Estate Planning Decisions That Actually Matter

Estate planning is a critical part of your financial plan. There are three main purposes to estate planning. The first one is to make sure your stuff, and especially your minor children, go where you want them to in case something happens to you. So it directs where your assets go and, most importantly, designates somebody to be the caregiver, to be the guardian for your child.

You may want somebody separate managing the money on behalf of your child. Some people like to have some checks and balances in the system, but it's certainly convenient for that guardian to also have access to the money they need to help take care of your child. Frankly, that's the most important aspect of estate planning and lasts until your youngest child turns 18. That is generally done with a will.

The second purpose of estate planning is to avoid or minimize the painful, expensive, hassle, public process of probate. Probate is basically when a court looks at a will and figures out where everything's supposed to go. By not having things that are in the will because they're transferred by some other mechanism, you can minimize the expense and the time and the hassle and the publicness of probate.

You might do that with beneficiary designations for your life insurance policies, or for your annuities, or for your retirement accounts, and then they pass completely outside of probate. Likewise, anything you own in common with somebody else just becomes theirs when you die and thus passes outside of probate. Be careful; you might lose what's called the step-up in basis at death and give them higher income taxes by doing that, but it does keep it outside the probate process.

Another common way that people keep assets outside of probate is to use a revocable trust. This is a trust that you can put stuff in and take out at any time while you're alive. But when you're dead, anything that's inside that trust is passed outside of probate.

The third purpose of estate planning is just to minimize the taxes associated with your death. Those can be federal estate taxes, they can be state estate taxes, they can be state inheritance taxes, they can also be income taxes.

Now, the vast majority of Americans don't have any taxes due as a result of their death, thanks to living in a state without an estate tax or inheritance tax, or being below the minimum exempted amount from those taxes. The federal exemption is also quite large. It's $15 million, $30 million if you're married, and indexed to inflation, and so it goes up in future years from that amount. And so most people just aren't wealthy enough that they owe any estate taxes. They owe no death taxes whatsoever.

They should still pay attention to some of the income taxes associated with that last year of life and those sorts of things. But for the most part, everything you own directly gets a step-up in basis at death. It's as though your heirs bought them on the day you died at that price, and so if they sell them immediately, they don't owe any income taxes on them anyway.

And so most people don't need to worry that much about death taxes. But if you are wealthy enough to have an estate tax problem, I congratulate you. You know, $30 million-plus for a married couple is no small amount of assets that you acquire during your life. You should be congratulated on that.

Recognize that amount is much smaller in some states. For example, in Oregon, it's only $1 million, and then you've got to start paying estate taxes above that. And in some states, the estate tax can be pretty onerous. In Washington, the top estate tax bracket, it doesn't start at $1 million; it starts at about $9 million, is 35%. But you add that on to the federal estate tax of 40%, and 75% of everything a very wealthy person owns in Washington State is going to the taxman rather than going to the people or the organizations they would rather see them go to.

So obviously, in that sort of situation, doing some estate planning, preferably earlier in life when you can make a bigger difference, is very worthwhile to prevent that from happening. In general, people think of estate planning; they think of documents.

Now, really, what estate planning is is the decisions behind the documents, right? Who's going to care for your children? Where do you want your assets to go? If you're leaving money to your kids, when do you want them to get it, and under what circumstances? And how much? If you're leaving money to charity, which charities, and when do you want to give it, and in what form? You know, these sorts of decisions are the hard part.

But generally, you do walk away with some documents as well. Typically, a will, maybe a revocable trust, maybe an irrevocable trust or two. Often, some documents like a durable power of attorney, and this can be useful both in the event of your death as well as in the event of your disability for somebody to manage your financial affairs.

People also often throw in some healthcare documents. You know, these are under the broad umbrella term of a healthcare directive, and maybe it's a living will that actually says what you would want done in the event that you're incapacitated. Do you want to be on a ventilator? For how long and for what conditions? Do you want CPR done on you? Those sorts of things. You might also designate a healthcare power of attorney, somebody to make decisions for you in the event that you're incapacitated.

Those of us who work in healthcare know that it doesn't usually come down to requesting the documents and poring over the documents when making medical decisions. For the most part, we talk. If we can't talk to you, we talk to the people that seem to care about you the most, whether that's a spouse or your children or somebody else, and ask them what you would want.

So make sure when you create these sorts of documents and make the decisions about what you would want done in your later years of life that you share those decisions with those you care about. That's probably even more important than creating the document. I've seen family members be pretty uncomfortable making those decisions because they don't know what you want. When you've actually told them what you want, the decision-making is much easier for them at a very hard moment in their lives. So please do share those with others.

So a lot of people ask, “Do you need a trust or is a will enough?” Well, there are two types of trusts. There's revocable trusts and irrevocable trusts. Irrevocable trusts, for the most part, are about avoiding estate taxes and maybe some asset protection benefits. Revocable trusts are mostly about avoiding probate.

If you don't have any of those issues, you don't need a trust at all. And in some states, probate just isn't that painful or expensive. And so maybe it's no big deal to run your estate through the probate process. Maybe it's not worth spending the money and the time to create a trust up front.

In other situations, it's clearly well worth creating a trust and passing as much through the trust as you can, rather than via a will and the probate process. But it's a discussion that's well worth having with an estate planning attorney in your state.

For most white coat investors that are going to acquire substantial assets during their life and probably die as a multimillionaire, it's worth spending a few thousand dollars talking to a specialist in this, an estate planning attorney in your state, because these laws are all state-specific, and really coming up with a plan that you are comfortable with.

More and more these days, you can get a will and even some basic trusts online. Maybe an attorney looks over it at some point, but I don't think it's the same as sitting down across the table from somebody who really does this day in and day out and feeling like you have somebody in your corner that's really made sure you've dotted all the I's and crossed all the T's in this process.

I mentioned earlier beneficiary designations. Very important. It's a good way to pass assets outside of probate, and for the most part, you don't want assets like life insurance policies, the proceeds of them, or retirement accounts coming to your estate at death. You want them going to your beneficiaries, but you want them to be the right beneficiaries. Maybe the beneficiary is a trust, maybe it's your spouse.

But if something happens in your life, your spouse dies, you get divorced, you get remarried, you get married for the first time, you probably want to look at all your beneficiary designations, make sure your money is still going where you want it to go.

Okay, there are a fair number of advanced estate planning techniques out there. Most of them are sold at least partially for asset protection reasons, and the truth is that most good asset protection plans were put together for another reason, usually a business reason or an estate planning reason, not just to avoid paying your creditors in the event you get a judgment against you. But it's worth considering all those considerations as you go along.

But we're talking about things like family limited liability companies, family limited partnerships, a lot of types of irrevocable trusts, particularly domestic asset protection trusts, and so you start mixing your asset protection plan and your estate plan together.

Is that worthwhile? It probably is for some people, especially when you have a lot of assets that aren't protected by some other mechanism in your state. Typically, your retirement accounts are all protected, and that tends to be the lion's share of assets for most wealthy physicians. But if you've got a lot of money that's outside of retirement accounts that isn't protected by some other law in your state, it's probably worth thinking about some of these techniques.

Just recognize that there is a fair amount of uncertainty as to whether they will work for the asset protection reasons, and that it's all governed by state law, so it varies by state as well. And very little of it is free. Sometimes the cost is really kind of exorbitant for the amount of benefit you're likely to get from it, since most people never get into an above-policy-limits judgment situation.

Estate planning is well worth doing. The most important aspect, of course, is making sure your minor children are taken care of and making sure your money is going in the right way, at the right time, to those that you care about most. But there's a little more nuance to it in avoiding probate and reducing your taxes along the way.

The White Coat Investor Podcast is for your entertainment and information only and should not be considered financial, legal, tax, or investment advice. Investing involves risk, including the possible loss of principal. You should consult the appropriate professional for specific advice relating to your situation.