Will

A will is a legal document that communicates your wishes as to who should receive your assets after your death.  It also allows you to name guardians for dependent children.  Without a will, the courts decide what happens to your assets and who is responsible for your children.

Wills do have limitations however.  In particular, the beneficiary designations on financial accounts, insurance policies and other assets take precedence over wills, so it’s important to make sure your beneficiary designations are up to date and reflect your wishes.  For example, if you list your husband as the primary beneficiary on your retirement plan at work, but then divorce and re-marry, your first husband is listed as the account beneficiary and will receive those assets upon your death, even if your will says otherwise.  It is therefore important that you periodically review that all your account beneficiaries are as you desire.

A will also allows you to name your executor, the person who will be in charge of your estate.  Before you select an executor, make sure you understand the tasks he or she will need to perform, which include distributing your property, filing tax returns and processing claims from creditors.  Your executor should be someone you trust completely – and don’t forget to ask if he or she is willing to take on such a big responsibility.  Despite the responsibility, typically a lawyer and tax accounted is hired by an estate to ensure all details are properly handled and timely filing occurs.  Your executor will be responsible for hiring these experts (and others if necessary) to fulfill your wishes along with the administrative duties of handling an estate.

Dying without a will, known as dying “intestate”, means you have no say over who receives your assets and can leave your heirs and the court system the complex and costly job of wrangling over who should get what.

It’s a good idea to review your will periodically to make sure it remains current with your wishes.  Check it after major life changes, including the death of one of your heirs, the birth of a potential new heir, a significant shift in your financial situation, major adjustments to your investment portfolio, real estate purchases and sales and changes to the tax code.  Meanwhile, make sure to review the beneficiary designations on your 401(k), IRA, pension and insurance policies.

Power of Attorney

A power of attorney is a legal document authorizing one person, or persons, to act on another’s behalf.  The purpose is to assist those who are no longer able to help themselves.  However, this is a powerful document as it effectively grants your decision-making privileges to someone else.  With this document, the designated person can open or close bank accounts, transfer money, buy or sell assets (stocks and/or real estate) in your name.  As such, one must be considered when choosing who and when you assign this authority, and careful about where one stores it.

Living Will

A living will is a legal document that allows you to express your wishes to doctors in case you become incapacitated.  In a living will, you can outline whether or not you want your life to be artificially prolonged in the event of a devastating illness or injury.  In the event of an unexpected incapacitation, the living will is referenced before any life or death decisions are made – so that they are made pursuant to your wishes.

Health Care Proxy

Often combined with a living will, a health care proxy allows you to designate someone to make health care decisions for you in the event you become incapacitated.  The living will and the health care proxy together make up what’s called an “advanced health care directive”.  Your designated proxy is legally authorized to work within the bounds of your living will to make decisions on your behalf.

Trusts

Most trusts deal with specific assets, such as life insurance or a piece of property.  However, a trust does not replace a will.  A will governs distribution of nearly everything in your estate while a trust governs a particular asset for a particular purpose.

In addition to handling a particular asset, a trust can be a useful estate-planning tool for lots of people.  However, given the expenses associated with opening one, it’s probably not worth it unless you have a certain amount of assets.  A common rule of thumb is if you have a net worth of at least $100,000 and have a substantial amount of assets in real estate, or have very specific instruction on how and when you want your estate to be distributed among your heirs after you die.  If you meet these thresholds, then a trust could be for you.  Trusts are also great for minimizing estate taxes or protecting your estate from lawsuits and creditors.  Assets you want protected by the trust must be retitled in the name of the trust.  Anything that is not titled to the trust when you die will be handled by your will.

There are two basic types of trusts:

1. Living Trust – a living trust is set up during the person’s lifetime and can be either “revocable” or “irrevocable”. As the word implies, a revocable trust allows you to retrain control of all the assets in the trust.  You are free to revoke or change the terms of the trust at any time.  In an irrevocable trust, the assets in it are no longer yours, and typically you can’t make changes without the beneficiary’s consent.  However, the appreciated assets in an irrevocable trust aren’t subject to estate taxes and therefore may offer an opportunity to shelter assets for your beneficiary.
2. Testamentary Trust – A testamentary trust is set up in a will and established after the person’s death when the will goes into effect.

In addition to the “normal” type of trust, there are a number of specific trusts one could consider.  Some of these include the following:

1. Credit Shelter Trusts – Also called a bypass or family trust where your will bequeaths an amount to the trust, up to but not exceeding, the estate-tax exemption amount. Your will then passes the rest of your estate to your spouse tax-free.  There’s an added bonus, once money is placed in a bypass trust, it is forever free of estate tax, even if it grows.
2. Generation-Skipping Trusts – Also called a dynasty trust. This type of trust allows you to transfer a substantial amount of money tax-free to beneficiaries who are at least two generations your junior – typically your grandchildren.
3. Qualified Personal Residence Trusts – One can remove the value of a home or vacation dwelling from an estate and is particularly useful if your home is likely to appreciate in value so as to avoid some portion of estate taxes.
4. Irrevocable Life Insurance Trusts – With this type of trust, you can remove your life insurance proceeds from your taxable estate, help pay estate costs, and provide your heirs with cash for a variety of purposes. To remove the policy from your estate, you surrender ownership rights, which means you may no longer borrow against it or change beneficiaries.  In return, the proceeds from the policy may be used to pay any estate costs after you die and provide your beneficiaries with tax-free income.
5. Qualified Terminable Interest Property Trusts – If you’re part of a family in which there have been divorces, remarriages, and stepchildren, you may want to direct your assets to particular relatives through a qualified terminable interest property trust. Your surviving spouse will receive income from the trust, and the beneficiaries you specify will get the principal or remainder after your spouse dies.