Estate Planning For High-Income Households

A local expert weighs in on the top 10 considerations

By John McManus, June 2014

American poet and novelist Don Williams, Jr. once said: “Despair is most often the offspring of ill-preparedness.” In the same vein, preparation to handle the problems that commonly challenge high-income families sets apart those who preserve wealth and values for posterity from the 70 percent whose inheritances and family businesses do not survive the second generation.

One of the most important (but sometimes overlooked) aspects of creating an estate plan involves detailing wishes and expectations for the care of children in an emergency or tragedy. Families should also give careful consideration to the sophisticated wealth transfer opportunities now available to create a stream of affluence to the next generation in a tax-efficient manner; but in doing so, parents and grandparents must be aware of the risks and complications that may arise from giving assets to children.

More than ever, families can better protect their kids’ futures by crafting an estate plan that will—to the greatest extent possible—ensure continuity in a child’s upbringing and encourage maturation, as well as foster development into a well-educated, self-sufficient and fulfilled adult. Families that think and plan ahead are far more likely to come out on top when they are confronted with life’s challenges. Following are 10 of the most critical considerations:

1.         Health Care Documents for Children

If both parents are unreachable (e.g., because of work, travel, or an accident) and a child requires medical care, hospitals will reject the requisite treatment, unless there is a clear risk of death. Hospitals have been sued for treating minors without the consent of a guardian and now mandate formal written authorization in the form of The Health Care Proxy and Authorization for Release of Protected Health Information if the parents are unavailable.

2.         Addressing Guardianship in a Power of Attorney

A Last Will and Testament appoints guardians who will take custody of a child if his or her parents pass away. However, how can their quality of life and values key to their upbringing be maintained if the parents suffer from a long-term incapacity and are unable to holistically care for them? A Power of Attorney should clearly address such circumstances.

3.         Documents to Protect College-bound Children

At the time an adolescent turns 18 and becomes a legal adult, parents can no longer automatically make medical decisions on his or her behalf, access his or her medical records, or take any other action without authorization from the child.  A young person who has reached this milestone must now consider preparing a Health Care Proxy, Authorization for the Release of Protected Health Information, and Durable Power of Attorney to give parents the authority to act with respect to health, legal and financial affairs if the child is incapacitated or encounters an emergency for which assistance is required.

4.         Advisory Group to the Guardians in the Last Will and Testament

Key family members and friends should be identified to counsel selected guardians regarding important decisions that affect a child’s lifestyle path. As a child matures, an emphasis might be placed upon enrolling them in the most appropriate schools and providing the best developmental environment to ensure a fruitful life.

5.         Temporary Custodians

In instances where the named guardians do not live locally, it is essential to identify “temporary” custodians who live nearby. Parents entrust these individuals with the responsibility of physically uniting their children with the proper guardians as soon as possible, if doing so becomes necessary.

6.         Taking Advantage of the Annual Gift Exemption

Parents have a gift exemption that they may apply to each of their children every year.  In 2014, the gift exemption amount is $14,000.  Each of these gifts, plus the growth of these assets, are removed from the parents’ estate and, therefore, will not be subject to estate tax when the parents pass away.

7.         Qualified Personal Residence Trusts (QPRTs) for the Family Retreat

Moving the family vacation home into a QPRT will separate the residence (and its future appreciation in value) from the parents’ estate so that it will not be subject to estate tax.  The QPRT will also help to ensure that the residence is not sold in order to pay estate tax liability on other assets after the parents pass away so that it may continue to be used and enjoyed as a family gathering place over generations. Finally, the QPRT will provide asset protection advantages so that the residence will not have to be liquidated in the event of attacks on any of the children’s assets from estranged spouses, lawsuits, or other setbacks.

8.         Use of the Lifetime Gift Exemption

The next four years provide an extraordinarily unique opportunity in terms of gifting capacity.  Currently, the lifetime gift exemption is $5.34 million per person – meaning each parent can give up to this amount to their children and other loved ones without the payment of gift tax – but the exemption could vanish by 2018, according to the Administration’s recently-released Green Book.  The ability to move meaningful sums of assets into QPRTs, Family Limited Partnerships, and Trusts for children, has the effect of dramatically reducing estate tax after both parents have passed away and preserving wealth for future generations.

9.         Family Mission Statement

A statement of the family mission allows individuals to convey their wisdom, ideals, and principles as a more concrete and undying legacy. The self-reflection that occurs in developing this aspect of an estate plan can be extremely rewarding and can help crystallize beliefs, hopes for future generations, lessons learned, and most importantly, expressions of love.

10.       Lifetime Trusts for Children

Whether through gifts or inheritances, without proper planning, many risks arise when wealth is passed from one generation to the next.  Assets are vulnerable to attack from unintended beneficiaries, children’s spouses, and lawsuits. Younger beneficiaries who receive substantial sums of money may lose their motivation to pursue an education, begin their careers, and become independent adults. In other unfortunate circumstances, beneficiaries may put assets to inappropriate uses, such as gambling, drugs, alcohol, or other excesses.

Leaving assets in trust for children can alleviate these concerns. When employed properly, trusts protect assets from reversals that the children may encounter, while encouraging them to make their own way in the world and to create their own estate.  Worthy family members and friends, or favored institutions, may be appointed as Trustee or co-Trustee to make distributions for a child’s typical needs, such as health care, education, and support. Strategically utilizing the resources of the trust, the Trustee can encourage positive behavior and guide the child to a rich, full, and productive life.

“Shirtsleeves to shirtsleeves in three generations” is how Americans describe the high failure rate of wealth transfer, a phenomenon noted in many cultures. However, don’t be discouraged: With proper planning and a focus on positive family dynamics, you can set your children up for success in all of life’s endeavors.

John O. McManus founded McManus & Associates in 1991 and is in his third decade of representing high-net-worth families in New York, New Jersey and Connecticut with sophisticated trust and estate planning. Mr. McManus is honored with Martindale Hubbell’s highest rating and is named to their Bar Register for Preeminent Lawyers.

This article was first published by New York Family here.