Questions with Guided Answers by Robert Monahan and Michael Perkins 2013 Reed International Books Australia Pty Limited trading as LexisNexis Permission to download and make copies for classroom use is granted. Reproducing or distributing any material from this website for any other purpose requires written permission from the Publisher. CHAPTER 19: Estate Planning Core Principles and Practice 1 What are the initial nine practices the estate planner needs to follow to deliver the estate planning engagement? The nine practices in delivering the estate planning engagement are: 1 Identify the client s objectives, needs and values that have estate planning implications. 2 Identify information required for the estate plan. 3 Identify the client s legal issues and any other issues outside the core competence of the financial planner that affect the estate plan and create sub-plans to address those issues. 4 Determine the client s attributes and level of financial, social and business sophistication. 5 Identify material changes in the client s personal and financial situation of concern to the client. 6 Prepare information to enable analysis. 7 Conduct analysis and synthesise solutions. 8 Present solutions and assist clients to evaluate choices, assisted by other professionals as needed. 9 Once the client decides on the estate administration plan, the adviser supports the implementation and review of the plan or as appropriate to the case. 2 How can individuals control their wealth? Individuals control their wealth either directly through their direct personal ownership or through intermediate structures or arrangements such as companies, trusts, partnerships, joint ventures or other comparable enterprises. Estate Asset Testamentary asset; eg, solelyowned asset Non-testamentary asset Likely Decision-maker Will maker Legal owner of property; eg, company or trustee Likely Governing Document Will Governing document of estate structure Financial Planning in Australia 5e Questions: Ch19 Page 1
Jointly-owned asset Surviving joint owner Surviving joint owner s will Tenants in common asset ownership Life, TPD, trauma or other insurance Superannuation/Allocated Pension/ Self-managed Superannuation Fund (binding nomination) Superannuation/Allocated Pension (no binding nomination) Self-managed Superannuation Fund (no binding nomination) Will maker Policy owner or nominated beneficiary Fund member Fund trustee Surviving member(s), in conjunction with executor Family trust Trustee or directors of trustee company Will Insurance policy Nomination Trust deed or terms of annuity Trust deed Trust deed 3 One of the prime objectives of the client is to protect assets. Why do assets require protection? Estate planning generally responds to risks perceived by the client that are believed to be of significance. These risks include: financial creditors including the trustee in bankruptcy; beneficiaries financial creditors (including the trustee in bankruptcy); increasingly, the former spouses of both estate planners and beneficiaries; disgruntled family members of the client, who might attempt to overthrow the estate administration arrangements; beneficiaries themselves for example, spendthrift or otherwise vulnerable beneficiaries such as those with intellectual disability. In addition, clients are increasingly seeking to assure their financial resources are structured to assure their long-term benefit to collective family or community interests. If long-term endurance of capital is to be assured, it is necessary to establish a form of collective ownership and benefit for that capital. Trusts and companies are two common forms of estate structure that are used to establish family collective wealth-management enterprises. It is in the establishment of collective asset ownership structures that capital is taken out of personal ownership and the risks of such ownership and placed in a form of ownership that will not be adversely affected by the death or disability of a family member. Such collective capital ownership structures carry operational and governance risks. Clients assess that these risks are of less concern than the life risks the assets would be subject to whilst remaining in personal ownership. The motivation for estate Financial Planning in Australia 5e Questions: Ch19 Page 2
structuring is therefore centred on the accountability of a person to their family, and responds to the client s objectives for: family legacy; family continuity and governance; philanthropic legacy; financial security; wealth preservation and enhancement; business continuity and wealth extraction. Establishing effective family governance processes remains a key requirement for meeting family wealth and continuity objectives. Neither solvency nor tax forms any substantial motivator for estate planning and asset protection in this service approach. However, clients and their professional advisers should implement estate planning structures mindful that, in the future, legislation will change and it is not possible to know in advance whether such changes will be detrimental to the client s planning. A case in point is the look through provisions which now go beyond the veil of ownership of assets via trust structures in regard to family law property-settlement matters and Centrelink pension eligibility. 4 What is a will and why is it necessary to have an up-to-date will? What is a will? In very basic terms, a will is a legal document in which a person chooses the controller of his or her testamentary estate (by selecting an executor) and sets out how and to whom his or her assets are to be distributed after death. Gifts can be made either directly to beneficiaries on terms and conditions set out in the will or through trusts of various terms that can be established by operation of the will. A will is in effect the rule book that governs such of a person s property as comes into the hands of the executor after they die. It has to establish a set of rules that will be appropriate if the client dies tomorrow and yet, as best as the lawyer is able, the will should also be established with sufficient flexibility to remain appropriate against a client s changing circumstances. It is necessary to review the ongoing appropriateness of the will whenever there is a change in the client s circumstances or sentiments. This can be done in the course of normal periodic reviews of the client s affairs in which the assumptions which underlie a will are tested with questions such as: Has anyone in your family died? Has anyone in your family become disabled or seriously ill? Have you retired? Are you planning to retire in the foreseeable future? Are you likely to receive any inheritances in the foreseeable future? Financial Planning in Australia 5e Questions: Ch19 Page 3
Have you developed connections with jurisdictions outside Australia since you made your last will? Have you acquired or disposed of any substantial property or collectables? Has anyone named in the will married, started a domestic relationship or moved overseas? Has/Is any of your beneficiaries endured/ing a relationship breakdown? Have any of your beneficiaries encountered financial difficulties? If yes, are they likely to/have be(en) declared bankrupt? Have any beneficiaries developed diminished capacity? Do the range of beneficiaries in your will remain appropriate? Do any direct gifts in your will remain appropriate? It is helpful in understanding wills to remember that a deceased estate is considered by the law to be a trust; the trustee is the person s nominated executor, and the beneficiaries are the nominated beneficiaries under the will. The manner in which the deceased estate is to be administered and the powers that the executors have are set out in the terms of the will. Each state and territory has also enacted legislation governing trustees that confers powers on the executors and trustees. Why is it necessary to have an up-to-date will? a Ease of administration of assets If a person dies without a will, they are said to have died intestate. Where there is no will or where a will is deemed to be invalid, the deceased s family members must apply for letters of administration from the court. No-one can deal with the deceased s estate assets until such time as letters have been granted. This is in contrast to an executor appointed under a valid will, who can act immediately. Generally speaking, an application for letters of administration can be more timeconsuming than an application for a grant of probate of a will. It can therefore be more difficult for a person s family members to deal with that person s estate if they do not have a will. b Choice of executors Under a valid will, a person is able to nominate the most appropriate person or organisation (eg, a public trustee company or firm of advisors) to act as executor. An executor is responsible for ensuring that the will and estate assets are duly administered. In some cases, estates can continue for quite some time (eg, where there are minor beneficiaries or other ongoing trusts such as life interests 1 ). Where this is the case, the nominated executors are also responsible for managing and investing the estate assets. A person s executor can also play a crucial role in the control and administration of non-estate assets. Many trust deeds establishing discretionary trusts provide that an appointor s legal personal representative (ie, executor or administrator) will become the appointor of 1 A life interest can, for example, relate to a home wherein the deceased has granted his or her survivor the right to live in what was the deceased s family home until such time as the survivor dies. This entitlement is common in wills for people in second marriages where one person owns the home, having received it, for example, as a joint tenant from a deceased first spouse. Financial Planning in Australia 5e Questions: Ch19 Page 4
the trust on the appointor s death if no other succession arrangements have been made. More importantly for many people, a person s legal personal representative stands in his or her shoes as trustee or shareholder of the trustee company of that person s self-managed superannuation fund: s 17A(3) of the Superannuation Industry (Supervision) Act 1993. If a person does not have a valid and (most importantly) up-to-date will, they forgo their choice of executor. Upon their death it becomes open to family members to apply to the court to be appointed administrator over the estate. In the many complexities of modern families, the results of leaving this issue uncertain could be disastrous. The resulting uncertainty could lead to an inappropriate person obtaining control of assets and, at worst, result in lengthy and expensive disputes. c Establishment of protective mechanisms If a person dies intestate, whilst assets will be distributed amongst their family members, the person will have no control over the manner in which the family members inherit. In such circumstances, beneficiaries will inherit upon attaining 18 years of age in their personal names. This might be the least appropriate way for them to receive assets, due to taxation issues, for example. Further, it is possible that someone receiving an inheritance at such an age will not necessarily make appropriate decisions on using the capital. There is an argument to suggest that, by making a will and having young beneficiaries receive their estate entitlement at age 25, it increases the likelihood of the inheritance being used more appropriately. 5 What is a testamentary trust and what are the types of testamentary trusts? When would it be inappropriate to establish a testamentary trust? Testamentary trusts are an alternative to making direct gifts under the will. A testamentary trust s purpose is to administer defined property that comes into the estate in accordance with specific rules established by a will maker. Testamentary trusts can therefore be defined as trusts that are: established by a will; funded by: the assets of a deceased estate; or by payments to the estate in consequence of death eg, superannuation, death benefits or insurance proceeds paid to a deceased estate rather than directly to dependants or nominated beneficiaries; and to be administered by the executor of the estate or a trustee appointed in accordance with the will and subject to the terms of the will. Financial Planning in Australia 5e Questions: Ch19 Page 5
Types of testamentary trusts Testamentary trusts can be divided into several main categories, ranging from very restricted trusts designed to protect a vulnerable beneficiary to the fully discretionary trusts that have received publicity in financial planning circles because of their flexibility, asset protection attributes and income tax advantages. Fixed and non-fixed trusts Section 272-65 of Schedule 2F of the Income Tax Assessment Act 1936 ( ITAA 1936 ) distinguishes between trusts that are fixed and those that are non-fixed for the purposes of determining the manner in which trust losses are treated for tax purposes. Generally speaking, fixed trusts are trusts in which all income and capital entitlements are fixed for the benefit of individual beneficiaries (eg, a unit trust in which only ordinary units can be issued, and only individuals as opposed to other trusts hold the units). Non-fixed trusts, in contrast, are trusts in which the trustee has some discretion as to which beneficiaries might receive income or capital (eg, a discretionary family trust). It appears that the government might extend the operation of this distinction in future reform of the taxation of trusts. This is therefore probably an appropriate method of classifying testamentary (and indeed other types of) trusts. Testamentary trusts include: Trusts conditional on a condition being met for example: 'I give $200,000 to my trustee on trust to pay that amount to my nephew John when he reaches the age of 25 years.' Trusts for a defined purpose for example, charitable, use of a property for accommodation, protective trusts, maintenance trusts, education trusts. Fully discretionary trusts these are used when a will maker wants to establish a multi-generational wealth-management structure through their will. When would it be inappropriate to establish a testamentary trust? In all estate planning situations, a key aspect of determining appropriate recommendations is to consider the costs versus benefits. In this regard, the costs of professional advice and services at establishment and the ongoing taxation, accounting and legal functions should be measured against the benefits sought. In most situations, it really is a cost benefit analysis, with it often being uneconomical to establish a complex testamentary trust if the expected value of an estate is modest. The term modest is of course open to interpretation; however, an estate of several hundred thousand dollars or less would possibly not derive sufficient financial benefits to warrant it being dealt with via a testamentary trust. Financial Planning in Australia 5e Questions: Ch19 Page 6
In addition, estates with a small number of beneficiaries might not warrant the cost and complexity of a testamentary trust. Parents with only one child, with whom they have no concerns re bankruptcy, relationship breakdowns and so on, might benefit from a standard will; however, they should still seek the advice of a solicitor in making their wills. What assets can be managed after death outside a will? Assets not in the legal ownership of a person when they die. For example, clients can hold assets in both superannuation and discretionary trusts that can be managed after death outside a will. Superannuation, in particular, is becoming the major repository of wealth in Australia and, if properly dealt with, offers several tax and asset protection opportunities for your client. Discretionary trusts formed during a client s lifetime can also offer the capacity for assets to be managed after death outside a will. At law, the trustee of a lifetime discretionary trust is the legal owner of the estate s assets and this might not be the deceased. The trustee could be, for example, a corporate entity (a company) of which the deceased was a director. In that situation, the deceased s executor would assume the role of director of the trustee company. 7 In general, discuss the ways death benefits can be paid by superannuation funds. Death benefits must be paid to either the spouse of a member, their estate or to death benefit dependants recognised for superannuation law purposes. Whether or not a particular fund trustee can pay death benefits will depend upon the terms of the relevant superannuation fund deed. For example, some self-managed fund deeds only permit payment of benefits to a member s estate if there are no surviving superannuation dependants, and many funds do not offer death benefits in pension form. The payment of death benefits may also be regulated by beneficiary nominations made by the member to the extent permitted by the SIS law and the trust deed. 8 What is a power of attorney and why is it important? Powers of attorney are the means by which a person appoints a representative(s) to act on his or her behalf in regard to their financial interests while they are alive and in good mental health. A person cannot appoint an attorney (under power of attorney) if he/she has been diagnosed as being of unsound mind. They are focused on legal, business and financial decision-making. Health and lifestyle management are normally subject to separate forms of guardianship or medical treatment directives. Financial Planning in Australia 5e Questions: Ch19 Page 7
As clients have to deal with the consequences of their incapacity or absence from the jurisdiction or inability to act, powers of attorney are the means to implement and facilitate continuity planning for estate administration while a person is alive. Powers of attorney are therefore important means of ensuring that decisions can be made at times when it is impractical or inconvenient for the person (or entity) granting the power of attorney to be making those decisions. Under the terms of a power of attorney, the grantor of the power appoints a representative to be their attorney and gives the attorney the authority to act on the grantor s behalf within the limitations applying to the particular type of power of attorney. Usually there is no requirement for the attorney to obtain the grantor s specific prior or subsequent approval or endorsement for any acts or decisions taken, as the act of granting a power of attorney creates a legal agency between the donor of the power and the attorney. An attorney normally has the power to act independently of the donor, subject to the terms of the document, if such action is within the scope of authority granted by the power of attorney. Powers of attorney may be made for limited purposes or durations. They may also be made in broad terms for long-term personal care and representation issues. In either case, they can also be specified to operate in the event the donor of the power loses the capacity to direct their affairs; this is called an enduring power of attorney. Key choices clients have to make in establishing powers of attorney include: Who do you trust to manage your affairs in your interests, notwithstanding you may not be able to observe or control them? Should the power of attorney be for a limited period or be subject to conditions? What should happen if the attorney loses capacity or the ability to act? What if the attorney is unable to act for some reason? Do you wish to consider appointing a reserve attorney(s)? Are you satisfied the attorney will act when necessary? Powers of attorney create the power to act but not an obligation to act. Powers of attorney are therefore an essential element of estate planning for managing the affairs of a client while they are alive. 9 Discuss the various types of powers of attorney and guardianship. Types of powers of attorney An estate planner can put powers of attorney into place by executing documents that follow the wording and format specified in legislation enacted by the relevant state or territory. The examples that follow are generic summaries that should be crosschecked to the legislation and procedural requirements in each state. Financial Planning in Australia 5e Questions: Ch19 Page 8
Alternatively (but perhaps less commonly), individuals or entities can appoint attorneys pursuant to commercial agreements that do not comply with any statutory form, but which are effective at common law. All statutory powers of attorney are extinguished by death of either the grantor of the attorney or the attorney. It can be convenient for the same person who holds a financial enduring power of attorney for a person to also be appointed executor of the will of the grantor. Students should note, however, that, as per above, the power of attorney ceases immediately upon the death of the grantor and the role of executor does not commence until after the death of the will maker. It is also important to distinguish between enduring and general powers of attorney. Persons appointed pursuant to enduring powers of attorney can continue to act even if the grantor (in our case, the estate planner) has lost mental capacity. Persons appointed pursuant to general powers of attorney cannot. The following is a summary of the most common types of powers of attorney available in most states and territories. a Enduring power of attorney financial This is the document that so many people are well advised to prepare. It allows a person to nominate their own choice of representative in the event that, for reasons of geography, health or otherwise, they are unable or decide not to make their own financial decisions. Enduring powers of attorney can save considerable time, cost and inconvenience, both on a personal and business front. Enduring powers of attorney have their limitations; for example, an enduring power of attorney cannot act as an executor and they are very dangerous documents in the wrong hands. This is why the grantor must have absolute confidence in the integrity of the person(s) he or she is appointing as their attorney. As the name suggests, a power of attorney is a powerful document. It is common to see spouses grant each other power of attorney and also appoint, for example, one or more adult children to act as reserves. The reserve roles can function in situations such as when parents are overseas and their signature(s) is required back in Australia. In a financial planning situation, this might take effect of the financial planner recommending changes to the client s portfolio while he/she/they is overseas. If the portfolio change were not urgent, it could likely wait until the client returns home. On the other hand, if a reserve attorney(s) had been appointed and the changes were required sooner rather than later, the financial planner could arrange for the reserve attorney(s) to sign approval of the change. Sometimes powers of attorney are appointed for a specific duration which might, as an example, coincide with extended overseas travel by the grantor. The grantor might restrict the functions that the attorney has power over, to reduce the risk of it being used against what would otherwise be the wishes of the grantor. Generally, powers of attorney do not need to be registered with the relevant state s land titles office unless the attorney is required to act on the sale or purchase of land. In most situations, powers of attorney documents will only be registered if and when a land transaction arises. Financial Planning in Australia 5e Questions: Ch19 Page 9
Enduring power of attorney medical treatment This type of power of attorney permits the attorney to make decisions regarding the grantor s medical treatment in the event the grantor has lost capacity and is unable to do so. The power usually extends to the authorisation of the withholding of medical treatment. It is a less frequently prepared document, as in practice these decisions are often made by close relatives when the need arises. It becomes particularly important to have such a document in place when the preferred choice of decisionmaker might not be the closest relative or there might be the potential for disputes between close relatives. Note also that the appointment of the attorney must be made while the grantor is of sound mind. Enduring guardian This document has different names in different states and territories. It allows the guardian to make decisions about issues such as accommodation and support services and other lifestyle needs of the grantor after the grantor has lost capacity. Again, it is more likely to be needed when the preferred choice of decision-maker might not be the closest relative or there might be the potential for disputes between close relatives. General power of attorney This is the one type of statutory power of attorney that is not enduring; that is, it does not continue on to apply when the grantor has lost the mental capacity to make independent decisions. It is most commonly used for particular transactions; for example, the purchase of a family home or the exercise of an option to purchase, or for particular groups of transactions, notably the running of a business or the management of an investment portfolio. Like all powers of attorney, a general power of attorney is a dangerous document in the wrong hands. Commercial powers of attorney Not all powers of attorney have to follow the various statutory formats. It is also possible to include a power of attorney as part of an agreement between parties to a commercial or other transaction; for example, between a lending institution and a borrower. Such an agreement may give one or both of the parties the power to act as an attorney in certain circumstances; for example, if the other party defaults under the terms of the agreement. Where directors of companies, the trustees of trusts and the executors of deceased estates wish to enter into such an agreement, it is important that they have the power to do so under the company s constitution or the terms of trust; for example, a trust deed or a will. This is usually achieved by the inclusion of an express power in the constitution, deed or will. Financial Planning in Australia 5e Questions: Ch19 Page 10
10 Who may be a trustee of a discretionary trust? A trustee of a discretionary trust may be an individual, a multiple of individuals, or a company (whether public or private). Where a trustee is a private company, the person inheriting the shares on the death of that shareholder will inherit a level of control of the trust. In this case, it is important to consider the terms of an existing will when consulting with a client. This might reveal the need to re-write the will, taking into account that discretionary trust assets will not form part of the estate of the will maker. Financial Planning in Australia 5e Questions: Ch19 Page 11