The importance of proper Estate Planning

Family teamwork

I suddenly feel quite grown up.

And no it has nothing to do with the fact I turn 40 years old later this month, or that my daughter started primary school this year….but everything to do with recently doing what most couples continually put off – until after Easter, or after Christmas…or until they are about to fly overseas on an extended holiday. Recently myself and my wife engaged our solicitors to prepare a thorough estate plan. And I feel great for having done it.

I probably shouldn’t admit this in a public forum but about 5 years ago I wrote our own Wills…how hard could it be right? After all I’d read hundreds of clients Wills and knew the difference between a good one and bad one. So after a few hours of writing and a couple of witnesses signatures later, all of a sudden we had ourselves some documented Wills. All without handing over any hard earned cash to solicitors. Happy days!

However it’s been said that a person who represents themselves in court has a fool for a client. It’s also been said that in life you generally get what you pay for…not to mention, we should all focus on what we are good at. Well after going to an intense Estate Planning course back in February, I came to the sudden realisation that our DIY Wills were not worth the paper they were written on…and were grossly inadequate if we wanted to pass assets to each other and then to our kids in a protected and tax effective manner.

If you are like approximately 70%+ of Gen Xer’s who don’t have a Will and don’t think you need one, read on. Believe me that making proper estate planning a priority is hugely important to protect your family along with your current and future wealth.

Firstly let’s consider the implications of not having a Will…

Dying Intestate

No, this doesn’t mean passing away on an interstate holiday or business trip…dying Intestate means passing away without a Will. But, so what if you don’t have a Will? What’s the big deal? Everything passes to your spouse and/or kids right? Sorry, but it’s not necessarily that straight forward…and the rules differ depending upon what state you live in.

In Victoria where I’m based, until recently if a person with a spouse and kids passed away without a valid Will, only the first $100,000 of “estate assets” went automatically to the spouse. Of the remaining assets, 1/3 of estate assets went to the spouse, with the remaining 2/3 of assets passing to any children in equal shares. Where children beneficiaries are under 18, then assets are held in trust until they turn 18, at which time the assets are theirs to use how they want…whether that be to have an awesome time in Vegas with at least 10 of their “newest & closest” friends, buy an expensive sports car, or possibly the unlikeliest event at age 18…deciding to invest in quality assets and set themselves up financially for the rest of their lives. Either way it’s entirely their choice.

The first two outcomes above (and even the 3rd) are far from ideal for the surviving spouse, especially if they are left with a big mortgage to pay on one income…not to mention potentially support young children. Thankfully the Intestate rules have now been changed to make more sense and protect the spouse, but this is just another example of why proper estate planning is crucial.

Components of an effective Estate Plan

Proper estate planning is far more than just a Will. Below are the key areas to cover;

  • Will
  • Enduring Power of Attorney (Personal, Financial & Medical)
  • Binding Nominations on Superannuation funds
  • Passing of control & ownership of structures such as Family Trusts, Companies & SMSFs

Wills

Of the minority of Gen Xer’s who even have Wills, too many would have drawn up Wills from the Post Office. In my opinion these are not worth the paper they are written on and are only appropriate for people with no assets and no kids. A proper Will prepared by a solicitor is the foundation of your Estate Plan.

Only assets held in a persons personal name automatically form part of an individuals Will. Importantly there are some personally held assets that don’t automatically form part of a persons Will; Jointly held assets & Superannuation.

Jointly held assets – ownership of jointly held assets (whether that be the family home or joint bank accounts) automatically passes to the remaining joint asset holder. The asset then forms part of the estate of the 2nd Joint asset holder when he or she passes away.

Superannuation – superannuation can only be paid to a spouse, children, financial dependants, or to a persons estate. Without a Binding Nomination in place (covered below), the decision on who/where to pay it to is left up the superannuation trustee. This could result in a very unfavourable outcome and not adequately protect the intended beneficiaries. Proper Binding Nominations are even more crucial if you followed my advice after reading Wealth Creation for Generation X – Protect your greatest Asset (part 1) and took out adequate levels of comprehensive Life cover and structured this so it’s paid via Superannuation.

A Will provides instructions on a number of key issues;

  • Who will be your executor (and back up executor)?
  • Which beneficiaries to pass assets to?
  • Who will the guardian of your young children be in the event of you and your spouse both passing away (this decision quite often is the hardest and holds up the process)?
  • Whether you want to be buried or cremated,
  • Whether to pass assets to beneficiaries either directly to them via a Standard Will or pass assets in Trust via a Testamentary Trust Will.

Testamentary Trust – In your Will you can either elect to have your estate assets pass directly to beneficiaries (say your spouse and/or children) via a Standard Will or to beneficiaries via a Discretionary Testamentary Trust. If assets are passed directly to beneficiaries, the assets are then held in the beneficiaries name and any income generated from those assets are taxed in the beneficiaries name. However what if your spouse remarries and then that relationship breaks down?…as per 73% of second marriages. Or what happens when your children grow up and fall in love, but as per 48% of first marriages…fall out of love? What if the beneficiary is in business and gets sued? Either way the inherited assets are not protected, as they were inherited by the beneficiary directly.

A better way, in my opinion, is to have the wording and provision in your Will to pass assets to your spouse via a Discretionary Testamentary Trust. Assets passed to a spouse (or other beneficiaries) via a Testamentary Trust can be controlled by your spouse as Trustee of the testamentary trust, and they can take income or capital from the testamentary trust as they wish…but as they don’t own the assets personally (but purely control the assets), the assets are protected as much as possible from future “2nd marriage breakdowns” and/or being sued in business. The same goes with adult children who have assets passed to them via testamentary trusts.

In addition to a high level of asset protection, another major benefit of passing assets via Discretionary Testamentary Trust/s is tax effectiveness. Income from assets within the Testamentary Trust can be distributed across the family group for tax planning purposes, just like with a traditional Discretionary Family Trust. Furthermore income distributed to minor kids (under age 18) from a Testamentary Trust is taxed at adult tax rates…with the first $18,200 being tax free. This compares with unearned income distributed to minor children from a Family Trust or bank account interest being taxed at 47% over $416. Distributing income to minor children via Discretionary Testamentary Trusts can be a very effective way to fund children’s (or your future grandchildren’s) expenses such as private school fees… largely, if not completely tax free.

Importantly in your Will you can state when children can take over control of the Testamentary Trust with their inherited assets. Ideally this is at a time when they are responsible enough to make sensible financial decisions and have some life experience (for what it is worth we chose age 27 as the age for our kids to take over as trustees of their own Testamentary Trusts…in the event of my wife and I both passing away before then. Up until 27, we’ve nominated other trusted family members to be the trustees of our kids Testamentary Trusts).

An additional key benefit of passing assets via a Discretionary Testamentary Trust/s is that like most trusts, Testamentary Trusts can have a life of up to 80 years. This means that Testamentary Trusts can be a powerful way to pass assets through your family generations in a protected and tax effective manner.

Expect to pay a bit more for a Testamentary Trust Will…sometimes significantly more depending on the solicitors – it’s amazing how different solicitors fees can vary wildly for exactly the same work. It’s important to shop around…(if you want a recommendation to high quality & reasonably priced solicitors, let me know and I’ll happily put you on to my solicitors). But, even with the extra cost over and above a Standard Will, in most cases I would highly recommend Testamentary Trust Wills to most couples, especially when they have, or plan to have, a decent amount of assets (including life insurance) and especially with children. A standard Will is typically around $500 whereas a Testamentary Trust Will is likely to be $1,000-$1,500 (depending upon individual complexity). In my mind it’s money very well spent….not only for the peace of mind of “keeping money within the family” through the generations, but also the powerful tax planning/savings that can be achieved through this estate planning structure.

There are many other considerations to keep in mind when preparing and structuring Wills, including the list below (another reason to engage a quality solicitor to do this work for you and not try to write Wills yourself or rely on a Post Office Will kit);

  • You may not be aware but Marriage voids Wills (unless prepared in contemplation of marriage).
  • What if you and/or your spouse are on your 2nd marriage and have children together and also have children from your previous relationship/s?…this is clearly very common these days. How should your Will be structured to be fair to all parties and prevent your Will being challenged?
  • What if you are on your 2nd marriage and have kids from your 1st marriage, but your new spouse has no assets and no kids that they are bringing to the relationship? If you pass away how do you ensure your new spouse has use of the home (and maybe income from other assets) while they are alive, and then when they eventually pass away have the assets pass on to your children via Testamentary Trust/s?

Where applicable, all the above are key points that can be covered in an effective Will prepared by a solicitor who knows what they are doing.

Enduring Powers of Attorney

Through a Power of Attorney you effectively give the power to another person to make decisions on your behalf as if they were you. This power ceases upon the Power of Attorney grantor passing away. The word “enduring” means that the Power of Attorney is still valid even after a person becomes mentally incapacitated…as opposed to a standard Power of Attorney which becomes void if the grantor of the Power of Attorney becomes mentally incapacitated. The main types of Enduring Powers of Attorney to have in place are Personal & Financial, and Medical.

Personal & Financial – you grant the power to another person (or persons) to make legally binding personal and financial decisions on your behalf, exactly as if they were you. Typically this person/s should be reasonably financially astute and it goes without staying…trustworthy.

Medical – you grant the power to another person to make decisions in regard to medical treatment on your behalf. Importantly this can only be one person (not multiple)…and may be a different person from your Personal & Financial Power of Attorney.

Superannuation Binding Nominations

As above, Superannuation doesn’t automatically form part of your Will. You direct the Super fund trustee to pay superannuation death benefits (including Life cover in Super) via a death benefit nomination…whether that be a Binding Nomination or Non-Binding Nomination. A Non-Binding Nomination is purely a “wish” and the super fund trustee is not bound to follow this. Alternatively, a Binding Nomination binds the super fund trustee to follow this direction. Therefore, in virtually all cases a Binding Nomination is the preferred option (as opposed to a Non-Binding Nomination).

A Binding Nomination is typically made either to a persons spouse or their Estate. Importantly a Binding Nomination to a spouse goes directly to them. This can have the benefit of by-passing the estate and probate. Sometimes Estate’s can be challenged, especially from previous spouses or estranged children. Super funds passed directly to beneficiaries under Binding Nominations are not up for grabs in the event of an Estate being challenged. However the draw back is that only assets that are paid to a persons Estate can be distributed under a Testamentary Trust via the persons Will. Unless your Will is likely to be challenged by an ex-spouse or estranged children, then more often than not – provided you have a proper Testamentary Trust Will – it’s best to direct Binding Nominations to your Estate. After all, it’s a waste of money to pay good money for a Testamentary Trust Will if your Super fund death benefit nomination (including Life insurance) is to pay directly to your spouse (or kids), and bypass your Will altogether.

The final thing to mention on Superannuation Binding Nominations is that quite often I see new clients come to us initially and at the time they have Binding Nominations of say 50% to their spouse and 25% to say their two young children (with the current spouse). Whilst this is very admirable that the new client has taken an activate role in updating their Binding Nominations and thinking of their kids, remember any money allocated to their young children is held on trust for their kids until they are 18 and then this is their money. Just something to think about if you still have a big mortgage and the 50% allocated to the spouse wasn’t enough to cover this mortgage and/or protect them financially. In my mind it’s best for couples to protect their spouse first and by extension, whether it be directly or indirectly, the kids will be protected.

Passing control of Business & Investment structures

Finally one aspect that is quite often missed in estate planning is passing of control and ownership of any structures, such as a Family Trust or private Company that either might own investment assets or operate a business. If you are the Appointor of a Discretionary Family Trust and/or the Director and shareholder of either a Company Trustee of a Family Trust or a private Company, then a proper Will should specifically cover who the successor Appointor will be and how the shares/ownership in any private companies are passed. This is especially crucial with small to medium “family” businesses to keep control and ownership with the rightful beneficiaries.

Thorough Estate Planning is also crucial for Trustees of Self Managed Super Funds (SMSF’s), as the Power of Attorney (financial) becomes a trustee of the SMSF in the event of a person becoming mentally and physically incapacitated. Additionally, the Executor becomes the trustee of the SMSF until the persons Death Benefit nomination payments are paid out. Once again the Executor and Power of Attorney (financial) should be a thoroughly trusted person. More often than not it also makes complete sense for the Executor and Power of Attorney (financial) to be one and the same person.

Make 2017 the year you finally get your Estate Planning in order. Do your spouse and your kids (if you have any) a favour and sort this out once and for all. Speaking from experience, not just opinion, it’s money very well spent for the peace of mind, “keeping money in the family” and passing on “generational wealth” in a protected & tax effective manner. In a funny way it also makes me smile knowing that if I pass away prematurely that my beautiful wife’s “future ex-husband” is not going to be able to get his grubby hands on any of the assets that we’ve worked very hard over many years to build…that alone makes it all worth it!

Matthew Morrison is the Director of Wealth Advisory at The Practice, a Personal Wealth Advisory & Business Advisory firm based in Parkville, Melbourne. Matt along with The Practice team are committed to and passionate about developing & implementing wealth creation strategies for clients to enable them to Fuel their Family’s Future (while protecting them along the journey).

Matt and The Practice team can be contacted via http://thepractice.com.au or (03) 8888 4000.

Disclaimer – the above views and ideas are general advice only and are purely the opinions of the author. It’s important that you seek professional advice tailored to your needs before taking action regarding your financial future.

2 thoughts on “The importance of proper Estate Planning

  1. Pingback: Wealth Creation for Gen X – How to plan for “success” in Business Succession Planning | Wealth Creation for Generation X

Leave a Reply

Fill in your details below or click an icon to log in:

WordPress.com Logo

You are commenting using your WordPress.com account. Log Out /  Change )

Google photo

You are commenting using your Google account. Log Out /  Change )

Twitter picture

You are commenting using your Twitter account. Log Out /  Change )

Facebook photo

You are commenting using your Facebook account. Log Out /  Change )

Connecting to %s