By Randy Neumann
We live in a large country, about two and one half times the size of our European founders’ landmass. France (211,000 square miles) is between Texas (269,000 square miles) and California (164,000 square miles) in size. Austria (32,000 square miles) has almost exactly the same area as Maine.
Because of the mass of our country, we have a morass of laws. We have common law, statutory law, regulatory law, constitutional law, and the language of choice is often Latin! We have 41 (common law) states that treat marital income one way, and 9 (community property) states that treat it another way.
However, this column is not about the difference between common law states (of which we are one) and community property states. It is about the best ways to own and pass property to others.
Under English common law (upon which our laws are based), you can own property in several ways. Let’s begin with individual ownership. If you own an asset in your sole name, without any other joint owners with rights of survivorship, or a pay on death designation, the asset will need to be probated after you die. This is because once you die, no one will have the legal authority to access your account: Only you had the legal authority, but now you’re gone.
Your property shall be distributed according to your will. What’s that, you say you don’t have a will; sure you do. If you didn’t prepare a will yourself, the state of New Jersey has one all made up for you. Under the law of “intestacy” (Latin for not having a will), the state in which you used to reside will dictate where your property goes. Since you may not like the state’s will, you might want to get your own.
Alternatively, you can have payments made directly to individuals upon your death without having joint bank and/ or brokerage accounts. Having a joint account allows the joint owner access to the funds in the account while you’re alive.
Although you may not want this, you might want to pass these accounts to specific individuals at your death. Setting up a pay on death designation such as Payable on Death (POD) will allow you to accomplish this. These accounts are also known as Transfer on Death, or TOD, accounts, as well as in trust for, or ITF, accounts and Totten trusts.
A drawback to this type of transfer is that they can only be made to one person. The way to resolve this problem is to open several accounts and designate a different beneficiary for each. These accounts are also known as “poor man’s trusts” because they pass assets directly to individuals without the need for probate or any other type of legal proceeding.
You can also own property (real estate, bank accounts, stocks, bonds, etc.) jointly. If you are married and make no other provisions, you are tenants by the entirety. The good thing about this type of ownership is, in a simple situation such as a young couple with children, the money goes directly to the surviving spouse, which is usually the desired outcome.
However, in the situation where there is a fairly large estate and the surviving spouse has other assets that will allow them to continue living the lifestyle they are accustomed to, you might not want to pass an asset to the surviving spouse. Instead, you might want that asset to be put into a trust that is set up by the will (a testamentary trust).
Unfortunately, if the asset is under the tenants by the entirety ownership, the surviving spouse will receive the asset(s) and not the trust. This is because assets travel by the rule of law first and the will second.
The way to solve this problem is to change the ownership to tenants in common. This way, at the death of a spouse, one half (or whatever portion is owned by the survivor) goes to the survivor, and the balance can go into the trust.
So, for proper estate planning, you need a will that contains the right provisions, and you have to check each of your assets to make sure that they are properly owned.
The next topic is beneficiaries. Qualified accounts, IRAs, 401(k)s, etc. have beneficiary designations. These designations are very important. Large amounts of capital in these accounts can be preserved if they have the proper beneficiaries. One mutual fund company has a brochure entitled, Pass on More Than Your Good Looks.
The scenario is as follows. Grandpa made a good living, saved, and invested well. He has a $250,000 IRA which generates an average return of 6 percent per year. He does not need the income from the IRA, so he just withdraws his Required Minimum Distribution (RMD) after age 70 1/2. For 10 years, grandpa withdraws his RMD yearly. Upon grandpa’s death, grandma inherits the IRA and she collects RMDs for 10 years. At grandma’s death, their daughter inherits the IRA and she takes out RMDs based on her life expectancy. She takes payments for 25 years. Upon her death, her son receives payments for 7 years and the money runs out.
This program shows how a $250,000 IRA generated $1,225,765 in income (before taxes) over 52 years and 3 generations. That’s good planning!
The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for the individual. Randy Neumann, CFP® is a registered representative with and securities and insurance offered through LPL Financial. Member FINRA/ SIPC. He can be reached at 600 East Crescent Avenue, Suite 104, Upper Saddle River, NJ 07458, 201-291-9000.