RJG Legal

How Do I Help My Elderly Parent Manage His Money?

“It’s a common issue as investors live longer and hold portfolios amassed over a lifetime.”

Experts say that children need to approach financial discussions with their parents with a soft touch. Everyone slows down as they age, and it can be catastrophic for seniors who choose overly risky holdings, forget to monitor their portfolio or fall victim to schemers.

U.S. News & World Report’s recent article, “How to Help Aging Parents Manage Portfolios,” says that, at some point, adult children may believe it's time to help with responses from the subtle (just a few suggestions) to the intermediate (monitoring accounts) to the extreme (gaining control from their parents). However, how do you know when it's the right time?

These are delicate subjects, and it can be a hard to speak with aging parents about their money and their potential to be the targets of scams. Loneliness and depression raise the odds of financial exploitation. Changes in social circumstances, like the loss of a spouse, can greatly increase risk and vulnerability.

Right after losing the ability to drive, the biggest loss of independence a senior citizen experiences is the ability to handle their own finances. Just a few mistakes, can wreck a portfolio's ability to cover the parents' remaining expenses or provide the bequests they'd hoped to leave to family.

While control issues make many uncomfortable, hurt feelings and hassles are in many cases much worse, if problems are left to fester. The first step is to be aware of signs of mental decline—don’t jump to conclusions each time a senior struggles for a word. It’s not good to have your parent feel like she’s under a microscope and being constantly monitored.

If there are past-due notices all about, or if there’s a lot of charity mail, it might be a sign of a problem handling finances or dealing with day-to-day financial matters.

Start that discussion gently, by talking about your own finances to help put the parent at ease. Make it casual, not a confrontation with a formal sit-down. Do it one-on-one.

If the first steps raise concerns, the child can simply offer some suggestions to make things run more smoothly, like setting up automatic cash transfers from the parent's investment accounts to a bank account, and automatic bill payments from the bank. Assisting with the parent's tax return, can also ease the parent's burdens and allow the child to keep on top of things. In addition, the child can register with the bank to get copies of bank and investment statements, so that he can monitor if there are any suspicious withdrawals or failures to pay monthly expenses.

If the parent is showing distinct signs of weakened abilities, it might be time to go further and ask for access to the parent's accounts. Make this an offer to help, not a takeover. That way the child can monitor financial accounts.

You can also have your parent designate you as their agent in a durable power of attorney, which allows you to transact business on their behalf.

At some point, an elderly person may not be competent to handle financial affairs at all. Poorly-advised investments or susceptibility to scams are a definite sign of vulnerability. The adult child can petition a judge to make the child the parent's conservator or guardian to take charge of finances and other matters involving the parent's welfare. It is an adversarial and complex proceeding with attorneys and medical experts.

Don't wait until something has happened. Being proactive is a better approach for all concerned.

Reference: U.S. News & World Report (October 22, 2018) “How to Help Aging Parents Manage Portfolios”

When is it Worth Incurring a Penalty for Early Withdrawal?

“Many savings and investment accounts come with rules around when you can pull out your money. However, there are exceptions in which the penalty is worth the reward. There are times when you might be able to lessen the consequences.”

You hear it all the time: “early withdrawal penalties apply.” When you have retirement accounts and CDs, it’s usually not advised. However, there are some instances when it makes sense.

CNBC’s recent article, “Sometimes, early withdrawal penalties don't apply”, explains that we dutifully follow these rules to avoid the much dreaded early withdrawal penalty. However, there are cases when the penalty might not apply to you, or times when the benefits outweigh the financial hit. You should remember that these moves should often only be made if necessary, because they place your savings in jeopardy.

Certificates of Deposit. If your CDs are growing at less than 1% a year at a bank, but the bank across the street is offering annual returns of 1.72% on their certificates of deposit, you might consider an early withdrawal, despite a penalty of three months interest. Do the math: you might be ahead financially after three months, at the other bank's higher interest rate.

529 Plans. There's no early withdrawal from a 529 plan—the tax-advantaged account that can be used for education-related expenses. That’s because there are no rules as to when you can use the money. The rules stipulate only what you can use it for, which is just education-related expenses. There’s a penalty, if you use it for other reasons. It’s a 10% tax penalty, as well as income taxes on the account's earnings. In many cases, the family’s no worse off than they'd be in a taxable account. However, you may have to repay the state income tax benefits you received for using the account. If your child does plan on going to college, the withdrawals will leave your savings with less time to compound.

Retirement savings. An early withdrawal from your retirement account is a huge black eye in personal finance. Using an individual retirement account (IRA) or 401(k) plan before the age of 59½ can mean a 10% penalty, income taxes and a depleted fund for your retirement. There are several exceptions to the 10% penalty, eliminating that expense when you withdraw early from your retirement account. However, there's confusion about when the penalty does and does not apply. For example, if you decide to retire at 56, you can withdraw from your 401(k) without any penalty. However, if you roll it into an IRA, you'd have to wait until 59½ to have your money without consequences.

Both 401(k) plans and individual requirements waive the penalty if you're using the money for serious medical expenses, or if there's a disability or death. You can use your IRA to fund health insurance, if you're unemployed, without penalty. If you're divorcing, you may be able to use 401(k) assets without a penalty.

Reference: CNBC (August 21, 2018) “Sometimes, early withdrawal penalties don't apply”

Here’s What to Know About Money, if You’re in Your 50s or 60s

“So, you’ve got a decently-sized nest egg building, your debts are paid off and your estate is more or less in order. You’re approaching the home stretch to retirement... Let’s not waste any more time—you’ve got money to maximize.”

First, some good news: when you reach 50, you can begin making catch-up contributions to your retirement accounts. You can add an extra $6,000 to your 401(k) this year and $1,000 to an IRA or Roth. Small business owners, contractors, and those with freelance income can potentially save $61,000 in a solo 401(k). Note that limit is for all of your 401(k) accounts each year.

Two Cents’ recent article, “What to Know About Money in Your 50s and 60s,” adds that if your kids are out of the house and that house is maybe even paid off (or close to it), you can move some of that extra savings toward your retirement accounts. According to Forbes, even $1,000 extra in an IRA can make a huge difference, if you contribute it every year between 50 and 67. For example:

• 5% annual return: $26,000
• 7% annual return: $31,000
• 10% annual return: $41,000

To see if you’ll have enough retirement savings, take your total income…

• Less any contributions to retirement accounts
• Less any expenses that will go away in retirement
• Plus, any added expenses you’ll have when you’re retired
• Less taxes (estimate high, as taxes will likely to go up, not down)

That gives you your rough total.

If it’s a long way from the budget you’ve been living on, dig deeper and you can see where to make improvements.

Your 50s are the critical time, when preparing for retirement. Review your savings to see the mix of tax categories on your investments: pre-tax, post-tax, and tax-free.

If you have almost all your savings in pre-tax accounts, which decreases the flexibility to pay for retirement, consider building up after-tax and tax-free savings, so you have more flexibility once you retire. This may include investing in a Roth IRA. Consider a backdoor Roth conversion, if you make too much to contribute to a regular Roth. If you’re taking qualified withdrawals (the account’s been open for at least five years and you’re 59½ or older), then your taxes won’t be impacted in retirement, which can be a helpful strategy.

Next, if you’ve made a will already, you should check to ensure that you’ve titled your assets properly. For example, on a bank or brokerage account, you can add beneficiaries to that account, called a Transfer on Death (TOD). This works the same as adding beneficiaries to an IRA account or a retirement plan. Titling your assets properly, lets you avoid probate. It’s a faster and cheaper transfer.

Now is the time to also think about when you’ll claim Social Security. While you can claim Social Security as early as 62, it’s better financially to wait to take Social Security until you’re 70. That’s because the payout—both the monthly and over time—will be higher. However, this option isn’t for everyone. It’s one to be made with your spouse, considering your retirement plans and how much you’ve managed to save.

Reference: Two Cents (August 17, 2018) “What to Know About Money in Your 50s and 60s”

Don’t Let These Mistakes Crack Your Retirement Nest Egg

“According to a Gallup poll, 51% of non-retired Americans don’t think they will have enough money to live comfortably in retirement.”

While half of those Americans who aren’t retired believe they don’t have enough money to retire, 78% of those in retirement say they have enough money to live comfortably.

However, a Fox Business article, “10 mistakes that can sabotage your retirement savings,” advises that wherever you are on the retirement curve—whether you’re just starting to save for retirement or are already retired—there are mistakes that can poke a big hole in your retirement nest egg. Let’s take a look the list:

1. Failing to consider the effect of taxes on retirement income. You need to calculate how taxes could affect your savings. Some retirement savings plans are taxed, when they’re withdrawn. A big mistake many retirees make is believing that Social Security isn’t taxed, but 85% of Social Security can be taxed.
2. Failing to consider the effect of health care costs in retirement. This can be expensive and includes things like deductibles and out of pocket payments—not just the costs for a health care plan.
3. Failing to consider the effect of potential long-term care costs in retirement. It’s easy to forget to consider the day-to-day costs of long-term care, like assisted living, nursing homes, and in-home care. Medicare will pay for certain care for 30 days, but after that it has to come from your own savings.
4. Failing to have enough liquidity and an emergency fund. You need to have money invested appropriately for retirement, so it can be accessed when you need cash.
5. Having too much money tied up in your home. This isn’t a liquid investment, and if you have too much of your net worth tied up in your home, you may experience a lack of liquidity when you need it.
6. Starting your retirement with significant levels of debt. Pay off or reduce your debt before retirement. Otherwise, your debt can debilitate your finances.
7. Failing to plan for Social Security. There are a lot of strategies for using Social Security to maximize the amount of money you’ll receive. You can begin receiving Social Security payments at age 62. However, if you wait, you’ll see more money.
8. Spending too much early in your retirement. Trips are nice, but your money has to last as long as you do! People who spend too much during the early part of their retirement years, can find themselves in a financial pinch later on.
9. Failing to assess your risk. You need to have risk-appropriate investments in retirement. Consider your risk tolerance, since being too risk averse could eat into the value of a savings plan.
10. Thinking you can do it yourself without a professional. Work with a qualified estate planning attorney to have an estate plan in place.

Reference: Fox Business (August 3, 2018) “10 mistakes that can sabotage your retirement savings”

Are There Any Holes in Your Bulletproof Estate Plan?

“Many people think estate planning means deciding what happens to your things when you die. For that reason, many young families do not consider estate planning to be a priority. However, it may be one of the most important things that young parents can do!”

A will or last will and testament is the document in which parents can name who they want to assume care of their children if they should both die, as well as who should manage the money available to care for those children.

Wealth Advisor’s recent article, “What's missing from your estate plan?” advises that it’s not wise to assume that the same people should perform both of these tasks. Separating the people who care for your kids from those with free access to the money left behind, is often a very smart choice. If the parents’ estate plans don’t include instructions concerning the children, those left behind can have drastically different opinions about where the children should live and how they should be cared for.

When families feel strongly about those issues it also creates difficulties for the children. They’re not only mourning the loss of the parents, but now their loved ones may be at each other’s throats, in a legal attempt to gain custody that will drain resources and divide the family. However, there are some simple steps that can avoid this additional cost and emotional trauma.

Don’t leave a hole in your estate plan by omitting a document that addresses what happens to you, if you become incapacitated. A living will, also known as an advance directive, is an essential component of a complete estate plan. This document answers "end of life" questions, particularly whether a person should be kept alive by artificial means. Most of us don’t want our families making those difficult choices, so have your estate planning attorney draft an advance directive, so they won’t have to.

One other document an estate plan should have is a medical durable power of attorney, which concerns almost all medical decisions other than those dealing with end of life. If you haven’t signed a medical power of attorney and if you’re not near death but unable to make your own medical decisions, you put your family and your medical providers in a tough spot. However, if you have a designated an agent to make medical decisions, you can spare your family additional pain and emotional distress.

Reference: Wealth Advisor (August 27, 2018) “What's missing from your estate plan?”

How Do I Receive an Inheritance Wisely?

“Receiving an inheritance is helpful, but don't let the potential tax bill surprise you.”

The way in which spouses and other heirs go ahead and withdraw the funds from inherited IRAs or 401(k)s can have big tax implications, according to U.S. News & World Report’s recent article, “Tax-Savvy Ways to Manage an Inheritance.”

Receiving an inheritance from a deceased relative means there may be some complicated tax repercussions. Spending that money quickly or thoughtlessly can also result in an unexpectedly high tax bill. Let’s look at how heirs can make sure they're thinking about taxes when benefiting from an inheritance, with some tax-savvy ways to manage inherited wealth.

IRAs or 401(k)s. If a deceased relative, spouse, or friend passes along an IRA or employer retirement savings account, you should understand how it will be taxed. The options for the account are based on your relationship to the deceased person. A spouse may be able to roll the funds into their own account. That’s an option that other beneficiaries don't have. A spouse can also open an Inherited or Beneficiary IRA account. This account has both partners' names on it. A young spouse can withdraw funds, without getting hit with the 10% early withdrawal penalty.

Other heirs of the benefactor, such as a child, nephew, niece, or grandchild, don't have the option to deposit the money in their own retirement account. However, they can hold it in an Inherited IRA account. Once they decide how to deposit the money, the rate at which spouses and other heirs decide to withdraw the funds can have significant tax implications. If they decide to take out all the money in a lump sum, they may experience a "double whammy" tax bill. That’s because for a traditional IRA, the lump sum would be treated as taxable income. Beneficiaries could pay roughly 40% in taxes if they live in a state that charges income tax. It also could push them into a higher tax bracket, causing them to pay more taxes on their regular income.

The better move for heirs is to spread out the distributions over their lifetime. This is often called a "stretch IRA," because it allows investors to stretch out the time during which earnings can grow.

The specific rules regarding how beneficiaries manage Inherited IRAs are determined by whether the deceased person was older than 70½ at the time of death. Generally, heirs who want to keep their tax bill as low possible, must take required minimum distributions (RMDs), based on their life expectancy, within about a year of inheriting the account. They won't see the 10% early withdrawal penalty, but they'll be taxed on the amount they take out. However, the RMDs will generally be smaller than a lump sum and less apt to push them into a higher tax bracket. Recipients who want to take minimum distributions, must take the first one before the required date, or they may be forced to liquidate the account within five years.

Inherited Roth IRAs have already been taxed and don’t have the same tax burden. However, that’s not a good reason to immediately withdraw a lump sum. As long as you take RMDs, IRA funds can stay in the account and grow tax-free.

Stocks or Mutual Funds. An inheritance may also consist of investments outside of a retirement account, like individual stocks or mutual funds. Remember the "step-up basis," which is important to reduce taxes on the sale of these investments. When the owner dies, regardless what they paid for that stock or mutual fund, the cost basis “steps up” to whatever the price of that stock or fund was at the date of death. For example, if a grandfather bought IBM stock for $5 per share, and when he dies, it's worth $100. The heir's basis is the stock’s value when he died, rather than the price at which he bought the stock years earlier. It’s a critical difference when it comes to how heirs calculate and pay capital gains taxes, upon the sale of an asset.

Remember that these assets may have to go through probate. Assets like mutual funds and houses that don’t have a beneficiary designated, may go through probate. This can be avoided with proper planning in advance.

Real Estate. Similar to stocks and mutual funds, an inherited house enjoys a step-up basis. For tax purposes, the cost basis is what the market value was when the benefactor died. Try to have the home appraised immediately after the benefactor's death, to gain an understanding of what the basis is now. If it's not being passed along to a spouse, an inherited house will usually need to go through probate.

Life Insurance. Life insurance is tax-free, but you still need to do good financial planning when deciding how to invest the life insurance payout.

Cash. A cash inheritance isn’t taxable at the federal level. It’s a good reason to start working with an estate planning attorney, so that you use the money effectively and avoid a big tax bill.

Reference: U.S. News & World Report (October 18, 2018) “Tax-Savvy Ways to Manage an Inheritance”

Should I Give Access to My Checking Account to My Adult Son in Case of an Emergency?

“Setting up joint accounts between parents and children may seem like an effective way to prepare in case of emergency or if people need help with finances as they get older, but it can cause some big tax and estate problems. Here's a dual strategy to consider instead.”

It's not uncommon for an elderly parent to go to the bank to add a child to his or her bank account “in case something happens to me.”

The reason why most parents do this, is to give their child access to their money during an emergency. It sounds like it should be a pretty easy process. With proper planning, it can be. However, parents should know that simply making a child the joint owner of a bank account (or investment account or safe deposit box) can have unintended consequences. Sometimes this isn’t the best solution during a family crisis.

As Kiplinger’s recent article, “The Trouble with Joint Bank Accounts 'Just in Case'” explains, the vast majority of banks set up all of their joint accounts as “Joint with Rights of Survivorship” (JWROS). This type of account ownership typically says that upon the death of either of the owners, the assets will automatically transfer to the surviving owner. However, this can create a few unexpected issues.

If Mom’s intent was for the remaining assets not spent during the family crisis to be distributed by the terms of a will, that’s not happening. That’s because the assets automatically transfer to the surviving owner. It doesn’t matter what Mom’s will says.

Remember that adding anyone other than a spouse could create a federal gift tax issue, depending on the size of the account. Anyone make a gift of up to $15,000 a year tax-free to whoever they wish, but if the gift is more than $15,000 and the beneficiary isn’t the spouse, it could trigger the need to file a gift tax return.

For example, if a parent adds a child to their $500,000 savings account, and the child predeceases the parent, half of the account value could be includable in the child’s estate for state inheritance tax purposes, like in Pennsylvania. The assets would transfer back to the parent, and, depending on the deceased’s state of residence, state inheritance tax could be due on 50% of the account value. In Pennsylvania, the tax would be 4.5%, which would mean a state inheritance tax bill of more than $11,000.

However, if Mom’s intent in adding a joint owner to her account is to give her son access to her assets at her death, there’s a better way to do it. Most banks let you structure an account with a “Transfer on Death,” or TOD. With a TOD, if the beneficiary passes before the account owner, nothing happens. There’s no possibility of a state inheritance tax on 50% of the account value. When the account owner dies, the beneficiary has to supply a death certificate to the bank, and the assets will be transferred. These assets are transferred to a named beneficiary, so the time and expense of probating the will are also avoided, because named beneficiary designations supersede the will. This is the same for pensions, IRAs and life insurance policies.

Setting up an account as TOD doesn’t give the beneficiary access to the account, until the death of the account owner. Therefore, the change in titling isn’t considered a gift by the IRS, which eliminates the potential federal gift tax issue.

There’s no such thing as a joint retirement account because IRAs, 401(k)s, annuities, and the like can only have one owner—it’s not possible to make someone a joint owner. However, if a parent becomes incapacitated, they still often would like their child to have access to all their assets, in addition to their bank accounts. The answer for these is a financial power of attorney. This is a document that lets one or more people make financial decisions on your behalf. This document should be drafted by a qualified estate planning attorney.

It is important to understand that many financial institutions require a review process of a financial power of attorney appointment. The bank’s legal department may want to review the document before allowing the designated person to make transactions. This can take several weeks, so be sure that all financial institutions where you have accounts have a copy of your executed financial power of attorney. Have it in place before it’s needed.

Talk to your estate planning attorney about what you’re trying to do and let her guide you. Planning in advance will make things much easy for your loved ones, in case of an emergency.

Reference: Kiplinger (November 14, 2018) “The Trouble with Joint Bank Accounts 'Just in Case'”

Should I Get Disability Insurance?

“Disability insurance can help protect your salary, if you are sidelined from work because of a health issue. Many individuals tend to skim over the details of this coverage during open enrollment, leaving them and their loved ones vulnerable.”

One in four adults will become disabled before reaching retirement age, according to the Social Security Administration.

CNBC’s recent article, “1 in 4 workers run into this career derailment, but you can protect yourself,” notes that about 20.1 million adults of employment age have suffered a work disability. Research published by the National Institutes of Health found the common causes to include back or neck problems, depression, anxiety or other emotional issues and arthritis or rheumatism.

When you're suffering from these issues and can’t work, disability insurance can help you bridge the pay funding gap. When going through open enrollment, some people’s patience also runs out after choosing their 401(k) solution, their health-care solution, or their health savings account and they forget about disability insurance.

You may also purposely avoid disability coverage, because of the cost. Disability insurance is frequently more expensive than term life insurance. However, think of it this way: the chances of missing six to nine months of work because of a car accident or other mishap are exponentially higher than dying prematurely, if you’re younger.

Long-term disability usually starts after three to six months and costs around 1-3% of a worker's annual salary. For most people who are covered through their employer, that policy typically replaces about 60% of their income. That may not be enough coverage, and you may consider purchasing another disability policy.

To see if you have enough disability coverage, look at your income, particularly the cash coming in and the cash going out. If you do become disabled, your costs could go up with additional child-care or medical expenses.

If you’re disabled, you don’t want to tap into your emergency or retirement savings. Look at how much you’re saving toward retirement, when estimating how much income you will need. Also keep in mind the number of people who’ll be affected, if your cash flow takes a dive.

If you decide you want more income protection, your employer may let you buy more coverage. If you’re self-employed, you may be able to get coverage through a professional association. You could also buy a policy on your own, but doing this on your own can be more expensive because group plans can spread the risk out among employees.

Should I Get A Living Trust?

“A living trust is a great way to protect and distribute your estate assets, in private and without court intervention.”

A living trust can be an effective way to handle your estate because you can provide clear direction on how your assets should be disbursed (and to whom) after your death.

A recent article from The Street asks, “What Is a Living Trust and Why Should You Have One?” The article explains that a living trust primarily helps individuals keep more control over their assets and have their instructions carried out after they pass away. A living trust can help save the costs and delay of probate—that can take up to three years and 10-15% of an individual's estate's value. Since you don't have to register a trust with the courts, creating one up can also provide you with more privacy than a will.

A trust provides flexibility and creativity, as well as the level of control over funds passed to heirs that a will alone might not. For instance, a parent leaving money to a child could leave that money with a third-party to be given to the child at whatever age the parent decides, or on specific birthdays. A trust can also protect the assets from bankruptcies and lawsuits.

There are many forms of living trusts, all of which can be set up easily with the help of a qualified estate planning attorney. Here are the primary types of trusts:

A revocable trust enables an individual to keep control of assets, while she’s still alive. The trust assets can be moved around, and it’s pretty flexible in its structure. It can be modified at any time, and it can be revoked at any time.

An irrevocable trust can’t be changed and can’t be revoked. Any assets included in an irrevocable trust can't be accessed by creditors. An irrevocable trust provides protection from lawsuits and provides solid asset protection.

An asset protection trust helps protects the trust holder's assets from any future efforts by creditors to get hold of an individual's assets. These trusts can be established for a specific amount of time, and all assets in the trust that remain are returned to the trust holder when the trust term expires.

A charitable trust is established to benefit a particular charity or charities. These trusts provide an outlet for an individual's favorite charities and causes, and they provide significant tax benefits for the trust holder, because they help lower or eliminate estate and gift taxes.

With a trust, you'll bypass probate and save on those expenses. You'll also have peace of mind because a living trust can eliminate much of the stress over how your estate will be handled after you're gone. It provides clear direction on how your assets will be distributed.

A living trust can be a very helpful document in distributing estate assets. However, be sure to consult with an experienced estate planning attorney.

Reference: The Street (October 1, 2018) “What Is a Living Trust and Why Should You Have One?”

What are the Benefits of an Irrevocable Life Insurance Trust (ILIT)?

“The reality is that life insurance is treated as an asset in your estate. If the payout pushes your estate past federal or state estate tax exclusion limits, you could be facing a hefty estate tax bill. There is something you can do, though.”

Many people just assume that all insurance is tax-free. However, that’s only partly true. Life insurance is income tax-free. Therefore, the recipients of a decedent’s life insurance policy don’t have to pay income tax on that amount.

However, Kiplinger’s recent article, “Myth: Life Insurance is NOT Taxable,” explains that if it’s large enough, the decedent’s estate—along with any life insurance proceeds—could be subject to federal and/or state estate taxes.

For instance, if you have a $1 million life insurance policy, the IRS will deem that policy to be an asset. At your death, the IRS sees it as a million-dollar asset you just transferred to your beneficiaries, and taxes it accordingly. That estate tax is usually due upon death, and it can be significant. If you’re wealthy enough to be worried about this, you can avoid having your life insurance proceeds included in your estate and subject to the estate tax, by creating an irrevocable life insurance trust (ILIT). You name that trust the owner of your life insurance. That way, that particular asset will be removed from your estate (if you have had no control over the policy for at least three years). When you die, the proceeds from your life insurance will pass on to your heir’s income tax and estate tax-free.

You may be a candidate for an ILIT, if your estate is in excess of the federal “application exclusion amount” ($11.18 million for single individuals and $22.36 million for couples under the Tax Cuts and Jobs Act of 2017.) The Act sunsets on Dec. 31, 2025. At that point, unless the law is made permanent, the amount will go back to the old $5 million exemption, indexed for inflation.

An ILIT could save your family up to 40% in federal estate taxes. That’s a benefit worth the expense and complexity in setting it up. However, it is important to note that 12 states including Washington and DC have their own estate taxes, and their exclusion amounts may be lower than the federal limits.

In addition, an ILIT can help you can avoid tax on both spouses’ estates. Life insurance proceeds can be held in a trust for the benefit of the surviving spouse during her lifetime. When she dies, the proceeds will not be included as part of her estate either. They will pass tax-free to her children and then to her grandchildren, as an ILIT in a multigenerational trust.

It is important to use caution because the IRS scrutinizes ILITs carefully. In order to be certain that your ILIT passes IRS muster, you must:

• Transfer polices you own to the ILIT, by completing an “absolute assignment” or “change of ownership” form;
• Relinquish all ownership rights to the trust. You must keep insurance proceeds out of your estate, by doing the following:
  • Giving up all ownership rights to the policy, such as the right to change beneficiaries, borrowing from cash values, and making premium payments;
  • Sign an annual cash partition agreement to create separate funds from which premiums are paid; and
  • Maintain a change of ownership in an existing policy for at least three years before the insured's death. (You must survive for at least three years after transferring your policy to the trust, or the proceeds will be taxed in your estate like you retained ownership of the policy).

Work with an experienced estate planning attorney to set this trust up correctly.

Your family won’t pay income tax on any life insurance proceeds they receive, but if the estate is big enough, they’ll pay estate taxes on the policy, unless you set up an ILIT at least three years before your death.

Reference: Kiplinger (August 28, 2018) “Myth: Life Insurance is NOT Taxable”