Financial Advisor Magazine: Trust and Estate Documents & Planning

Christopher P. Parr was interviewed by Senior Editor Wayne Rasmussen for the Wealth Management & Estate Planning section of the May, 2012 issue of “Financial Advisor Magazine” about the perils of flawed language in trust documents.

The key takeaways from the interview are:

1. All estate documents should be reviewed and updated when your life situation changes, to make sure your wishes are current and represented effectively.
2. Be sure to plan for any potential contingency scenarios. Even the best intentions can go bad if a trust document is not well thought out and well written.
3. Trust language can be nuanced and often confusing. It is best to hire an attorney who specializes in estate planning issues and is not a legal generalist.
4. A good financial advisor can take a leadership role in helping families think through complex family issues and how to plan effectively for them.
5. Consider hiring a corporate trustee to provide trust administration services, when a financially competent family member who is also objective and unbiased is not readily available.

To read the full article please click this link:

The Business Monthly: When Does A Revocable Living Trust Make Sense?

A Revocable Living Trust (RLT) is one of the most misunderstood tools in estate planning. The RLT is sometimes over-hyped by aggressive estate planning seminar marketeers targeting senior citizens. It is important to emphasize that not all seminars on estate planning and revocable living trusts are hype. The best estate planning attorneys objectively explain when such a planning technique should, and should not be considered on an individual case-by-case basis.

A Revocable Living Trust is a legal entity to which the grantor transfers personal assets during his or her lifetime while retaining ownership and control of the trust assets. It is a separate legal document that serves in conjunction with a will. Even if an RLT is established, a “Pour-over Will” is still necessary to make tax elections, appoint a personal representative and guardian for minor children, and transfer assets that were neglected to be titled in the name of the trust.

Many people erroneously believe that a Revocable Living Trust provides income and estate tax advantages. Because the RLT is revocable, the grantor retains control of the trust assets and can change or amend the trust at any time. Income taxes must be paid on trust earnings during the life of the grantor. At the death of the grantor, the trust assets are included in the grantor’s estate and subject to estate tax. The RLT does not reduce or avoid estate taxes. It is the specific provisions that must be included in the RLT that lead to the minimization of estate taxes. Similar provisions can alternatively be included in a will.

Another often-hyped benefit of the Revocable Living Trust is the ability to avoid probate. It is true that assets held in a properly drafted and funded RLT will not be subject to the probate process, but instead will be disposed of as provided in the Trust Agreement. The probate process does involve court costs and perhaps legal fees, but the net present value (NPV) of these future costs could actually be less than the costs today of establishing an RLT.

A third typical hyped advantage of a Revocable Living Trust is that it offers the ability to avoid “living probate”. A nationally recognized seminar marketing outfit defines this term as “the expensive court proceeding to manage your estate if you are disabled.” While an RLT does in fact provide this advantage, a properly drafted Durable Financial Power of Attorney can accomplish the same objective at much less the expense and effort to implement.

One common problem with an RLT is the failure of the grantor to fund the trust. After the trust document is drafted by the attorney and executed by the grantor, it is necessary to transfer assets into the trust to fund it by changing the title and beneficiary designations on existing assets. Many individuals never transfer assets to the trust, or forget to continue to do so as specific assets change over time. An unfunded trust is worthless.

To this point we have discussed some of the misperceptions and problems associated with Revocable Living Trusts. Let’s explore the advantages of this estate planning technique. Here are five situations in which the use of an RLT should be strongly considered.

1. Poor Health (Mental or Physical) – Under the terms of the RLT the grantor appoints a trustee to succeed the grantor in the event of incapacity or death. This provides a clear chain of command for ongoing management of the trust assets through the designation of trustees, successor trustees, and trustee powers. An RLT provides an ideal solution in the case a married couple where one spouse has historically handled responsibility for most financial decisions, but may not continue to be able to do so.

2. Multi-State Property Owners – A person who owns real estate and other property in several states can simplify legal proceedings after death with a Revocable Living Trust since the probate process in multiple states can be avoided.

3. High-Probate States – If a person owns property in one of the few states with high probate costs or complex probate rules, an RLT could be useful. A few specific states that come to mind are California, Massachusetts, and Florida.

4. Privacy – Wills are public documents. If the intent of the grantor is to maintain the privacy of the names of heirs and the size of inheritances, the RLT should be considered. An RLT is not subject to public scrutiny.

5. Fragmented Families – If the potential for a will to be contested is a concern, the RLT is much harder to contest.

This is an updated post of an article that originally appeared in the May 2000 issue of The Business Monthly.

Copyright © by PARR Financial Solutions, Inc. 2012

Please feel free to contact us if you have any questions or comments.

The Business Monthly: Gifting Appreciated Securities – A Win-Win Deal

Charitable contributions are an important part of many household budgets. It is quite common for families who budget carefully to base annual contributions to charities on a targeted percentage of gross household income. Charitable donations generally range between 1% to 10%. A typical percentage is perhaps 3%.

Most donees, however, overlook a gifting strategy that can provide significant economic as well as other benefits. This relatively simple strategy involves gifting appreciated shares of stock or mutual funds to your favorite charity in-lieu-of cash.

The most important economic benefit of gifting appreciated securities is that the donor reaps immediate tax savings. Assume a donor originally purchased 100 shares of stock at $10.00 per share net cost (including transaction charges) for a total cost basis of $1,000. With the help of the recent extended bull market, the market value of those shares could have easily doubled over the past 3-5 years to $20.00 per share or $2,000. By donating these shares, your favorite charity will receive the average market value of the shares on the date of receipt. The donor will get credit for the same $2,000 donation on Schedule A, although the original out-of-pocket cost was $1,000. By gifting the shares, the donor avoids having to pay tax on the $1,000 capital appreciation ($2,000 market value of gift less $1,000 original cost). In this example, the donor avoided the 20% long-term capital gains tax ($200) as well as brokerage transaction costs that would have been incurred to eventually liquidate those shares.

A second advantage of gifting appreciated securities is that this technique can be used to periodically rebalance your portfolio. If you are fortunate to own shares of a high-flying stock and are concerned about a potential “crash”, gifting appreciated shares in a timely manner can alleviate this problem. There is no extra cash outlay on your part since you planned to donate the same dollar amount to charity anyway.

Another reason to rebalance your portfolio could be that a particular stock prudently represented 2-3% of your portfolio at the time of original purchase, but has swelled to10% of your total nest egg by outperforming the rest of your portfolio handily during the past few years. Your portfolio risk has increased significantly. Perhaps you have too many eggs in one basket. This is a nice problem to have, but rebalancing may be prudent strategy to reduce risk.

A third example of gifting appreciated shares as part of a portfolio rebalancing strategy is to reduce the exposure of an income generating asset in a taxable portfolio in favor of a more tax-efficient holding.

A final advantage of gifting appreciated securities applies to those who contribute weekly/frequently. Religious organizations are the example that quickly comes to mind. Since gifting securities are drawn from investments instead of income, monthly cash flow can be improved. This technique is particularly beneficial for those who are self-employed and have irregular income streams. It can also benefit those who for whatever reason, fall behind in their annual pledges, or happen to “come-up-short” between pay periods. Since securities contributions are made in one lump sum, eliminating the need to tediously write that weekly check also saves time. Some organizations offer “the convenience” of automated payroll deductions for contributions. Gifting appreciated securities is a superior strategy since it involves pre-tax (capital gains) funds rather than after-tax cash.

When considering gifting securities, here are a four potential pitfalls:
1. Do not donate securities that have depreciated (suffered a loss in value). It makes more sense to gift cash instead.
2. To achieve maximum tax advantages, do not gift securities that are held in tax-deferred retirement accounts.
3. Consider gifting appreciated securities for donations of at least $500. This arbitrary requirement is due to the time and paperwork required to process, and potential benefit.
4. Be sure to identify specifically in a letter to the brokerage custodian which shares of a particular holding that you intend to gift. This is particularly important for mutual fund accounts that have reinvested dividends. Gift the shares with the lowest tax-basis.

In conclusion, by gifting appreciated securities in-lieu-of cash, your favorite charity still wins as you intended, but the donor also wins at the expense of Uncle Sam. To initiate a gift of appreciated securities, contact your favorite charitable organization, your brokerage firm, or your financial adviser for assistance.

This is an updated post of an article that originally appeared in the May 1999 issue of The Business Monthly.

Copyright © by PARR Financial Solutions, 2011

Please feel free to contact us if you have any questions or comments.

The Business Monthly: The Mortgage Debt Time-Bomb

As we approach the end of the third quarter of 2002, short-term interest rates set by Federal Reserve Policy are at 40-year lows of 1.75%, and could be headed even lower to stimulate a sagging economy that is potentially on the verge of entering a double-dip recession.  Mortgage rates are also at extremely attractive levels. Fixed mortgage interest rates are driven by the yield on 10-year Treasury bonds currently around 4.08% – the lowest level since 1963!

It is an excellent time to take advantage of low mortgage rates and consider refinancing.  It is possible to obtain a 5.50% fixed rate mortgage with zero points, or perhaps a fixed 30-year mortgage rate with a rate around 6.125% with zero points.  When considering refinancing, keep in mind that even with zero points, there will be closing costs to pay.  Closing costs include appraisal fees, processing costs, and title exam, title insurance, and recording fees.

Until recently, continued robust consumer spending helped to keep the economy out of a serious recession.  To a great extent, consumer spending has been fueled by lower monthly mortgage payments.  Many consumers have also taken advantage of these low rates to get “cash out” of existing mortgages by refinancing and incurring even more debt that in turn has been used to propel spending and consumption.

Many consumers are reaching a point of inflection, however, where they are now tapped out with high debt levels.  Consumer spending is starting to weaken and impact the economy.  The unemployment rate is steadily increasing as companies are increasingly cutting back the work force to deal with declining profits.

There is an emerging trouble spot for many families that has, up to this point, gone relatively unnoticed.  Historically, a prudent mortgage credit policy was to borrow just enough so that an ideal comfortable monthly mortgage payment (principal & interest) was 25% or less of gross monthly income.  Refer to the exhibit “Prudent Credit Management Guidelines”.  Recently, however, aggressive mortgage lenders are approving mortgage payments over 50% of gross monthly income!

Lets look at the consequences from a feasibility perspective by making a few generic assumptions for discussion purposes.  If gross monthly income represents 100% of available funds, 35% of income typically can be expected to be eaten-up by payroll taxes, deductions, and withholding.  In this generic example, net income or disposable income would be 65% of gross income.  Actual individual case-by-case figures, of course, can be higher or lower.

If 50% of monthly income is being used to service mortgage debt, then only 15% of income is available to cover all other monthly lifestyle expenses.  Lifestyle expenses include essential spending items like food, clothing, utilities, property taxes, insurance, and transportation.  There are also discretionary expenses to be covered such as recreation, entertainment, travel, etc.

As you can see, we have not even considered saving for intermediate needs like auto replacement, home maintenance or saving for longer-term goals such as retirement, or perhaps education for children.  Retirement savings alone should be at least 10% of gross income, and perhaps much more for many families who started late, or suffered serious stock market declines over the past two years.  The bottom line is that such a high level of mortgage debt is clearly not feasible for many families.  Many consumers are compensating for the shortfall by taking on increasing levels of consumer debt (credit cards, home equity loans, and personal loans.

A healthier financial model is to start with gross income at 100% and deduct perhaps 35% (or your specific percentage) for payroll taxes and deductions. Next, deduct an appropriate percentage for long-term and intermediate term savings goals.  This follows the rule of “pay yourself first”.  Then structure your ideal mortgage payment to provide a comfortable monthly payment while still having room for adequate lifestyle expenses.  This ultimately will point you toward a policy of living comfortably below your means and while building your nest egg toward the long-term goal of financial independence.

There are a few exceptions that should be considered.  If household income can be expected to grow at a steady pace, higher levels of debt can be manageable and you can “grow into” a comfortable mortgage payment.  Another exception might be if both spouses have stable jobs and can independently support the family on a single income.

These comments are designed to be a wake-up call for many families.  They will also make you think twice about common rules of thumb like these:

–       Borrow as much as you can and invest the difference.

–       Buy as much house as you can afford so that you can have the largest income tax deduction for mortgage interest expense.  (You still are much better off in the long run not paying the interest to begin with!)

–       Consider the lower interest rates available on adjustable mortgages (ARM’s).  While certainly attractive today, your payments will increase when the economy eventually begins to recover and interest rates start to increase.  An adjustable mortgage may be the best option, however, if you plan to stay in your home for a relatively short period of time.

On a final note, no one knows when the housing market bubble could burst.  If you borrowed the maximum, and this situation occurs, you could find your house “underwater” where you owe more than the value of your home.  This in fact happened in the rust belt, in Texas, and in California in the past 20 years as the local economies fell upon hard times and the real estate market collapsed.  Many people defaulted on their loans, lost their homes, and were forced to simply walk away.

This article originally appeared in a 2002 issue of The Business Monthly.

Copyright © by PARR Financial Solutions, Inc. 2002