- The tax ‘kicks in’ when your total estate (which includes all of the property and assets you leave behind, including your retirement accounts and often the full proceeds of life insurance payable on your death) is valued at $3.5 million or more.

- Although Hawaii has no gift tax, due to a quirk in the way the law is written, your heirs may still end up paying Hawaii estate tax on your lifetime gifts, after you die. So you may have to include those gifts when determining whether the tax will apply to your estate.

- The Federal estate tax now has an exemption of $5 million per person (until 12/31/2012).So, you may not have an estate that is taxable by the IRS, but it may still be taxed by the state of Hawaii.

- Although (until 12/31/2012, if not extended) you may be able to use your deceased spouse’s unused FEDERAL exemption (that is, if he or she used less than the full $5 million exemption when he or she died, before you), there is no such “portability” of the Hawaii exemption. So if a couple does not plan properly, some of their total $7 million Hawaii exemption ($3.5 mil/spouse) could be wasted, and tax paid unnecessarily.

- If you (and your spouse together, if you’re married) have property worth more than $3.5 million, and you have will(s) or trust(s) that were prepared before 2010, your heirs may end up having to pay a hefty Hawaii estate tax if you don’t have your documents REVIEWED and UPDATED to plan for this ‘zombie’ tax.

- Properly drafted documents can help you to avoid any tax (even the zombie tax) when the first spouse dies, and to use both exemptions fully, to avoid paying any unnecessary tax.

- There are ways to avoid or minimize the taxes paid (both Federal and State), even you have a very large estate.

So, if you have not had your documents reviewed by an experienced estate planner in the past two years, you should do it now – or the Zombie Tax may devour your estate!

The new, improved “Permitted Transfers in Trust Act,” effective July 1, 2011, provides a welcome alternative for Hawaii residents, and non-resident owners of Hawaii real property, who are looking to shelter some of their assets from future creditors. Unlike the prior version of the law (which had much in common with many “1.0″ versions of software, i.e., lots of bugs), the new law allows real estate to be put into a Hawaii asset-protection trust; eliminates the requirement that the trust property comprise no more than 25% of the settlor’s net worth; and – most significantly – repeals the 1% tax imposed on transfers into these trusts, which had rendered the prior law “dead on arrival”.

The new law allows the creation of an irrevocable trust, the corpus of which will, after two years, be protected from all new claims against the settlor except for  specified exceptions: alimony or child support; property division on divorce, IF the transfer into trust was made during the marriage or in some cases, within 30 days prior to it; personal injury or property damage claims arising from acts that occurred before the transfer into trust; debts secured (expressly or impliedly, not exactly sure how that will be interpreted) by trust property; and tax liabilities.

The settlor may retain significant powers and rights, including the power to veto distributions, to serve as investment advisor, to replace a trustee or advisor, a testamentary limited power of appointment, the right to all income (or to a unitrust amount not to exceed 5% annually), and the right to distributions in the discretion of the trustee, without losing the desired creditor protection.

Even if creditor protection is not required or desired, a trust that conforms to the statute may be of perpetual duration – thus, obtaining all of the benefits of a trust structure for multiple generations (i.e., a dynasty trust).  Specific allowance is made for the necessary provisions of a QPRT or GRAT, so that those types of trusts can also take advantage of the benefits conferred by the new statute. And, property held by a married couple as ‘tenants by the entirety’ will not lose the benefits of that tenancy when it is put into one of these trusts.

If you are concerned about the vulnerability of your property – including what we all hold so dear, that “little piece of Hawaii” that is our home or our living, in the form of business or rental property – to potential, future claims of creditors, OR if you would like to create a permanent legacy for your family in the form of a dynasty trust, that can carry the benefits of your hard work or good fortune through many generations, you might want to consider setting up a Hawaii asset-protection trust.   It is never too soon to get that two-year ‘statute of limitations’ running!

If you converted some or all of your IRA accounts to Roth IRAs in 2010, or plan to do so this year or in the future, you will be looking at a hefty add-on to your income tax bill in the near future. If you converted in 2010, and accepted the default of deferring the income recognition to 2011 and 2012, you may not have been thinking about those checks you will have to write to the IRS in 2012 and 2013.  But alas, time marches ceaselessly forward, and you’ll soon be feeling that deferred pain.

So, what if I told you that instead of paying all that cash over to the IRS, you could donate a chunk of it to your favorite charity instead?  That you could send it to the Red Cross to help with the Japan relief efforts, to the SPCA to save little puppies and kittens, to an organization that fights cancer, AIDS, or another nasty disease? Now maybe with our deficit being what it is, you might feel OK about sending your check to the IRS. But if you’d rather support your church, school or another tax-exempt charity over the next several years, while getting a hefty income tax deduction now to offset that pesky Roth income, read on.

Any gift to charity will generate a tax deduction. But with a straight gift, you deduct exactly the amount you give, when you give it. To get an $80,000 tax deduction now, you’d have to give away $80,000 now. That money would no longer be earning interest or dividends, or growing in value as it would if invested in growth stock, art, or other appreciating investments – it would be gone.   But with a charitable trust, you can accelerate the deduction into the year when the trust is established, but actually hand over the money in the future, with it continuing to grow or generate income in the meantime. This can have tax and financial benefits for both you and the charity.

Either a charitable remainder trust (where you place assets in trust, draw back payments over time for yourself or your loved ones, with whatever’s left at the end of the annuity period going to the charity) or a charitable lead trust (where the assets are placed in trust, with payments going to the charity for a period of years, and the remainder coming back to you or going to your chosen beneficiaries) can generate a sizeable income tax deduction in the year that it is created.  Because the applicable Federal interest rates are low, a charitable lead trust is more favorable now, while a charitable remainder trust tends to be better when the rates are higher. (Consideration should also be given to potential estate tax issues, which are not addressed here.)

Ordinarily, the amount of charitable deduction that you can claim is limited by your AGI (adjusted gross income). But when you do a Roth conversion of a few hundred thousand dollars, that amount will be included in your AGI for the year of the conversion (or, if you converted in 2010, half of it can be included in your 2011 AGI and half in 2012). So that will greatly increase the amount of charitable deduction that you can take for the year, as well.  If you have other income equal to the amount of Roth conversion income, and you have the money available (not including what’s still in your retirement accounts) to fund a charitable trust, it’s possible that you could get a charitable deduction to completely offset the additional Roth income!

Here’s an example. Let’s say a taxpayer has liquid assets of $500,000, not including retirement funds; AGI (not counting Roth conversion income) of $150,000; and has converted $400,000 of IRAs to Roth IRAs in 2010.  The conversion would add about $200,000 of taxable income to the taxpayer’s AGI for 2011 (and the same amount in 2012). So instead of having AGI of $150,000, he would have $350,000 (and would now be in the 33% bracket, rather than 28%, depending on deductions). Ouch. And even ouchier if you have state income tax to worry about as well.

But let’s say that Mr. Taxpayer now takes $250,000 of his liquid assets and establishes a Charitable Lead Trust to benefit his favorite charity, the Kauai Robotics Alliance (KRA) (MY favorite charity) for the next 10 years.  If the funds are invested to earn 6% annually, and the trust pays out 12,500 annually, the KRA will get $12,500 per year for 10 years, a total of $125,000. At the end of the 10 years Mr. Taxpayer will get back $282,951.  And this year, when he needs and can use it, he will be able to take a charitable income tax deduction of about $110,000.  That will reduce his extra taxable income by $110,000, saving about $36,000 in Federal taxes (and possibly more in state taxes) and getting $125,000 to the little robot builders (they might even name their next robot after Mr. Taxpayer).   He could set up another trust in 2012, to offset the other half of his Roth conversion income, and benefit a different charity. With two such trusts, Mr. Taxpayer would have donated $250,000 to his favorite charities, at a net cost to him of only about $177,400, thanks to the tax savings. If state income taxes are about 7.5%, there would be an additional $16,500 in state tax savings).

Now, there is a little downside.  To get the income tax deduction when the trust is funded, Mr. Taxpayer must sign on to pay the tax on any income earned by the trust during the 10-year period. If the trust earns 7% per year,that will add about $17,500 (for each trust, or $35,000 for both) to his taxable income each year.  That can be avoided if the trust invests in tax-exempt bonds, or reduced if the income is in the form of capital gains (taxed at a lower rate). Even if not avoided or reduced, it still serves to ‘spread the pain’ of the additional tax over many years, rather than having to pay it all at once, immediately.

So, if you have made a Roth conversion (or plan to make one), and the IRS is NOT your favorite charity, you might want to talk to your advisors about setting up a charitable lead trust to shift some of that booty away from the government coffers, and into the hands of your favorite charities.

Fortunately, most of us haven’t had to worry about estate or inheritance taxes – for years now, they have only affected those who are pretty well-off.  In 2009, only those with taxable estates over $3.5 million had to pay a tax, and for several years before that, the limit was $2 million. In Hawaii, there has been no estate tax at all since 2005, and even then it didn’t “hurt,” because there was a Federal credit that offset the entire tax paid.  But all that is going to change in 2011. (In fact, some of it has changed already.)

If Congress doesn’t act before the end of the year, beginning on January 1, 2011, a Federal estate tax will be owed by anyone leaving a taxable estate of just $1 million or more. If you own real estate and even a modest retirement account, or some life insurance, your estate will most likely be close to or over $1 million, even if you don’t think of yourself as “rich” at all.  And if your only major asset is real property, or a business, worth over $1 million, then your heirs may have to sell or mortgage that property, or liquidate the business, just to get funds to pay the estate tax.

Also, remember, if you have made any taxable gifts – gifts to anyone other than a spouse or a charity, exceeding the “annual exclusion” amount (which has ranged from $10,000 to $13,000 per person per year) – the value of those gifts will eat into your $1 million exemption. So if you gave your son a parcel of property worth $300,000 while you were alive, you would only be able to pass an additional $700,000 at your death.

There ARE things that you can do to minimize these taxes. If you have a life insurance policy – many people don’t realize that while life insurance proceeds don’t incur income tax, they are often counted when determining estate tax – you can often get those funds out of your estate, for tax purposes, by putting the policy in a trust designed for that purpose. If you have a taxable estate that includes life insurance proceeds of just $200,000, setting up this trust now can save your heirs over $100,000 in taxes when you die!  If  a home or business is your major asset, you may be able to remove a portion of its value from your estate.  And if you have stocks, bonds, mutual funds or other investments, there are ways to minimize or eliminate the tax burden when passing on those assets, too.  But none of these things will happen unless you take action now.

What about the Hawaii tax? Well, it has already come back, for those dying on or after May 1, 2010, with taxable estates over $3.5 million.  If your estate is not that high (remember to count your retirement accounts, life insurance on your life, personal property such as cars, art, musical instruments, collections, etc., and the full value of property and accounts you hold jointly with others), then you don’t have to worry about an additional Hawaii tax just yet.  But you should be aware of it when you are planning, just in case your estate grows over time or the State Legislature gets even more greedy and decides to lower its exemption amount.

Naming Beneficiaries

Beneficiaries are typically named on a form that you fill out when you first get the account, and you can usually change them later on by filling out a similar form. If you are married, your spouse may have to sign also if you want to name someone else as beneficiary. You may be able to name more than one beneficiary, and indicate the portion of the account that will go to each (so you could split an account between several children, equally or unequally, or give a portion to charity).

If you have completed the forms necessary to name a beneficiary for the account, it’s easy for the beneficiary to claim the account after you die, simply by providing the plan administrator with proof of your death and proof of his or her identity. (For this reason, you should keep copies of your beneficiary designations, and the name and phone number of the plan administrator, in a place where your beneficiaries will be able to locate it quickly after you are gone. If you don’t have this information, you may be able to get it from your employer’s human resources department.)  If you have not named a beneficiary at all (or if the named individuals have died before you), the account will pass to your heirs, but it will take longer and could require a costly probate proceeding.

Even after you have named beneficiaries, it is important to review that information periodically. If your family situation changes (someone dies, marries, divorces, etc.), it is very important to check the beneficiaries of all your accounts (not only retirement accounts, but also “pay on death” bank and investment accounts, and life insurance), and make any necessary changes.  For example, if you divorce but don’t remove your former wife or husband as a beneficiary, he or she may still get the account when you die.

Maximizing the Financial Benefit of Tax Deferral

One of the biggest financial benefits of these retirement accounts is that no tax is paid on the money before it is put in, or on the interest it earns, until a withdrawal is made.  Consider an IRA with a balance of $100,000, earning 5% per year; if no withdrawals are made, after 30 years the balance will have grown to over $430,000.  (By way of comparison, if the $100,000 was removed from the IRA and then invested at the same 5% rate, with taxes paid on the withdrawal and on the earnings every year at a 30% rate, at the end of 30 years the balance would only be $196,475.)

Thus, it is clearly a good idea for someone who has inherited this kind of account to leave the money in there for as long as possible.  Uncle Sam wants his tax bite, though, so the law requires that a beneficiary start taking the money out shortly after the original owner dies. The required annual withdrawals are called a “required minimum distributions” or RMDs.  Depending on WHO inherits the account, and how old they are, the money may have to be taken out very quickly, or may be able to be left in for a long time.  So, it is important not only to name a beneficiary for the account, but also to select the right beneficiaries. As a general rule, a younger individual beneficiary will be allowed to take smaller RMDs, and thus keep more of the money in the tax-deferred account for longer.  A 19-year-old beneficiary, who takes only the RMDs every year, would be able to take over $650,000 over his lifetime from an account that held $100,000 when he inherited it.  A 58-year-old beneficiary, on the other hand, would take only $194,000 from the same account.

In addition to the hassle of a probate proceeding, failing to name a beneficiary has another downside -  regardless of who eventually gets the money, it will most likely have to be paid out fairly quickly.  This will not only cause the beneficiary to lose the advantage of tax-deferred growth, but he or she will have to pay income tax on the larger required withdrawals, which could push the recipient into a higher tax bracket.

A Word About Trusts

In recent years, many people have become aware of the benefits of using a “revocable living trust” as a way to plan for their death or incapacity.  If you have such a trust, you have probably been advised to place many of your assets into the trust.  What about retirement accounts? A retirement account should never be owned in the name of a trust, but the trust could be named as beneficiary.

Is this a good idea?  It could be the best thing to do – or it could be the worst.  If you name your trust, or a trustee, as beneficiary, and the trust is not specifically designed for that purpose (most basic revocable trusts are not), the entire account balance may have to be paid to the trust within five years of your death, and the trust may then have to pay income tax on the proceeds at a very high rate (approaching 45%, when both Federal and State taxes are considered), leaving much less for the people who were intended to benefit.   For this reason, you should NEVER name your trust as beneficiary of a retirement account without first seeking advice from an experienced professional, who is familiar with the complex laws relating to retirement accounts and has reviewed the terms of the trust carefully.

Sometimes, however, if it is done properly, it can be very good to name a trust as beneficiary.   Why is this? Well, just because a young individual beneficiary can leave the funds in the account for a long time, taking only small RMDs, does not mean that they will.  The RMD law only establishes the minimum amount that must be taken out, it does not set a maximum.  Most of the time, a lump-sum payment option is available, and any named individual beneficiary over the age of 18 can simply empty the account immediately after the account holder’s death.  Many young people who inherit these accounts do just that, and in most cases, substantial taxes are paid and the remaining funds are spent rapidly.  (Consider the typical 19-year-old – if told that he can take a small payment every year, get over $200,000 by the time he’s 60 and still have over $250,000 left In the account, or can have $70,000 now, which do you think he’ll choose?)

Naming a properly prepared trust as beneficiary can allow you to put some limits on your beneficiaries’ access to the funds – either until they have reached a certain age, or by limiting the things they can use the money for, such as education, health care, buying a home or starting a business – while still obtaining the benefits of a long tax-deferral.  An experienced estate planner can help you decide if this solution is appropriate for you.

Charitable Options

Lastly, if you are thinking about making a charitable bequest from your estate, you may want to consider making that gift from a tax-deferred retirement account. Because the charity will not have to pay income tax on the money, this can maximize the total amount passed on to your loved ones, by cutting out the payments that would otherwise be made to Uncle Sam and the State Tax Department if retirement accounts were paid to individuals.

I recently set out to find Hawaii’s answer to that question, since it differs from state to state. In NY, for example, as in many states, there is a specific statute that determines who has the right to determine the disposition of a dead body. I had a chance to become very familiar with that statute when working on a case (Maurer v Thibeault) where the decedent’s husband – who was under suspicion of having murdered her – wanted her body cremated and scattered on “their” farm, while her mother insisted that she would have wanted to be buried in the family plot, with her father, and as far away from the ‘estranged’ husband as possible.  The court found that this situation provided an exception to the general rule (in NY) that one’s spouse gets the final say, and allowed the mother to carry out her plans. (The husband was later convicted of having murdered his wife, and sentenced to 25 years to life; an appeal was taken and the conviction was affirmed.)

Back to Hawaii – where, my research revealed, there is no statute governing this issue. Nor does there seem to be much (if any) Hawaii case law on the subject. So where does that leave us?

Well, it leaves us with the general common law, which Hawaii courts tend to follow in the absence of other precedent. In this case, before states began to enact statutes governing the issue, there does seem to have been a general consensus that the wishes of the decedent – insofar as they can be determined – are to be the “final word” in determining what becomes of his or her remains, and that such wishes may be expressed in one’s Will, in any other writing, or even orally to one’s family or friends (but see below for the pitfalls of failing to put your wishes in writing).

This proposition finds further support in a detailed Hawaii statute governing the making of “anatomical gifts,” that is, the donation of all or part of one’s body for teaching, research, transplantation or therapy. In that statute, the Legislature has essentially declared that the decedent’s wishes – at least those put into a writing that clearly expresses an intent to make, or “refuse” to make, an anatomical gift – will usually prevail. In addition, that statute expressly provides that such declarations, if made in someone’s Will, are controlling, even if (as would most likely be the case) the Will has not been admitted to probate at the time the “gift” is to be made.

It therefore makes sense to presume that a Hawaii court, faced with a similar decision regarding the final disposition of remains outside of the context of an anatomical gift (i.e., a decision regarding whether to bury or cremate, where to bury or scatter, or the like), would also tend to follow the decedent’s expressed wishes, and to give special accord to such wishes expressed in a formally executed and witnessed document such as a Will.

But there are some practical problems with putting these wishes (only) into your Will. In most cases, decisions about disposition of a body must be made very shortly after death, at which time the decedent’s Will may not have been found. Many people do not think to look for, or look at, a Will until days or weeks (or even months) after the immediate arrangements have been made and carried out. Of course, if there is a dispute between children or other relatives, some or all of them may go looking for a Will to support their position. But what if you want to be buried in your old family plot on the Big Island, and not knowing that, your children elect to have you cremated and scattered at sea? Will they think to look in your Will to determine your wishes?

Probably not, if you have not talked to them about the subject.  And that brings me to my recommendations for dealing with this difficult subject.

First – Three steps to improve the chances that YOUR wishes will be followed after you’re dead:

(1) Place your wishes in writing, both in your Will and in another, separate writing. In that separate writing, spell out all of your wishes and desires. It is also a good idea to specify a single individual whom you would like to make decisions about issues that you might not have considered, or to resolve any disputes regarding specifics. Such a designation may not be legally binding, but any court would surely give it some weight if it is convinced that you were legally competent when you made the nomination, particularly if the nominee is one of the individuals involved in the dispute.

(2) Give a copy of the separate writing to a trusted friend or advisor (not to a family member or the individual nominated as decision-maker)

(3) Discuss this issue with everyone who might get involved in that type of decision-making after you’re gone, and make sure that they know that you have recorded your wishes in writing, and the identity of the record-keeper.  That way, everyone will know that there is a record of your wishes, and that if they advocate a different course of action, or insist that you wanted something different, that others will be able to counter by producing your written, signed document.  This should minimize the likelihood of a challenge even occurring, and increase the probability that if there is a challenge, your wishes will prevail.

Another way to make your wishes known, and to increase the chances that they will be followed, is to buy the services that you want now. If you have paid for a casket and a cemetery plot, it is less likely that someone will convince a court that you really wanted to be cremated.  You have, in essence, created not only a written record of your wishes (in the form of your purchase contract), but have ‘put your money where your mouth is’ and made it more costly for someone to deviate from your plan than to follow it (which will cost them nothing, as you have already paid). This can be a strong incentive!

Lastly, it has been suggested that perhaps you could draft your Will or Trust so as to punish someone who fails to follow your wishes (or reward someone who does follow them). “I leave to my son Tom the sum of $15,000, but this gift shall be null and void unless my body has been cremated and the ashes scattered in Waimea Canyon within three months of my death.” This certainly provides a strong incentive to ‘Tom’ to carry out your desires, but it could lead to unanticipated consequences. What if it is impossible to carry out your expressed wishes? What if, when you die, it is not permissible to scatter ashes in the Canyon? What if you disappear while on the ocean and your body is never recovered?  A better provision might be, “to Tom, but only if (1) my wishes, as set forth in Paragraph X, have been carried out, or (2) Tom has taken all steps reasonably within his  power to ensure that those wishes are carried out, insofar as possible.” But again, does that require that Tom go to court if another individual wants to have you buried at sea? If he loses, must he take an appeal? Who decides what is “reasonably within his power”?

OK, now that you’ve taken steps to ensure that your wishes are carried out, that brings us to the next question: what to do if you’re involved in a dispute over the disposition of a loved one’s body?

Remember that a court is likely to attempt to determine what the deceased person would have wanted, and to carry out those wishes. The best evidence you can present will be a writing by the decedent. If you don’t have one, then be sure to check that person’s Will (or even a living trust) to see if they have left instructions there. Sometimes instructions are placed WITH (but not in) other Estate Planning documents, in a folder or binder. These documents may even be saved on a computer or a CD. The attorney who prepared such documents will usually have a copy; if you don’t know who might have prepared such documents, check with local attorneys or the local bar association (they can send a note to all of their members to locate a Will or Trust, if the identity of the preparing attorney is unknown).

If there are no written instructions left by the decedent, then the court will look for other evidence of his or her wishes. This could be in the form of oral statements made to friends or family. But be aware, that such evidence can prompt a “he said, she said” kind of wrangling – it is easy to testify that the decedent “told me he wanted to be cremated,” if that is what the witness would like to occur. If you can substantiate such testimony in any other way, it will likely carry more weight. The court will also determine who to believe – who is more “credible” – by considering the witness’s stake in the matter (is the person who will be paying advocating for a less-expensive option?), the level of detail provided, the number of people testifying similarly, and a host of other factors.

If the dispute does devolve into such a “he said, she said” battle over what the decedent intended, or if there is simply NO evidence of what he or she might have wanted, then a strong argument can be made that the court should take a “priority” approach to determine whose opinion will prevail. The anatomical gift statute provides (similar to the NY statute mentioned earlier) the following list of those with decreasing “priority” in making decisions about anatomical gifts:

(1)  An agent of the decedent at the time of death who could have made an anatomical gift under section 327-4(2) immediately before the decedent’s death; {This is a person who has been named as the individual’s agent in a health-care power of attorney or similar instrument}

(2)  The spouse or reciprocal beneficiary of the decedent;

(3)  Adult children of the decedent;

(4)  Parents of the decedent;

(5)  Adult siblings of the decedent;

(6)  Adult grandchildren of the decedent;

(7)  Grandparents of the decedent;

(8)  An adult who exhibited special care and concern for the decedent;

(9)  The persons who were acting as the guardian of the person of the decedent at the time of death; and

(10)  Any other person having the authority to dispose of the decedent’s body. {Interestingly, I could locate no other statute, with the exception of those dealing with “unclaimed bodies” and the like, that defined WHO “has the authority to dispose of” a body!}

There is no reason why any different priority or order should apply to other decisions about a person’s body, such as whether to bury or cremate. Moreover, a similar approach is taken in many other Hawaii statutes related to surrogate decision-making, including those determining who has “priority” to serve as personal representative of an estate, or as a person’s guardian or conservator. There is therefore ample precedent for according different individuals different “priority” in making this type of decision, based on their familial relationship to the decedent, and for putting an individual nominated by the decedent ahead of all others.

So what IS a trust?

A trust is an arrangement whereby one person or entity, the “trustee,” is given title to and control over some assets (the “trust property”), which are to be invested, used, and distributed for the benefit of one or more other people (the “beneficiaries”). The trust document lays out the “rules” for how the trustee is to hold, invest, manage, and distribute the trust property. The trustee has a “fiduciary duty” – a very strict, legal duty – to follow the terms of the trust document, and to act in the best interest of the beneficiaries. A trust document can give the trustee a lot of discretion in handling the trust funds, or it can be very detailed and impose lots of limitations and requirements.

For example, you could place your mutual fund account into a trust, for the benefit of your children, with your sister as trustee.  The trust could give the trustee (your sister) the right to change the investments, to sell the mutual funds and buy some investment real property, or stocks, or just put it into a bank CD earning interest. The trust could leave it totally up to the trustee whether, and when, to distribute funds to your children. That way, your sister would get to decide who gets the money, for what, and when. If one child needed money for college, and another wanted to start a business, your sister would decide whether to sell trust assets and give them the money. If one child developed a drug problem, the trustee could cut him off completely, or provide funds for a rehab program. But it would be up to the trustee to decide. As long as she didn’t take the money for herself, gamble it away, or do something else that violated her fiduciary duty, she would be entitled to make the decisions in whatever way she saw fit.

On the other hand, you could set up a similar trust, but be much more specific in the trust provisions. You could require that the sister only invest in mutual funds or municipal bonds. You could require that distributions of a specific amount be made to each child on his or her 21st birthday, or that the funds be used ONLY for education or health purposes. You could specify that a child would get a specific amount upon getting married, having a child, or graduating from college. You could put limits on how much each child could get each year. The types of terms and limitations that you can put into a trust are really endless – of course, there are drawbacks to being TOO specific, but a qualified planner can explain these to you, and can also suggest ways to meet your goals while still giving the trustee enough discretion to deal with unexpected circumstances.

Ordinarily, there is no court involvement in establishing or administering a trust. A court can get involved if your trust document is not clearly written, or if a situation arises that is not addressed in the document. (This is why it’s important to have an attorney draft your trust. The forms and packages available in books and on the internet can provide a good starting place, and can help you think about possibilities, but you should meet with a skilled professional before actually executing a legal document as important – and powerful – as a will or trust.)

A court can also get involved if your trustee does not follow the terms of the trust, or acts in a reckless way that hurts the beneficiaries. The beneficiaries can bring a court action to make the trustee account for his or her actions, to recover amounts lost because of the trustee’s wrongdoing, and/or to remove the trustee and have someone else appointed. This is rare, but it can be nice to know that the trustee cannot just do whatever he or she wants, with no regard for the beneficiaries. It also makes it important to consider carefully who you designate to be your trustee(s), and to make sure that they understand what will be expected and required of them (more about that in a future post).

Some trusts can be “revocable,” allowing you to take the property back from the trust, or change its terms, at any time.  Revocable trusts can be very similar to a will, in that you can change your mind about the trustees, beneficiaries, or terms at any time before you die, but still have many advantages over a will.  An “irrevocable” trust cannot be changed or “undone,” but sometimes this is necessary to obtain tax savings, creditor protection, or other benefits.

You might want to consider talking to an attorney about setting up a trust if:

- You want to avoid the need for a court proceeding to determine who will manage your affairs if you are incapacitated, or want to specify who that will be, or provide guidance and rules for them to follow;

- You want to avoid a period of “limbo” for the first few weeks after your death, when no one may have the right to access your accounts, communicate with creditors, or take other necessary actions to wind up your affairs;

- You don’t want your children or other beneficiaries to receive their entire inheritance immediately upon your death, in a lump sum, that they can use or spend on anything (this applies to your retirement accounts, too – look for more information on that subject in a future post);

- You have minor children or beneficiaries, and you don’t want them to get their entire inheritance upon turning 18;

- You want your assets to be used for whichever child or children have the most need, until they are all adults, then the remainder divided equally (for example, if you have paid for college for one child, but have another still in high school, it might be unfair to distribute your estate equally between them; you might prefer to have the funds held in trust, and used for the younger child’s education, before dividing the remainder between the children);

- You have a child or other beneficiary with special needs, or who is receiving or may receive government benefits;

- You only want your assets to be used by your beneficiaries for some things, not for everything and anything they may desire;

- You are concerned about your assets being taken by your beneficiaries’ future ex-spouses, creditors, or individuals who may sue them;

- You want to provide for your spouse, but make sure that upon his or her death, what is left of your assets goes to your children or other beneficiaries, not to your spouse’s family or a future spouse if he or she remarries;

- You want to remove assets (including the proceeds from life insurance policies)  from your taxable estate, to minimize estate taxes;

- You want to protect your assets from your own potential future creditors (especially if you are engaged in a profession or activity that poses a large risk of being sued);

- You want to pass assets to others so that you may qualify for Medicaid assistance for long-term care in the future;

- You want your loved ones to be able to distribute your assets according to your wishes, without requiring a court proceeding, or without making the terms of your distribution public.

There are many, many other situations where a trust can help to accomplish your goals. In fact, as I was compiling this list I started to feel as if I could go on all day! If you want more information about trusts, feel free to contact me or another estate planning attorney.

There are some viable asset protection mechanisms available, but the key is to take steps to protect your assets when you are not in, or even anticipating, any financial trouble.  If you are already in trouble with the tax man, falling behind in your payments, or have just been involved in a car accident, it’s probably TOO LATE to obtain any substantial protection.  Any attempt to shift ownership or control of assets at that point can probably be set aside by a creditor as a “fraudulent transfer”.  In most states, it is safest to take asset protection steps at least four years before trouble starts brewing; in some situations, creditors can reach back as far as 10 years to undo a transaction!

Many people get into serious trouble by trying to devise and implement their own “asset protection” ideas. People trying to hide assets in a divorce, or when they anticipate a lawsuit, sometimes enter into an informal agreement with a friend or relative to hold title to property “until the coast is clear”. While somewhat appealing on the surface, this all-too-common arrangement can have disastrous consequences. What if the title holder gets into trouble himself, and the asset is seized by HIS creditor? What if the friend is involved in a car accident and a big judgment is entered, which automatically becomes a lien on the property? What if he hasn’t paid his taxes, and the IRS slaps a big lien on “your” property?

There are several different ways that you can legitimately protect your property without falling into these traps. The simplest is, of course, insurance – purchase coverage for possible occurrences that could create a risk of losing your property. Another very good way to protect assets is to actually have someone else do it for you – if you anticipate receiving property from an inheritance or gift, talk to the donor about giving the property to you in the form of a trust that has ‘spendthrift’ protection. While you can’t usually shield assets that you already own in this way, others can provide you with very effective protection when they give you property by gift, or through their will or trust when they die. (You can also do this for your beneficiaries, protecting the things they inherit from you against claims by their creditors, and even potential divorce-related claims by their future-ex-spouses. Talk to your estate planner about how to do this.)

Using ‘limited liability’ entities – LLCs (limited liability companies) and corporations -  with proper structure, formalities and sufficient capitalization, can very effectively shield your “outside” assets (assets you own personally, not within the entity) from “inside” liability (liability generated by the activities or assets of the entity). For example, if your rental property is owned and operated by a corporation, and someone slips and injures themselves on the property, they can recover a judgment against the corporation, but your personal, non-corporate assets will not be available to satisfy that judgment.

In some circumstances, these entities can also provide protection for the “inside” assets (owned by the entity) from your “outside” liabilities (those you incur personally, not related to the entity’s business or operations). This is not complete protection – depending on the way the entity is set up, and the jurisdiction in which it is established, your creditors may be able to reach some or all of the property owned by the entity. But in some cases, if done correctly, it can be fairly effective, and will certainly create an additional hurdle for the creditor to clear before being able to take your property.

This brings us to an important distinction between two different types of asset protection – what I like to call “complete” (or almost complete) protection, and “hurdle” protection. With a mechanism that provides complete protection, if the right steps are taken, at the right time (WELL BEFORE there is any indication of financial trouble), the creditor will simply not be able to access the asset at all. With “hurdle” protection, you’re not putting an impenetrable wall around the asset, but merely making it more difficult, expensive and time-consuming for the creditor to access it. This often induces the creditor to settle the debt for a lower amount, sometimes substantially lower.

An important thing to realize about asset protection is that generally, the more protection you want to obtain, the more control you must relinquish over the assets being protected. So if you are willing to give your assets away completely, and do so well before any creditors loom, the creditors will most likely be unable to access them – but so will you! The trick is finding the right balance of protection and control. Properly using a trust or other entity specifically designed for this purpose – particularly in a jurisdiction where the laws have been crafted to provide superior protection from many kinds of creditors – can sometimes provide that balance. But that level of protection is neither cheap, nor necessarily foolproof.

Other strategies that can be successful, depending on the circumstances, are shifting assets to forms that are protected from many types of creditors (such as life insurance, certain retirement plans, homestead property or the ‘tenancy by the entirety’ form of ownership in states that shield such property, etc.); or using trusts and other kinds of entities, even in states that don’t shield such assets completely, as “hurdle”-type protection.

But if you are worried about protecting your assets from FUTURE claims, NOW is the time to seek competent advice about how to do so.  Once a lawsuit is filed, or bills, judgments, and foreclosures are raining down, it’s way too late to fix this potential “hole” in your planning strategy.

(Of course, it is undoubtedly true that “real wealth” and “riches” encompass much more than just physical or financial ‘stuff’, and most of us here in Hawaii have a surfeit of things that many people would consider “true riches” – beautiful surroundings and weather, delicious food, flowers, music and culture, our kupuna and keiki (and all of our ohana), a laid-back lifestyle, and so much more. But this post is about the boring ‘stuff’ we all have: money, property, and debts. We can get back to that other stuff later, particularly if we’re needing something to help us forget the financial realities.)

So add up your stuff.

First, there’s any real property (houses and land) that you own. Your house (if you own it, not if you rent), any ‘vacation’ homes, and any investment property. Timeshares too. For each property, take what you think is the market value (go by the tax assessment if you don’t know; tax assessment data is available here for properties on Kauai, by address or TMK), then if there is a mortgage loan (or more than one), subtract the loan balance(s) still due from the value. (If you have a partial interest in property (say, 50%), take that percentage of the value, and subtract the same percentage of the loans.)

Next are any and all bank accounts. Checking, savings, CDs. Add them all up. Add any investment accounts, mutual funds, stocks, bonds, all that stuff. Don’t forget your retirement accounts that have a balance, like IRAs, 401(k)s, and ‘defined contribution’ pensions (even if you’re years away from retirement). If you have a pension that’s a ‘defined benefit’ plan (those with a payout based on your years of service and average salary, rather than how much you or your employer put in), then if it has a ‘death benefit’, make a note of that (but don’t include it in your tally for now).

If you have an annuity (or more than one), add the values of those.

If you have life insurance, add its cash value. (Make a note of the death benefit, and if it’s term or ‘whole life’, but don’t add the death benefit yet. We’ll come back to that.)

Now cars; guesstimate their blue-book values, or what you think you could get for them right now.

Other vehicles: all that stuff they talk about on the Progressive insurance TV ads. Motorcycles, boats (yes, your canoe or kayak), trucks, RVs (are there any of those on Kauai?), trailers, etc.

Do you have a business? If so, what is its value? For most businesses, several times the annual earnings (maybe 3-5, depends on the business). If the business has lots of inventory, equipment, cash holdings, real estate or other assets, add those in also. There are sites on the internet that you can use to get a ‘quickie’ business valuation.

Any collections? Coins, stamps, Muhammed Ali memorabilia? Old LPs in mint condition? Art? What’s it all worth?

Jewelry and gold – gold is well over $1,000/oz. now, so if you’ve got a few ounces of it lying around, it’s worth counting.

The rest of your stuff. Appliances, furniture, clothing, TVs and entertainment equipment, tools, surfboards, books, phones, kitchen stuff, whatever you’ve got. This stuff is tough to value; most people have somewhere between $5,000 and $100,000 worth of stuff (yeah, I know that’s not very helpful). We’re looking for what you could get for it on eBay, Craig’sList, yard sales – not what it would cost you to replace it all new. Just guesstimate.

Now, do you own any accounts jointly with anyone else? If so, include 1/2 the value of those accounts (if there are two joint holders).

If you can think of anything else of value that you own, add it in.

Now add up your debts – balances owed on car loans, credit cards, personal loans – anything (except mortgage loans, we already included them) you owe anybody. If you owe back taxes, include them. If you’re behind in child support or alimony, add the overdue amount. If you wanted to have a clean slate, and owe nothing to anybody, what would you have to pay off? Add it up.

Subtract your debts from the total of all the stuff you own. That’s your net worth.

Now, subtract the cash value of the life insurance policies, and add in the death benefits from those policies. If you have a life estate in any property (you have the right to live in or use the property for the rest of your life), add in the FULL VALUE of the property (less any mortgage or debt if it is encumbered).

That is a ROUGH approximation of the value of your estate. (Did you realize you were engaged in estate planning? You were. Figuring out what you own and what you owe is one of the first steps in planning.) If it’s more than $1 million, and you’re not planning on dying this year, you might want to start investigating the Federal Estate Tax. If it’s more than $3.5 million, add the Hawaii State Estate Tax to that ‘to investigate’ list.

Beats me.   I dunno.   Maybe, maybe not.

The fact is, these questions simply can’t be answered without knowing a lot of details about the questioner’s circumstances, desires, and plans. And when all is said and done, the only person who can really answer them is YOU.

But to do that, you have to really understand your current estate plan, and all of the other options that are available. And an experienced estate planner can help you get that information.

“My estate plan? But I don’t have an estate plan!”

Everyone has an estate plan. If you haven’t made a will or set up a trust, State law will determine who gets your things, how a guardian is selected for your children, and how much is paid in taxes. If you don’t have a power of attorney, advance health care directive, or living trust, State law will determine who can handle your finances, make health care decisions for you, and see your medical records, if you are incapacitated.

It could be that this plan is exactly in line with what you would have wanted; if so, you’re all set.  But if you haven’t taken the time to chat with a knowledgeable estate planning attorney, who can explain the ins and outs of that ‘default’ plan, how it will apply in your situation, and the available alternatives, you can’t make an informed decision about whether it is good enough for you and your loved ones.

“But I’m just a [fill in overworked, underpaid job or profession here].” “I don’t have anything.” “I just want my stuff to go to my wife/husband/kids.” “I already made a trust, everything’s taken care of.” “I don’t care what happens after I’m gone.”

I hear these explanations and excuses all the time. But once they start the planning process, and learn more about the ‘default plan’, people almost always realize that they DO care about the legacy they will be leaving behind, and that they DO want to take a few small steps to save their loved ones the stress and expense that can arise when no planning is done, regardless of how much or little property is involved.  Many folks find that they actually have more ‘stuff’ than they thought. People also usually discover that they have received some mis-information about the planning process, or the ‘default plan’, and that it is easier than they thought to ensure that their wishes are honored and the path is smoothed for those who have to ‘pick up the pieces’.

“But I’ve already done all that; I have a will, a trust, and all those other things.”

If you’ve done planning before, whether here in Hawaii or elsewhere, it’s even more important – to protect the investment you’ve already made, in money, time and effort – to have your documents and circumstances reviewed periodically. An out-of-date plan, or one that was drafted in another legal jurisdiction, under a different set of laws, can be worse than none at all.

It’s all too common for someone to make a will or set up a trust, then never look at it again as five, ten, or even twenty years pass. By the time they become incapacitated or die, the law has changed; children, and even grandchildren, have grown up, moved away, started families of their own, gotten divorced; businesses have been started, or sold; houses have appreciated or depreciated in value, or been sold or given away; people have moved; friends or relatives have died; investment and retirement accounts have grown, or dwindled. Any of these changes can affect how your plan will actually be implemented, when the time comes.

Think about all the things that have happened in your life in the past 10 years. Even if you are still living in the same place, own the same property, and have the same family situation, the law determining how your will or trust will be interpreted has changed dramatically (even over the past five years, there have been substantial, and unanticipated, changes in Federal law that affect almost every type of estate plan), and so has the body of knowledge and techniques available for protecting your assets, saving taxes, and easing the transition of wealth between generations.

Regardless of your situation, you owe it to yourself, and to your loved ones, to take just one small step: have a conversation with an experienced estate planner, to see if your plan (whether it is one you helped put together, or the one  the State has provided for you) will have the results you want, and if not, to learn about the alternatives.  The final decision is always up to YOU – but you can’t make a good one unless you have accurate, up-to-date information. Getting that information to you is what we do.