In the pursuit of any goal, there are risks. Engaging in estate planning to avoid probate is no different.
The fact that potential harms exist doesn't mean that you shouldn't plan to avoid probate; it just means that you should make absolutely certain you are planning properly to avoid harmful mistakes.
Here's a list of four mistakes people make when planning to avoid probate:
- Failing to review and update your estate plan
- Incorrect estate planning tools
- Failure to name a contingent beneficiary
- Pre-death gifting to avoid probate
1. Failing to review and update your estate plan
When it comes to estate planning, and to planning to avoid probate, getting a great plan put into place isn't enough.
You can have a well thought out, comprehensive estate plan exquisitely tailored to meet all your goals. However, if it just sits for decades without ever receiving a "check up," it still may fail to do what it was intended to do.
In the years since you began your planning, many things could have changed, and these changes could negatively impact your plan's ability to achieve your probate avoidance goals.
For example, if you've failed to review your plans, you may miss the fact that all of the named beneficiaries on your life insurance have predeceased you. When that happens, do you know what happens to the death benefit on that policy? It gets paid to your estate.
That means that, in order to be distributed to a person or entity that you want, it has to go through probate administration. This can be avoided through proper plan reviews and updates, like executing a new death beneficiary form.
2. Incorrect estate planning tools
There are actually a lot of different ways to avoid probate. These different methods are not all created equally, however.
For example, creating a joint ownership arrangement with an asset (or assets) can potentially meet the goal of avoiding probate. But is also comes with many serious risks.
If the person you name as your co-owner becomes involved in a bankruptcy or a civil litigation case (meaning anything from a business dispute to a divorce to an auto accident), that legal action could result in you losing that asset completely.
Other avenues for avoiding probate, such as living trusts or transfer on death/payable on death designations, can give you the advantages of avoiding probate without these risks.
3. Failure to name a contingent beneficiary
Transfer on death and payable on death designations can be a useful part of some estate plans designed to avoid probate. They can also, however, be extremely problematic if not used properly.
If you make the mistake of not naming a contingent beneficiary, or not naming enough of them, then you could have a problem. If your beneficiary (or beneficiaries) all die before you do, then the asset with that transfer on death or payable on death designation will go, upon your death, to your probate estate, which will likely mean going through probate before that asset can be distributed to your loved ones.
4. Pre-death gifting to avoid probate
Some people decide that they will attempt to avoid probate simply by giving their assets to their loved ones before they die. This strategy is filled with a variety of serious potential risks. Two of the biggest potential risks are: gift taxes and impoverishment.
As far as taxes are concerned, any gift above a certain dollar amount is considered to be a "taxable event" by the government's taxation authorities. That means that it may have to be reported on tax return forms and, depending on your circumstances, it may trigger tax problems for your beneficiaries.
Depending on what type of asset it is, gifting it to your intended beneficiary could create negative capital gains tax consequences for your beneficiary should he/she decide to sell that asset later.
As far as impoverishment, life is full of unanticipated twists and turns. You may think that you have enough wealth to give away certain assets (and live the rest of your years on what's left), but unexpected changes (such as unforeseen medical problems) could mean that you find yourself without enough left to meet all of your own needs.
Many people seek to avoid probate, and with good reason. Depending on where you live, probate can be expensive, time-consuming and stressful. However, as with the pursuit of almost any goal, it is important, not just to plan to achieve the goal, but to go about it the right way.
There are many risks that exist for unwary people who go about avoiding probate the wrong way. By engaging in proper estate planning, you can achieve your goals and avoid these harmful potential traps.