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Lewis Schiff
Lewis Schiff

'I've Done My Planning Already', Said the Prospect

Rather than shake hands and shift your attention to your next appointment, be encouraged by the prospect with a plan. Chances are you'll discover the financial plan doesn't work the way he thinks it does.

February 19, 2009
by Lewis Schiff

Every accountant who also develops financial plans has heard some version of the phrase from prospects or even social acquaintances: "I've done my planning already." The implication is that once they've endured the financial-planning process, the work is done and complete. An examination of their plan documents, however, will often reveal defects that will cause their wishes to go unfulfilled — at the very least — and in some cases totally unexpected asset distribution scenarios.

Sometimes problems arise from an attorney working in isolation without the benefits of an advanced-planning team to review documents and work through the potential scenarios of distribution, wealth transfer, and legal mechanics. Inadequate documents come less from technical or drafting errors than poor alignment with the client's wishes, family dynamics, financial plans, and the need for flexibility because of future changes in circumstances. A will with boilerplate clauses may serve some clients, but not the affluent client with a range of assets owned in many jurisdictions, for example.

Typical Document Problems

These include the following:

  1. Out-of-date documents reflecting old-asset levels

    Affluent families who created trusts in the 1980s and 1990s did so in response to the family situations at that time, but many have failed to update them since. Real estate values and the stock market have gone through many cycles since then, so today's asset levels and the value of particular assets such as certain property holdings may reflect very different numbers. In addition to a revised net-worth, changes in family circumstances, such as new sons- and daughters-in-laws, and questions about the maturity of certain adult children to manage a large inheritance may be reason enough to consider revising the documents.

    The growth in the value of undeveloped property is one example that can drive a change from original plans. Such property that had geographically remote from commercial development may end up greatly increased in value by several multiples because it now borders recently-expanding towns. If the undeveloped land or similar lower-value asset were placed in a trust for the grandchildren, an unexpected boost in value could trigger the Generation Skipping Tax.

  2. Trusts with specific bequests

    If an old trust or will specifies a particular dollar amount, such as $75,000 or $100,000 intended for a trusted employee, or a specific asset, such as all IBM stock to a son by the first wife, the actual current value may not reflect the grantor's intentions.

    Or, the current value of that asset may not reflect the appropriate portion of the total assets. For a trust with a highly-concentrated portfolio composed almost exclusively from one company stock received through employment, that current value is highly variable. A once modest specific-dollar bequest that needs to come from such a portfolio could represent too substantial a portion if that stock is way down at the time of disbursement. Ford's stock market standing was at 8.48 on May 1; 10 years earlier it closed at 46.81.

  3. Not Enough Flexibility

    While trusts can be as flexible or tightly controlled as the client might desire, many grantors with very strong views have opted for rigid documents that can cause problems later. Dynasty trusts that are in force for many decades, for example, need flexibility for a trust protector to amend the document if family circumstances or other factors change or for a new successor fiduciary to take over from the initial fiduciary. The family's long-term relationship with a bank can disappear with one financial institution merger and new management with very different concept of the fiduciary role can take over.

    The geographical dispersion of children and grandchildren to other states has been a problem for some families. If the trust were drafted in New York without the ability to relocate it to another state (a procedure known as re-domiciliation), for example, all of the beneficiaries living on the West Coast would need to travel to the Empire State for meetings with the trustees. To migrate that New York trust to California could prove very expensive and legally complex. The prospect can avoid the issue by adding language that permits the trust to re-domicile and allowing the trustee to conform to the laws of the state of relocation.

    The inability to adjust distributions can cause financial problems for trusts and other family members, as well. In one case, a family had a trust that split 50/50 between the brother and sister. The sister had full access to her share. The brother's half, however, was held in trust, since he was not responsible with money. The trustee could give him 100 percent of the net income of his trust up to $100,000 per year, with the residual at his death going to the sister's children. The brother's trust was large, however, and the investment advisors planned for it to generate about $250,000 annually, so instead of using the extra income for the best use of other family members today, the excess over $100,000 each year remains undistributed in the trust. It will eventually go to the sister's grandkids -- but sometime in future, potentially when they are well into middle age or older, depending on the brother's lifespan.

  4. Inability to Assign Successor Trustees

    Another problem related to inflexibility is a trust with no provision to assign a successor trustee, whether it's an individual or a corporate trustee, such as bank. In either case, the trustee needs to understand the provisions of the trust and the life situations of the beneficiaries. With a corporate trustee named without the provision for a successor, the beneficiaries could find themselves with new trustee officers with little understanding of the family but a mission to follow the letter of the document. They could also feel stuck with trustees whose investment management has been poor.

    While a provision for successor trustees seems like an essential aspect of any trust, advisors and estate attorneys have noted its absence surprisingly often. Well-respected estate attorney Edward F. Koren, of Holland & Knight, LLP in Tampa, FL, has noted that the evidence suggests more problems arise when attorneys who don't focus on estate planning but then create documents. Estate attorneys will have more familiarity and working knowledge of trust mechanics.

  5. Mingling Assets When the Beneficiaries Marry

    If well structured, trusts and wills will facilitate asset protection for client's children and possibly grandchildren and later generations. In some family situations, such as a history of unstable marriages by the adult children, assets remaining in the trust rather than distributed may be a better strategy. If the parents pass away, for example, a trust might make a full distribution to an adult married son. For his own planning, he may go to an estate attorney to establish his own family trust. The attorney will ask how to treat the inherited dollars in case of divorce, and will likely suggest not commingling assets and instead using a separate property trust within the family trust rather than treat it as community property. Depending on their relationship, the son and his wife would then face a potentially very awkward conversation that could cause lasting friction. The parents could have avoided this situation by keeping the money in trust, making regular distributions to the children and also providing asset protection.

  6. Not All Assets Are Equal

    If a trust bequests specific assets to one child (i.e. family home) with the residual of the trust (IRA and 401(k) assets) goes to the other child to "equalize" the estate. the distribution isn't equal even with the real estate and retirement accounts appear to have similar values. The IRA and 401(k) assets are subject to income taxes upon withdrawal of funds.

  7. Possible Incapacity of Beneficiary

    Trusts often specify that money is to be held for children until they reach 21 or 25. Planners and estate attorneys have dealt with a more charged family situation — one of the children reaching adulthood may have a drug or emotional problem that affects their ability to act responsibly with money, even when the sums aren't substantial. Trusts that don't allow the trustee to control distributions in the event of incapacity can fuel drug habits and other problems. Trustees following the letter of trust documents have been forced to distribute assets to beneficiaries with severe drug problems. Attorneys have often found it very difficult to get courts to issue an emergency guardianship to prevent such a transfer to an incapacitate beneficiary.

    Here again, relatively simple language of a facilitating distribution clause could provides the flexibility a trustee would need not to make mandatory distributions if a beneficiary is declared incapacitated. Typically a certificate from a doctor provides the documentation a trustee would require. If the trust allows for a trustee to accept such a certificate and take such an action, then he's protected and successful challenges are less likely.

  8. The Sitting-in-the-Drawer Syndrome

    Perhaps the most surprising discovery for a prospect is the painful sitting-in-the-drawer syndrome — perfectly executed documents waiting for review and signatures or otherwise not implemented many year after the attorney provided them. The syndrome often occurs when the prospect doesn't understand the financial plan and/or the documents and is initially reluctant to sign off. One of the most important tasks for the advanced planning team is making sure the client understands the plan and full implementation takes place.

In the case of the syndrome, the prospect may have no executable financial plan at all. Advisors have discovered unsigned wills, unfunded trusts and unchanged ownership of assets. Sometimes, a partially-implemented plan may be the result with bad consequences for beneficiaries, such as a large insurance policy that gets counted and taxed as part of the decedent's estate.

When no signed documents exist, the prospect dies intestate and the state jumps with a court-appointed administrator to decide which survivors get how many assets — not the financial plan any high-net-worth prospect would want.

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Lewis Schiff is the principal of Advanced Planning Group, a family office network for advisors. His latest book, The Middle-Class Millionaire, was published in January 2008. View complete details on how to receive a free report on The Highly Effective Habits of Successful Advisors by the authors of The Middle-Class-Millionaire.