When it comes to wills, as a financial planner, I've seen a lot of sad, unfortunate or just plain weird things happen over the years. Poor estate documents can lead to people accidentally cutting loved ones out of inheritances, paying big tax bills unnecessarily and saddling families with expensive, head-scratching legal battles.
Here are 10 mistakes -- some you can probably guess, but others you've probably never heard of -- people tend to make when planning their estates.
1. Beneficiary blunders.
Not naming a contingent beneficiary on retirement accounts and insurance policies -- or failing to review beneficiaries often enough -- is my clients' No. 1 mistake. The default if no contingent is picked is likely your estate, which may be subject to probate, creditors, delays, etc. No contingent beneficiary on an IRA means NO stretch IRA -- a valuable tax break that enables someone who inherits an IRA to draw out distributions over his or her own life expectancy -- if your original beneficiary has died.
Only a person with a life expectancy can do a stretch. An estate has no life expectancy, therefore, no stretch to minimize taxes and potentially receive significantly more income over your beneficiary's lifetime.
Forgetting to change an ex-spouse on an IRA can have disastrous consequences for your new spouse or family! (Note, in a retirement plan your new spouse becomes your beneficiary the day you get married, but NOT in an IRA!) If you don't want your current spouse to be the beneficiary of your retirement plan, then they must agree to you naming someone else. And no, your prenuptial agreement doesn't matter in this case, because only a spouse can waive those rights, and a fiancĂ©e isn't a spouse yet!
2. "Selling" property for $1.
This was popular years ago in areas that saw very rapid land appreciation. For example, when my grandfather moved to Avalon, N.J., he paid $50 a lot for property. Today those lots would sell for $2 million each. The theory was that you could sell it for a very low price and not have to pay taxes on the gain and remove it from your estate. You can sell property for whatever you want but:
- The IRS will deem it a gift if it is less than market value, and
- Your heirs will lose the "step up" in value.
Why is this so bad? Because if I inherit a property worth $1 million and sell it for $1 million I may pay no tax. If I "buy" it for $1 and sell it for $1 million, I pay tax on the $999,999 gain!
3. Naming specific investments in your will.
Specific bequests are handled first, and the person who died might not even own that investment anymore. His estate might be required to go out and purchase it at a much higher price, which could hurt all of his other beneficiaries. We had a client who once left shares of a particular stock, which at the time was worth $10,000, to a grandchild.
The problem was that the will was written 30 years earlier, and the same number of shares was worth $600,000 at his death, AND he didn't own them anymore. His estate would have to go buy those shares and give them to the grandchild. This used up virtually all of the assets of the estate, and the remaining beneficiaries got very few assets.
4. Not thinking through a well-intended gift.
A client had three daughters and wanted to make sure after she passed away that they always had a home to go to in the town where she lived. Her will had stated that her children couldn't sell her house unless everyone had a house in that particular shore town. Two of the three children did, in fact, live in that same town. The third, however, several years before her mother's death, moved to San Diego (2,500 miles away!) and didn't WANT to own a house in that town.
Because of the way the will was written, the heirs had to go through a lengthy process with the courts to finally get permission to sell their mother's home. Worse, during this time period the home's value declined dramatically. When the house was ultimately sold, the heirs lost over $500,000 in addition to the legal fees.
5. Leaving assets directly to a minor without dealing with guardianship issues.
Who will handle the money for them? Define "for their benefit." Does a new Escalade count, because the kids won't fit in my Honda Civic? That phrase welcomes a whole host of potentially abusive interpretations.
6. Not planning for the death of a beneficiary.
If one of my two beneficiaries dies, where does the money go? Is it the other one, or is it the family of the one who died? I could disinherit grandchildren by picking the first option and leave everything to the other beneficiary and their family! This is known as per capita (Latin for "by heads," meaning per person) vs. per stirpes (Latin for "by branch," meaning each branch of the family would receive a share). One way to word that might be that you leave your assets to "all lawful children equally - Per Stirpes."
7. Ownership mistakes and imbalances.
If too many of the assets are in one spouse's name, it could accelerate or increase some taxes (see your tax adviser). Frequently, one spouse may have worked longer and will have a much larger IRA. They may also have a vacation home or investment accounts in their name only. By shifting the house or investment accounts to the other spouse, the estate becomes more equalized, and therefore reduces the possibility of owing taxes after the first death.
8. Not having a residuary clause.
A residuary clause deals with everything you didn't specifically name in your will, forgot to put in your will/trust/etc., things you don't yet own but will before your death, and things you might not know you own. This happens more than you think! My family went to sell a property and found out there was a 4-foot by 25-foot strip of land as a part of it that wasn't ours. When we asked the owner to sell it, he never even knew he owned it.
9. Not planning for the unexpected.
There could be a sudden decline in your or your spouse's health, or there could be a change in your assets. What about the divorce of your kid? Your kid's creditors? Can your heirs handle that much money? There are a multitude of things that you have probably never even thought about.
This is commonly addressed by having assets go to a trust where you can control how, to whom and when money gets distributed, unlike an outright inheritance from a will. Personally, mine goes to a trust and they get distributions at ages 25/35/45, unless my trustee deems them to be a danger to themselves. (The opioid epidemic has made people add this recently. The last thing you want to do is give an addict, gambler, debtor, etc. a large distribution of cash.)
10. Not dealing with your own mortality!
Yes, you are still going to die someday, whether you want to face that reality or not! Do not leave your family ruined because you don't want to deal with an uncomfortable situation!
There are plenty of things that can go wrong after someone dies. Don't make matters worse by failing to plan properly. If you're worried about the cost of a qualified estate planning attorney, I can tell you it's a lot cheaper than litigation!