I invite you to experience a common conversation I have with clients regarding their estate planning:
Client: For “x” reason I want to avoid probate so I added my daughter as an owner of my house, so when I pass away, my house will not go through probate.
Me: That is true – your house will avoid probate, but in adding your daughter as an owner, you’ve made a gift, which has tax implications. At a bare minimum, you might want to file a gift tax return which may run you several hundred dollars.
Client: Alright. That’s not a big deal.
Me: Another thing – you’ve lived in your house a long time, and it’s now worth about $250k more than when you bought it. If you had not added your daughter as an owner and you needed to sell the house, you could exclude taxes on the entire $250k of gain from the sale. But since you’ve now added your daughter to the deed, if you sold it, a significant portion of the $250k gain may be taxed.
Client: I didn’t know that but . . . I’m not going to sell it anyway.
Me: What if you need to sell it, to say, pay for unexpected expenses?
Client: I really don’t think that will happen.
Me: Another issue you’re dealing with is that your family will now have to pay perhaps thousands of dollars in taxes on the gain from the sale of your house after your death. These taxes could have been avoided had you not added anyone as an owner, but rather just left it at death to the person or persons who you want to receive it.
Client: Ok, now you have my attention.
Me: Ok, you’ve also told me that you have three other children and want everything you own to be divided equally among the four children.
Client: Yes, that’s right.
Me: Well because of the way you currently have your assets titled, your children will not inherit everything equally.
Client: But my Will from 15 years ago says that my children will get everything equally. I don’t understand?
Me: It’s possible your children may inherit everything else you own equally, but after your death your daughter who is currently on the deed to your house will then have full ownership of it, and your other children will be excluded. The way you have your house currently titled will override what your Will says.
Client: I didn’t know that, but what I do know is that my children understand that everything I own is to be divided equally among them, and so my daughter will “do the right thing.” I know that after I’m gone, she will add the other children as owners.
Me: Your daughter may very well do that, but what sometimes happens in real life is that a child in your daughter’s situation will think to themselves, “I know Dad wanted everything to go to all us kids equally, but these last few years, I’m the one who’s done most of the work as far as taking care of Dad. I’ve put in more time than the others so I’m not going to give them any interest in the house.” And your daughter has no legal obligation to give your other three kids any interest in the house.
Client: I know my daughter, and she will do the right thing.
Me: Even if she does that, she also has made gifts to her siblings that have tax implications for her.
Client: I’ll let her figure that one out, when the time comes.
Me: Also, since you’ve added your daughter as an owner of your house, your house is now more exposed to creditors than it was before when you were the only owner of the house. What if your daughter gets sued or has a tax lien filed against her or gets divorced? Have you thought about what could happen to your house then? Among other things, are you okay with your son-in-law becoming a co-owner with you?
Client: I never thought of any of this before …
Something along the lines of the conversation above is not that uncommon in my world – what I call the client’s engaging in Probate Avoidance Gymnastics: A person, for this-or-that reason, wants to avoid Probate but is not willing to invest to appropriately do so and thus does something to dance around the Probate process. And, as you can see from the conversation above, what those clients often end up doing is creating more problems than they had to begin with.
Before you yourself undertake some form of Probate Avoidance Gymnastics - such as deeding property or adding a child to a bank account - consider all of the ultimate legal effects of such planning: the extent of your control of the asset during your lifetime; tax consequences including gift tax, income tax, estate tax, and capital gains tax; possible effects on your or your beneficiary’s Medicaid eligibility; and simply general disposition effects on any testamentary plans you currently have in place.
My role as the estate planning attorney is to identify these potential problems and to explain the alternative solutions, together with the advantages and disadvantages of each.
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* Disclaimer – This is not intended as legal advice. As always, you should not act upon any such information without first seeking qualified professional counsel on the specific matter.