Estate planning for the rest of us / Why everyone needs a will and a living trust

Bill Bischoff for MarketWatch writes: Most folks are no longer exposed to the federal estate tax, thanks to today’s relatively generous $5.25 million exemption. Great. But being exempt from the federal estate tax is not the end of the story. If you have assets (maybe just a car or two and some nice furniture) or minor children, you probably need an estate plan regardless of your tax situation. Here’s why.

Why You need a will or living trust document
If you die intestate (without a will), the laws of your state determine the fate of your assets and your minor children. So unless you have an inordinate amount of faith in your state legislature, you need a written will to make your wishes known.
In addition to a will, you may also want to set up a living trust to avoid probate.
The will
The main purposes of a will are to name a guardian for your minor children (if any), name an executor for your estate, and specify which beneficiaries (including charities) should get which assets.
The guardian’s job is to take care of your kids until they reach adulthood (age 18 or 21 in most states).
The executor’s job is to pay your estate’s bills, pay any taxes due, and deliver what’s left to your intended heirs and charitable beneficiaries.
For wills, good do-it-yourself software is readily available online.
The living trust
Another basic estate planning goal is to avoid probate. Probate is a court-supervised legal process intended to make sure a deceased person’s assets are properly distributed. Probate typically means legal fees and red tape. Also, if your estate goes through probate, your financial affairs become public information. These are things to be avoided when possible. That’s where the living trust comes in.

You establish the living trust and transfer legal ownership of assets for which you wish to avoid probate (such as your main home, your vacation property, your cars, your antique furniture, and your coin collection) to the trust.
In the trust document, you name a trustee to be in charge of the trust’s assets after you die and you specify which beneficiaries will get which assets from the trust.
You can function as the trustee or you can designate your attorney, CPA, an adult child, a faithful friend, or a financial institution. Whatever works.
Because a living trust is revocable, you can change its terms at any time, or even unwind it completely, as long as you’re alive and legally competent.

For income tax purposes, the existence of the living trust is completely ignored while you’re alive. As far as the IRS is concerned, you still personally own the assets in the trust. So you continue to report on your Form 1040 the income generated by the trust’s assets and any deductions related to those assets (such as mortgage interest on your home).

For state-law purposes, however, the living trust is not ignored. Done properly it avoids probate.
When you die, the assets in the living trust are included in your estate for estate tax purposes. However assets that go to your surviving spouse are not included in your taxable estate, assuming your spouse is a U.S. citizen. (This is thanks to the unlimited marital deduction privilege.)
I think you should hire an attorney to draft a living trust document, and you don’t have to be “rich” to need one.
Wills and living trusts are not cure-alls
The benefits of a will or living trust are obvious. However, you won’t get the expected advantages without minding the details.

• If you’re married, you and your spouse should have separate, but compatible, wills or living trusts. That’s because you never know who will die first.
• Your will or living trust should be compatible with your beneficiary designations and the manner in which your assets are legally owned. For example, when you fill out forms to designate beneficiaries for your life insurance policies, retirement accounts, and brokerage firm accounts, the named beneficiaries will automatically cash in upon your death without going through probate. The same is true for bank accounts if you name payable-on-death beneficiaries. It makes no difference if your will or living trust document specifies to the contrary. So keep your beneficiary designations current to make sure the money goes to the right places.
• When you co-own real estate jointly with right of survivorship, the other co-owner(s) will automatically inherit your share upon your death. It makes no difference if your will or living trust document says otherwise.
• If you set up a living trust, you must transfer legal ownership of assets for which you wish to avoid probate to the trust for the trust to perform its probate-avoidance magic. Many people set up living trusts and then fail to follow through by actually transferring ownership. If so, the probate-avoidance advantage is lost.
• In and of themselves, wills and living trusts do nothing to avoid or minimize estate taxes. If you have enough wealth to be exposed to federal or state estate taxes, additional planning is required to reduce or eliminate that exposure. Note that quite a few states have estate tax exemptions that are significantly below the $5.25 million federal exemption. So you could be exposed to state estate tax even though you’re exempt from the federal estate tax.

Your plan is a moving target
Things change. You may acquire new assets, win the lottery, lose relatives to death, disown relatives, take them back, and gain children or grandchildren. Any of these events could require changes in your estate plan. In addition, the federal and state estate tax rules have proven to be unpredictable. For all these reasons, you should review your estate plan at least annually and update it as needed. Now is a good time to review your existing plan or set one up if you don’t yet have one.