Ten Estate Planning Steps to Consider
Photo Credit: Fabian Wiktor
Many Americans can reduce their estate taxes through careful estate tax planning. With careful planning, you may be able to avoid common mistakes and help ensure that your heirs are not burdened by unnecessary emotional and financial stress when settling your estate.
1. Create a Will
The first crucial step in organizing your estate is writing a will. An individual can name an executor for the estate and guardians for dependent minor children or dependent adults in a will. The executor performs the crucial task of gathering and allocating an estate's assets and ensuring that any associated tax matters are taken care of.
You can select a specialist capable of handling these issues independently or choose a family member or friend with access to any professional aid they might require. You should, however, confirm that the friend or relative is open to taking on this responsibility.
2. Update Your Beneficiary Designations
Beneficiary designations should be periodically reviewed and updated (especially after significant life events such as births, deaths, marriages, and divorces). Your assets may pass to someone you did not intend to benefit from if beneficiary designations are outdated or incorrect for retirement accounts or insurance policies.
3. Establish Your Health Care Directives
It is important to have your wishes for medical care recorded in case you become disabled or terminally ill. If you become incapacitated, you can also designate a "health care proxy" who will have the power to make medical decisions on your behalf. Health care directive regulations differ from state to state and may be impacted by federal law.
For instance, the Health Insurance Portability and Accountability Act (HIPAA) limits the disclosure of your medical information by your doctor. Review your disability planning paperwork to check that it has the correct HIPAA release wording to prevent this from happening.
4. Use a Durable Power of Attorney
If you were to become disabled, how would you manage your finances?
Consider using a durable power of attorney, which appoints a person you trust to manage your assets if you cannot. An estate planning attorney can help you draft this type of document and help you to review your estate plan periodically to comply with current laws.
5. Establish a Trust
One of the primary purposes of a trust is to avoid probate, which may mean that your estate can be settled more quickly and at a lower cost. Perhaps more important to some individuals is that a trust be private, whereas probate proceedings are a matter of public record. Because there are several types of trusts, you should contact an estate planning professional to determine which type of trust is right for you.
6. Use Your Employer Legal Benefit
Consider using your employer's legal benefits that many employers offer for a low monthly fee. Employees usually have the opportunity to sign up when enrolling for their annual health care benefits.
The legal benefit typically includes an estate planning package consisting of a will or living trust, power of attorney, and health directive. This package is a good solution if you do not have complex estate planning needs.
7. Plan for the distribution of your retirement assets
When completing the required beneficiary documents, it's necessary to plan carefully. Keep the administrators of any employer-sponsored retirement plan you are a part of informed of your current address.
Keep your beneficiary designations updated if you are qualified to receive benefits from your plan. Additionally, make sure your beneficiaries are aware of any plans from which you might get benefits.
8. Use Gifting Strategies to Reduce Estate Tax Liability
Giving can be a great way to lower your estate's tax liability. The 529 savings plan is one often used gift-giving option. Assets in this plan may grow tax-deferred and may be withdrawn tax-free if used for eligible educational costs. An investor may gift $16,000 annually to each beneficiary as of 2022. Couples are permitted to give $32,000 annually per recipient.
Donors can make an "accelerated donation" to a 529 plan in the amount of five years' worth of gifts to each recipient ($80,000 for an individual or $160,000 for a pair). As long as the beneficiary does not receive any more contributions for four years following the year of the initial contribution and the appropriate tax form is submitted, you are exempt from paying federal gift taxes (1).
Another type of gift-giving is donating to a charity. Any assets donated generally qualify for income tax deductions and can lower the overall value of the taxable estate.
9. Decrease or Eliminate Estate Taxes
Property passing to a surviving spouse is generally exempt from estate taxes. As of 2022, there is a $12.06 million limit for individuals on the amount that can be passed on to a decedent’s non-spousal heirs estate-tax free.
Discuss with your estate planning attorney how you structure your bequests to take advantage of the exclusion and minimize estate taxes.
10. Determine Your Asset Drawdown
During retirement, it is important to consider what cash sources are used to maintain your lifestyle. These sources often have drastically different tax consequences.
Discuss with your financial advisor or investment professional the best way to draw from your tax-deferred, taxable, or tax-free assets for cash flow needs to minimize your own taxes and the taxes to be paid by your heirs.
Footnotes
1. Consult your tax advisor about gift taxes and reporting. Amounts in an account that were considered completed gifts by the account owner will not be included in the account owner’s gross estate for federal estate tax purposes. However, if the account owner elected to treat the gifts as having been made over a five-year period and dies before the end of the five-year period, the portion of the contribution allocable to the remaining years in the five-year period would be includable in computing the account owner’s gross estate for federal estate tax purposes. Gift limits are current as of 1/1/22; tax rules are subject to change.
Important Disclosures
This material is provided for general and educational purposes only and is not investment advice. Your investments should correspond to your financial needs, goals, and risk tolerance. Please consult an investment professional before making any investment or financial decisions or purchasing any financial, securities, or investment-related service or product, including any investment product or service described in these materials.
Estate planning involves many complex concepts that are regulated by varying state laws as well as federal law. As you begin to consider what kind of legacy you would like to leave your loved ones, be sure to seek insight from your team of professionals, including an estate planning specialist and tax attorney.
Portions of this article were sourced from the work of MFS Heritage Planning. Neither MFS nor any of its subsidiaries are affiliated with Optima Capital Management.
Our Insights
