Saving widow from an estate planning misstep

TRY THIS REAL-LIFE story of a tax disaster. Joe died, survived by his wife Mary, four grown kids (one Sam managed Joe's family business, Success Co.) and seven grandchildren. Success Co. was a C corporation. Aside from owning their residence (worth $800,000) and Success Co. (valued at $9.8 million at Joe's death), Joe and Mary had $275,000 of spendable personal wealth. In addition they owned various

TRY THIS REAL-LIFE story of a tax disaster.

Joe died, survived by his wife Mary, four grown kids (one — Sam — managed Joe's family business, Success Co.) and seven grandchildren. Success Co. was a C corporation. Aside from owning their residence (worth $800,000) and Success Co. (valued at $9.8 million at Joe's death), Joe and Mary had $275,000 of spendable personal wealth. In addition they owned various personal property and a nice summer home with a total value of $1.2 million.

About five years before he died, Joe had gathered a team of professionals to do his estate plan: his CPA, a lawyer who specialized in estate planning and his long-time friend, an insurance agent.

The professionals crafted a great traditional estate plan: no tax due at Joe's death (the 100% marital deduction) and enough insurance (second-to-die) to pay the projected estate tax at Mary's death. An irrevocable life insurance trust owned the second-to-die policy on Joe and Mary's lives. The estate plan probably would get an A+ in the classroom.

But here are the unfortunate little lifetime details — told to me by Sam in an urgent phone call — the professional team missed: Mary, a healthy age 65, did not have a flow of income or enough spendable assets to maintain her lifestyle. Joe's $500,000 salary, plus generous perks from Success Co., stopped when he died. Aside from the usual lifestyle cash needs, Mary needed $46,000 per year to pay the second-to-die insurance premium. Also, she wanted to continue providing the college education for four of her grandchildren (the other three had completed their education, which was paid for by Joe and Mary).

None of the professionals accepted responsibility for Mary's lack of spendable income. Worse yet, they had no suggestions to solve the problem.

First, the solution to Mary's immediate problem: the marital trust (created in Joe's revocable trust as part of his estate plan) owned 85% of Success Co. (Mary owned the other 15%). We simply had the stockholders (the marital trust and Mary) elect S Corporation status for Success Co. The large corporate profit will easily provide the income stream — via S corporation dividends — she needs, as the beneficiary of the marital trust (85%) and as a direct owner (15%).

Your master estate plan must include three separate plans.

Now, what lesson should be learned from this sad tale? The first lesson is that estate planning (as practiced all over the United States) is really death planning. Do the documents: a will and a trust or two, put ‘em in the vault and wait to die.

Rather than rehash what should have been done for Joe and Mary, let's get the first lesson up on the board, loud and clear. Whether you call it estate planning, lifetime planning, wealth transfer planning or whatever, your master plan must include three separate plans:

  1. A lifetime plan to transfer your wealth while you are alive (and, yes, you can control your wealth for as long as you live);
  2. A retirement plan that provides the after-tax cash flow needed to maintain your lifestyle for you and your spouse for as long as either one of you lives; and
  3. A transfer/succession plan for your business. (Note: Not even one of these three was done by the typical traditional estate plan for Joe and Mary.)

If you have yet to do your master plan, make sure it includes the three plans listed above. If your master plan is done and does not include all three of the plans listed above, get a second opinion. And finally, make sure that the professionals who create your plan know in advance that they are responsible for all aspects; he who creates the plan should install it and monitor it to the day you (and your spouse) die.

Remember, just because your estate plan is done, does not mean it is done right. Wouldn't you want your plan to be in the 10% that enriches your family, instead of the 90% with a plan that enriches the IRS?

Need help? If you want a second opinion on your current estate plan, call me here in Florida where I'm spending the winter at 239/417-9732. Or browse my Website, www.estatetaxsecrets.com, where you'll find a ton of free tax-saving information.

Irving Blackman is a partner in Blackman Kallick Bartelstein, 10 S. Riverside Plaza, Suite 900, Chicago, IL 60606; tel. 312/2071040, or via e-mail at [email protected].

TAGS: Taxes