATH, OH MY! When to Go See the Estate Planning Attorney And What to Say When You Get There By Paula H. Hogan CFP, CFA I t is well known that the best way to motivate someone to go see an estate planning attorney is to arrange a trip to a far away place. I found this out myself several years ago when I called our attorney to request an update of our estate plan documents and further inquired about the possibility of a quick turn around time. After a polite pause, the attorney laughed heartily and asked: Where are you going, Paula? The answer, of course, was that I was about to accompany my husband on a business trip to Croatia and neither of us felt comfortable leaving our four young children at home while traveling across the ocean to a newly postcommunist country. There are, however, excellent and more specific reasons for consulting with an estate-planning attorney than exotic travel. Up-to-date estate plan documents maximize the chance that your wishes with respect to both medical and financial affairs will be carried out in the event of your death or disability. Thus, you do not have to be wealthy to benefit from good estate planning; it is sufficient simply to desire that your personal values about both medical and financial matters be honored in the event that death or incapacity prevents you from acting for yourself. In addition, tax minimization is a further and very important goal of estate planning for persons with taxable estates. As of January 1, 2002, an estate is taxable when it exceeds $1 million. In general, your estate includes all of your assets, less all debt, plus death benefits An up-to-date estate plan maximizes the chance that your wishes with respect to both medical and financial affairs will be carried out in the event of your death or disability. from all life insurance policies not held in an irrevocable trust. Thus, for many people, the purchase of life insurance coverage can create a taxable estate. Estate plans typically include a will, Durable Powers of Attorney for both medical and financial matters, and sometimes a Living Will and a revocable trust. In addition, estate plans for Wisconsin residents also commonly include a marital property agreement. Durable Powers allow your named agent(s) to act on your behalf up until your death. The Living Will allows you to document your preferences about medical treatment at the end of your life. The revocable trust, despite a

2 Quarterly Note Fourth Quarter, 2001 Page 2 popular misconception, does not lower taxes of any kind. Instead, its value to you is to provide for a smooth transition to your chosen agent(s) for the management and distribution of your assets in the event of your death or incapacity. A marital property agreement establishes which assets of a married couple will be treated as marital property not individual property with respect to both ownership rights and tax liability issues. Beneficiary designations on retirement accounts and life insurance policies are also considered an integral part of your estate plan since these legal specifications direct how these assets are distributed after your death. Retirement assets and life insurance policies are usually a significant part of one s estate. Consequently, the styling of the associated beneficiary designations is a critically important part of the legal services provided by the estate-planning attorney. In this light, there are many people in addition to worldtravelers who can benefit from consulting with an estate tax attorney, as the following sample list illustrates: Young Adults: If your young adult, e.g. college-age, child is over the age of majority (either 18 or 21 in most states) and becomes incapacitated from a serious injury or illness, then you need Durable Powers of Attorney for medical and financial affairs executed by your child before the incapacity to establish a right to care for your child and the child s finances without having to involve the court system. Similarly, young married persons need adequate legal documents to empower each other or some other named agent to act in the event of incapacity with respect to both medical and financial affairs. Parents of minor children regardless of financial status: Absent a will that specifies who will take care of your minor children and their money if they are orphaned, the court will use general legal provisions and its own best guess to appoint responsible parties to care for your children, to disburse wealth to your heirs, and to manage wealth for any heirs below the age of majority. There is no assurance that the court s decisions will match your own preferences. Parents whose children are growing older: As your children mature, you can allow increasing responsibility to them in the event that they are orphaned. For example, young adult children may not be ready to inherit assets outright, but at some point you might want to encourage their further maturity by arranging that they share responsibility for management of their finances with an adult co-trustee. Couples in non-marital relationships: Well-drafted estate plan documents can empower your non-spouse partner to act for you in the event of your incapacity and to inherit wealth from you to the extent that you desire. Parents in second marriages: Inheritance issues in blended families can be complicated. Estate plan documents can set the record straight by ensuring that your assets are divided between your spouse and children from a prior marriage according to your preferences. Persons concerned with a looming incapacity: A recent difficult medical diagnosis or simply the normal aging process can make one reasonably concerned about arranging for a smooth transition for management of both medical and financial affairs. With adequate legal documents put in place before the incapacity, your family or other named agents can step in to help manage your affairs, without anyone having to trigger a guardianship proceeding through the court system. Persons with estates that are either taxable now or might be taxable in the near future. In 2002, the highest estate tax rate is 50%, making successful tax planning potentially highly profitable. There are numerous tax planning strategies to minimize estate tax liabilities. For your background reference, the estate tax rate and also the amount to which it is applied is scheduled to decrease gradually through 2009, then to disappear for one year in 2010, and then, absent further Congressional action, to snap back to levels set by the 2001 tax law. Political strategists predict that Congress will in fact take some but as yet unknown action between now and The current speculation is that the estate tax will remain in place for at least some estates, e.g. perhaps for estates in excess of some specified amount in the $1-$3 million range. Wealthy persons interested in making tax-efficient gifts to heirs. In addition to estate taxes levied after one s death, the government

3 Quarterly Note Fourth Quarter, 2001 Page 3 levies a gift tax on lifetime gifts or transfers to heirs according to a rate schedule that is integrated with the estate tax. These gift taxes come into play whenever a gift to a single heir exceeds the annual exclusion amount, i.e. the IRS determined amount that each person can give away to individual heirs each year free of gift and estate tax. As of January 2002, the annual exclusion amount is set to $11,000. When a gift exceeds this amount, there is a gift tax return requirement, as well as a potential gift tax liability. In addition, the government also levies a generation skipping tax on taxable transfers made either before or after death to heirs who are more than one generation away from the donor. These gift and generation skipping taxes are currently comparable in amount to estate taxes and so are worthy of tax planning attention. Helping clients to address these special concerns is a key responsibility of the estate tax attorney. For example, one common planning technique to minimize gift tax liability is to make good use of special provisions in the law, e.g. the provision that states that in addition to the annual exclusion amount, taxpayers can make unlimited gifts for education and medical expenses if the gifts are paid directly to the provider. Such gifts include for example, the payment of a grandchild s tuition by a grandparent if paid directly to the school, and the payment of a parent s long term care insurance premium by an adult child if paid directly to the insurance company. A major part of the estate-planning attorney s responsibility is to match knowledge of such provisions in the tax code with a thorough understanding of the client s goals and circumstances. Wealthy persons with charitable intent: Our tax law supports charitable giving by offering numerous income and estate tax breaks to donors. As a person s wealth grows, the potential planning strategies for tax-efficient charitable giving also increases. Detailed knowledge of these sophisticated gift-giving strategies is a given when working with an experienced estate-planning attorney. Someone who has just moved from one state to another. States levy their own estate taxes, and so a move from one state to another can trigger a need to update estate plan documents. In particular, states differ in whether they are community property states. Wisconsin for example is a community property state, but Illinois is not. (In community property states, after the death of the first spouse, there is a difference in tax treatment of assets owned by the couple with respect to capital gains taxation depending on whether the asset is deemed to be community property. Determining which property is community property and working to recharacterize assets if appropriate can be an important part of the estate tax planning process.) Persons newly divorced or newly separated: In the context of a dissolving or a dissolved marriage, there is usually at least a change in preferences with respect to how assets are allocated to heirs. When you consult with an estate-planning attorney, the attorney considers five big questions: 1. How does this person want assets distributed to heirs, that is, including, who should receive what, under what terms, and when? 2. In light of the above, what taxes might this person s estate be liable for and are there tax-minimization strategies that would be appropriate and appealing for this client? 3. What are this person s preferences and values with respect to the management of medical and financial affairs in the event of incapacity? 4. What particular circumstances of this client affect the estate plan? For example, if the client is not a citizen, then certain provisions of our tax code do not apply. There may also be complicating family issues, e.g. children from a prior marriage, a disabled child, an unresolved family dispute, major charitable intentions, potential creditor problems, or a probable large inheritance to consider, in addition to the need to establish the presence or absence of community property. 5. What provisions are necessary to make the estate plan as flexible as is appropriate? Documents are fixed in nature but life is ever changing. Excellent estate planning recognizes this fact by including reasonable provision for changing circumstances, including for example the ability of an heir to disclaim or in essence to step away from an inheritance in favor

4 Quarterly Note Fourth Quarter, 2001 Page 4 of the next heir in line, or the ability of an estate executor to withhold funds from an heir deemed incompetent, or the ability of the executor to decide whether or not to fund i.e. to fill up a trust with assets. In contrast, flexibility is deliberately not incorporated into an estate plan when the client s preferences are firm. For example, a surviving spouse may be given the use of assets for his or her lifetime but after the death of the surviving spouse, assets are designated to pass to the client s children with no possibility of redirection to other parties. Or, a child s inheritance might be made contingent on the child having some accomplishment that is highly valued by the parent, e.g. earned income or a college degree. To answer these five questions your attorney needs full and accurate information about you including: Demographic Information: spouses, children, date of residency in the state, date of marriage(s), country of citizenship, whether you have previously made taxable gifts and if you are a beneficiary or a trustee of an existing trust Financial Information: a detailed list of what you own and owe, life insurance policies on your life, business interests, and how each asset is currently titled Personal Circumstances: special issues for the attorney to consider, e.g. potential inheritances, creditor problems, a strong desire to give gifts, potential family disputes, medical concerns, or any uncertainty that you may have about your estate plan Preferences: for end of life medical care, and for how your wealth will be distributed to heirs, and for how much planning you are interested in doing to minimize taxes After considering this information, the attorney might recommend any of a large number of possible strategies for you to consider. A brief introductory list of some standard planning tools include: an irrevocable life insurance trust which removes death benefits from the estate and so from estate taxation a revocable trust in particular for persons aiming to ensure a smooth transition to named agents in the event of disability, or for persons who own real estate in two states and want to avoid having a postmortem estate settlement process in each state, or for persons whose heirs have potential creditor, liability, or marital concerns any number of specialized charitable trusts for persons with taxable estates and charitable intent a credit shelter (or family trust ) for married couples wanting to ensure full use for each of them of their exemption equivalent, i.e. the amount that each person can pass to heirs free of estate tax, set as of January 2002 to the level of $1 million How to be a good client Be Organized. Attorneys need to consider a large amount of information in a short time, and they sell time and attention. Be accurate. Be concise. Don t postpone meeting with your attorney because you think you have an irresolvable issue. No one expects that you have answers for any special issue that may be on your mind, just that you are up front and clear about how you see the issue. In fact, the attorney s role is to present a spectrum of possible planning solutions for you to consider and even to help you develop an interim planning strategy if a permanent solution seems inappropriate. Remember that what to you is a new and difficult problem may be a planning challenge that the attorney has encountered several times before. Let your attorney be a resource to you. Ask questions if you do not understand what the attorney is saying. Estate planning ideas can be elusive, but strive for a layman s working knowledge of the material presented for your consideration. It is also appropriate and expected for you to ask about the attorney s fee for any legal service you are considering. Authorize your attorney to work with your other advisors. A team effort by your advisors to pool information and to exchange planning insights will often produce a better plan for you. A typical team includes your attorney, accountant, financial planner, and sometimes your life insurance agent. You can either quarterback this team yourself, or, and often preferably, consider asking one of the advisors to coordinate the team on your behalf. Carefully review draft legal documents and the estate plan summary information provided by your attorney. You are not

5 Quarterly Note Fourth Quarter, 2001 Page 5 reviewing for accuracy of legal terminology, but rather to confirm that your agreed-upon preferences are accurately reflected. Follow directions with respect to beneficiary designations and asset titles and whether or not to establish and fund a revocable trust OR ask your attorney to take care of these details for you. Stay in touch. Like good clients, good attorneys are looking for agreeable long-term relationships, so keeping in touch is an important issue. In the perfect world, the attorney would have your estate plan in the law firm s database cataloged with respect to each important characteristic so that when a new law or planning idea arises, the attorney would automatically call you. In the real world, the attorney works with hundreds of clients each year and, except in unusual cases, does not track each client by type of estate plan and so will probably not call you when a change in law applies to you. The attorney also has no information about changes in your personal circumstances unless you tell him. Expect to update your estate plan documents whenever there is a change in your life or in tax law or typically at least about every three years. It is reasonable and expected for you to call the attorney to inquire if a particular circumstance warrants your making an appointment for an estate plan update. Consider some important personal decisions before meeting with your attorney. You will be better prepared to ask questions and to discuss alternatives about the following important and highly personal decisions if you consider them before meeting with your attorney: Whom would you ask to speak for you if a medical condition prevented you from indicating your own preferences about medical care? Who would be your second choice? What would be your preferences for care if a medical condition placed you in a persistent vegetative state? If you would choose to have life support procedures withheld, do you want family members to be responsible for the decision to remove life support measures? Or would you prefer to specify the conditions under which your medical care providers would remove life support procedures? Do you have preferences about your medical care that you wish to document now? Whom would you ask to act for you if you were unable to carry on your financial affairs? Who would be your second choice? If you die before your spouse, would you give your spouse full discretion over your assets? Would your spouse need assistance in managing finances? Are you concerned about the consequences of your spouse re-marrying? Do you prefer to keep ownership of an inheritance that you might receive or would inheritances be shared with your spouse? How strongly do you feel about minimizing taxes? Who will take care of your minor children? Who would be your second choice? Who would take care of your minor children's inheritance? Who would be your second choice? Do you want children to have equal shares of your estate? Do you want children's funds pooled together or maintained separately? At what point would you give heirs full control of an inheritance? Would your heirs need help in managing an inheritance? Are you concerned about protecting inheritances from the spouses or creditors of your heirs? Do your heirs have any liability concerns because of their occupation or hobbies? How would you divide your estate between children from a prior marriage and your spouse and/or children from a current marriage? Do you wish to designate some portion of your estate for charitable purposes? Are you interested in donating any part of your body for medical purposes? With this information as background, I hope it is more likely that you will establish an agreeable long-term relationship with an estate-planning attorney and that you will maintain an estate plan that accurately reflects your values. Keeping your estate plan current is one of the best gifts that you can give to your heirs. Paula H. Hogan CFP, CFA

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