Sign - Mistake - Oops - Graveyard - Estate Planning

7 Common Estate Planning Mistakes to Avoid

Intro

1 out of 3 US adults have an estate plan. 3 out of 3 should have one. Estate planning is one of the most important, yet most neglected responsibilities. There are many reasons for this, not the least of which is that estate planning is complicated. However, avoiding estate planning doesn’t make life’s complications disappear. In this post, we explore 7 common estate planning mistakes that you should try to avoid as best you can:

  1. Not having an estate plan
  2. Waiting until you need an estate plan to create one
  3. Not communicating your estate plan
  4. Not maintaining your estate plan
  5. Creating an estate plan that’s too rigid or specific
  6. Creating a tax-inefficient estate plan
  7. Not understanding your estate plan documents

Blog

404 Error - Missing - Does Not Exist

1. Not Having an Estate Plan

Up to Chance

The worst estate plan is often the one that doesn’t exist. Not having an estate plan can prove to be disastrous for your loved ones. Without an effective plan, you leave many things to chance in the event that you:

  1. Become disabled (in that you can’t manage your affairs) -or-
  2. Find yourself in a permanent unconscious state -or-
  3. Die

Always keep in mind that an estate plan is not for you, but for your loved ones. An effective estate plan serves to minimize the messes left in your wake and maximize the utility of your remaining assets. In any of the above events, it’s scarcely going to matter to you what happens next, but the same can’t be said for your family and others. Many families have been torn apart by such events as the following:

  1. Dad died, but forgot to change the beneficiary designations on his accounts to his current wife. Instead, his ex-wife gets his bank and retirement accounts.
  2. Mom died and didn’t specify who should get the expensive jewelry collection. This leads to fighting, theft, and permanent resentment amongst family members.
  3. Dad gets into an accident, is in a coma, and isn’t expected to recover. He doesn’t have advance directives, so the oldest child is forced to decide whether to remove life-sustaining treatment. Family members disagree, but the decision is made to “pull the plug.” Dissenters lament the decision, telling the child, “He was going to get better. You killed Dad!” This is a true story that has been personally shared with me. Don’t make your family members make these kinds of decisions for you.

Dying Intestate

What happens to your assets, personal effects, debts, dependents, etc. when you die is subject to state intestacy laws by default. You can override these laws, to some degree, by managing these aspects of your estate with a last will and/or a trust. These are also governed by state law.

When you die without a valid last will, this is referred to as dying “intestate”. Intestate cases are handled by the state’s probate court. Settling your estate through the probate court presents a number of potential issues:

  1. Children, pets, and assets may end up in the wrong hands. If you have assets, count on estranged
    family members coming out of the woodwork to try to claim them if you don’t have an estate plan.
    Trusts and last wills can be challenged as well, but not having them makes this a greater risk.
  2. The court may appoint or approve of an executor that you don’t trust
  3. The probate process can be lengthy. In the meantime, your assets are frozen. Heirs may run into
    money issues or your businesses may fail while the courts move at the speed of Congress.
  4. Legal fees. A lawyer will typically charge 10% of the value of the probated estate.
  5. If you have probatable assets in multiple states, your heirs will need to repeat the probate process in
    each state. This of course means more time and more fees for the lawyers.
  6. Many of the details of a probate case are made readily available for the public to see

Note that even if you have a trust, it’s generally prudent to have a “pour-over” last will. This serves to make the process go smoother if a probate case needs to be settled over unforeseen circumstances.

Elderly Patient in Wheelchair - Hospice Care - Estate Planning - Waiting Too Long to Create and Estate Plan

2. Waiting Until You Need an Estate Plan to Create One

This is like getting insurance when your house catches on fire, or putting on your seat belt when you’re crashing your car. If you wait until you need an estate plan, you run the risk of it being too late.

For some reason, many will flat out refuse to consider estate planning until they’re old. It’s almost as if they believe that establishing an estate plan will cause them to die or lose their immortality. You’re not delaying the inevitable by avoiding estate planning. If you wait until you’re old, you’re risking:

  1. Dying prematurely
  2. Losing your mental faculties
    1. If it’s determined that you’re no longer of sound mind, it may be too late to establish an effective estate plan.
    2. One of my attorneys had a client come in and ask for an estate plan to be set up for her father because he had developed dementia. This doesn’t automatically void your ability to set up an estate plan, but could be the case for him depending on how his dementia is affecting his ability to comprehend the decisions he needs to make.
    3. Waiting until such a time may put your estate plan at greater risk of challenges from dissenting heirs.

3. Not Communicating Your Estate Plan

Having an estate plan is of little use if your heirs don’t know what it is. Ask yourself whether they know:

  1. Who your attorney is
  2. What assets you own
  3. What obligations you have
  4. Who the beneficiaries are
  5. What life insurance policies you have
  6. What advance directives you have (e.g. living will, health care power of attorney, etc.)
  7. Where your original documents are

If you don’t have good answers for these questions, how do you expect your estate to be managed? Again – an estate plan is for your heirs. The last thing they want to do is go on a wild goose chase to answer these questions, on top of dealing with your death, because you didn’t communicate your plan. Here are some other important considerations to make:

  1. Ensure that multiple heirs have this information. This keeps people honest.
  2. Distribute electronic copies of your estate plan documents in case the paper copies are lost
  3. Make sure that revisions are clearly communicated to the correct recipients
  4. Depending on what estate planning documents you have, how complex they are, and who’s expected to administer your estate, you may need to provide some education. For example, many don’t even know what a trust is, let alone how to be an effective trustee. There may also be intentional and specific subtleties in the wording (e.g. the trustee “may…” rather than “shall…”) that your trustee won’t likely know the rationale behind.
Cracking Walls - Disrepair - Neglect - Broken Heart

4. Not Maintaining Your Estate Plan

In general, you should be considering how your estate plan is affected by significant changes in your life and make updates accordingly. This may include:

  1. Marriages and divorces
  2. Having and adopting children
  3. Moving to a new state or country
  4. Opening new bank, brokerage, 401(k), IRA, HSA, or other accounts
  5. Opening new life insurance policies
  6. Acquiring probatable assets (e.g. house, car, rental properties, etc.)

Beneficiary Designations

In one of the above examples, we discuss a failure to update beneficiaries causing an ex-wife to receive your assets. Such cases happen, and probably more often than you think. When was the last time you’ve reviewed all of your beneficiary designations? How confident are you that you know who the beneficiaries are on all of your accounts? Review these on a regular basis.

Trust Funding

Trusts are very powerful estate planning tools. Unfortunately, many create trusts with good intentions, but fail to properly fund them. This means that they don’t successfully transfer ownership of their probatable assets from their name to the trust. Such a mistake is self-defeating, because one of the key goals of setting up trusts is to avoid probate. However, in failing to fund a trust, the executor of your estate will need to open a probate case to dispose of your now-probated assets.

Although it’s not always advantageous to put every asset into a trust, your state may allow you to transfer real estate and other probatable assets upon death and avoid probate using a transfer on death (TOD) affidavit per the state’s specifications.

Legal Document - Contract - Agreement - Asset Protection - Estate Plan - Trust - Living Trust - Last Will

5. Creating an Estate Plan That’s Too Rigid or Specific

The younger you are, the more this is likely to be a problem. This is because a lot can change between now and when you die. Unless there’s a specific reason to do otherwise, you may make everything go smoother (and cheaper) by maintaining a flexible plan and giving your executor/trustee a fair amount of latitude. In addition to major parts of your life changing in ways you didn’t imagine or intend, the laws may change before you can make your final changes to your estate plan. The laws can also change after you die and cause major problems for your trust.

Here are some ideas to consider for avoiding this potential mistake:

  1. Account for future children, including adopted children, by referring to your children in generic terms (e.g. “my children”)
  2. Refer to your spouse in generic terms (e.g. “my husband”) in case you get divorced someday and remarry
  3. Account for the unexpected deaths of your heirs. Your plan should contemplate the risk that your children, siblings, and other heirs may die before they receive their inheritance.
  4. For a living trust, be careful about requiring your trustee to make certain financial arrangements, especially at a specific time, unless there is a good reason to. Otherwise, the trustee may be forced to hand distributions over to creditors or ex-spouses, provide money to heirs who are using it to feed their addictions, or liquidate assets at a time that results in a huge tax liability. Your trustee is supposed to be someone you trust to make prudent decisions in your place, so try not to tie their hands too much.

Consult with your attorney before executing your estate plan documents to make sure your plan achieves your goals and creates the right balance of control and flexibility.

Taxes - Shakedown - Theft - Mistake - Tax-inefficient Estate Planning

6. Creating a Tax-Inefficient Estate Plan

Your Property & the State

Unfortunately, we live in a world where you only “own” property to the extent that you use and dispose of it in a manner approved by the state. This is like having the right to “free” speech only to the extent that your speech is approved by the state, but I digress. Many seem to under-appreciate how complicated taxes are regarding giving property to others before or after you die. This is the case at the federal level, but may be at the state level as well depending on where you live or where your assets are located. You should do your best to understand the applicable laws regarding:

  1. Estate taxes
  2. Inheritance taxes
  3. Gift taxes
  4. Generation-skipping transfer taxes (important for grandparents)
  5. Tax treatment for inherited property as it pertains to who inherits it (i.e. your spouse and children typically get the best treatment)
  6. If things keep heading in this direction, perhaps someday there will be taxes on your taxes to worry about

Gifting Property Before You Die

A common mistake we see is giving property to your heirs before you die. This has the potential to incur additional capital gains taxes (on appreciated property) and/or gift taxes.

Appreciated Property

This is often done with a piece of real estate by adding an heir to the deed. Understand that, when you do this, your heirs inherit your [low] tax basis in the property. Alternatively, if they inherit the property after you die, they will generally receive a step up in basis to the value of the assets at your time of death.

For example, if you buy your home for $300,000, your basis is about $300,000. Right before you die, you add your daughter to the deed, causing her to inherit your cost basis of about $300,000. The property is now worth $450,000, so if she sells it, there is about a $150,000 capital gain. Alternatively, if she had inherited the property, her cost basis would be about $450,000; resulting in no capital gain if she sells the property upon your death. The difference can mean thousands of dollars in taxes when they ultimately sell the property. They won’t appreciate that (pun intended).

Note that this applies to virtually any kind of property that’s sold for a gain – not just real estate.

Gift Taxes

The gift tax is a tax on the transfer of property by one individual to another while receiving nothing, or less than full value, in return. The tax applies whether the donor intends the transfer to be a gift or not.

Feeling generous? It might surprise you to find out that giving some of your property to others may be a taxable event. In the above example, adding a non-spouse heir to your home’s deed may be a taxable gift (review the IRS’ definition above). In this example, if you’re the only owner of the property and then you add your daughter to the deed, you’ve just gifted her half the value of your property. This is, of course, assuming she isn’t compensating you for the property interest. In this case, your daughter would probably be better off inheriting your property after you die.

Among others, gift taxes may be due when giving:

  1. Significant sums of money
  2. Shares or business membership interests
  3. Basically any property of significant value to another person (non-spouse) or entity (business, irrevocable trust, etc.)

Trusts

If your estate plan includes trusts, you should consult legal and tax professionals to assess how tax-efficient your trusts are. Trust and estate taxation is complicated and can be very onerous without careful planning and consideration. You may also want to weigh options with your attorney to minimize reliance on current laws that may be perceived as “tax loopholes.” Politicians love to demonize and take advantage of the trusts and estates of those who are no longer with us. Despite the fact that you will have been taxed ad nauseum before you die, they see anything you leave behind as theirs for the taking.

Ignorance - Street Sign

7. Not Understanding Your Estate Plan Documents

Lawyers are notorious for handing complicated documents to clients that aren’t fully understood. This is mostly because the law is complex and they don’t have the time to give you the equivalent of a law degree. However, there is some degree of risk that what you may not understand about your estate plan documents may hurt your heirs.

For example, your lawyer set you up with a living trust:

  1. Is it a complex or simple trust?
  2. Is it a conduit or accumulation trust
  3. Does it effectively handle changes per the SECURE Act of 2019 or other recent legal changes?
  4. Are there holes in it in the event that you die before your children are adults?
  5. Is it optimized for flexibility and tax efficiency?

Here are some tips to help mitigate this risk:

  1. Read your documents multiple times and take notes
  2. Review your questions with your attorney and make sure you understand the rationale behind anything that isn’t abundantly clear
  3. Explain your documents to your heirs. In addition to improving their understanding, you may find that you don’t understand them as well as you thought you did.

Final Thoughts

As you can see, estate planning is complicated from an emotional, logistical, legal, and tax standpoint. However, don’t let that discourage you from executing an estate plan before it’s too late. One of the biggest estate planning mistakes you can make is not having a plan in the first place. Estate planning can become more complicated as your life progresses, so you don’t get points for delaying.

Talk to your family, attorney, and financial advisors about setting up, maintaining, and avoiding these 7 common mistakes with an effective estate plan.

Disclaimer

We are not lawyers or other legal professionals and do not practice law in any regard. Nothing in this post, our podcasts, or our website should be construed as legal or other advice. The content of this post is specific to the United States and may vary depending on your state and local jurisdiction. Although believed to be accurate as of the date of publishing this episode, some of this information may be inaccurate, may not be appropriate for your situation, or may change as the laws change. We encourage you to discuss any of this content with a qualified and competent lawyer in your jurisdiction. See our full Disclaimer for details.

Support Us

We’re an ethical company that puts our community first. You won’t find us injecting targeted ads or trackers into our website, peddling sketchy products/services, or selling our visitors’ data to 3rd-parties. As a result, our visibility and resources are rather limited.

Please consider supporting us to help keep our mission going. There are several ways to make a difference – from cryptocurrency contributions to simply sharing our content. Every bit of support is greatly appreciated and helps us make the world a more private, secure, and prosperous place.

More Great Content

  • All
  • Finance
  • Privacy & Security
  • Technology
Finance - Budgeting - Financial Planning - Accounting - Asset Allocation - Taxable and Tax-favored Accounts - Cash Finance

Asset Location: Taxable vs. Tax-favored Accounts (401k, IRA, HSA)

Asset Location (AKA Asset Placement) is a strategy for organizing your assets in an optimal way that helps you meet your financial goals. In the previous episode, we focused on asset location strategies for reducing taxes and simplifying your tax return. In this episode, we focus on asset location considerations ...
Continue →
Security - Software - Email - Computer Screen Privacy & Security

Email is Insecure – Here’s How to Improve Email Security

Email was never designed to be private or secure, so not surprisingly, it is neither private, nor secure. In the previous episode, we explained the reasons why as well as the risks inherent to email. However, email is so prevalent that it is unfortunately a necessary evil. In this episode, ...
Continue →
Planning - Concepting - Whiteboard - Tax Planning Tips - Asset Location - Asset Placement Finance

Asset Location: Reducing Taxes & Simplifying Your Tax Return

Asset Location (AKA Asset Placement) is a strategy for organizing your assets in such a way as to reduce tax burden, simplify your tax return, and manage risk. We discuss our Asset Location strategies, which includes specifics about tax treatment for growth stocks, dividend stocks, taxable bonds, real estate investment ...
Continue →
Drake - Bad Choice-Good Choice - Linux vs Windows macOS ChromeOS Technology

Linux Doesn’t Suck – Here’s Why Even Normies Should Use It

Linux has long been viewed as a science fair project for nerds. We explain why Linux doesn’t suck and why it's now usable even for normies. Some of the items discussed: Issues with Windows, ease of use, performance (efficient use of resources), hardware support, application support, OS licensing, concerns about ...
Continue →
Email - Mobile Phone - Privacy and Security - Technology - Hands Privacy & Security

Email is Insecure – Stop Using it for Sensitive Communications

Email is the primary means of sending messages and documents for many people. Unfortunately, email was never designed to be private or secure. Over time, we’ve developed several tools and techniques to help make it more secure. But at the end of the day, no matter how uncomfortable it makes ...
Continue →
Woman Shopping - Holding Shopping Bags - Retail - Spending Money Finance

What Does it Mean to be Able to Afford Something?

Most everyone will agree that you shouldn’t buy things that you can’t afford, yet so many do. Why is that? It seems to us that one of the reasons for this is because many don’t know what it means to be able to afford something. Spoiler alert – it doesn’t ...
Continue →
Scroll to Top