A recent post discussed the problem created by estate plans that aren’t updated to take advantange of recent changes in tax laws – or were never drafted with actual human beings in mind, just the tax code.
Specifically, it’s pretty common for a living trust for a married couple to mandate that the trust property be split into two different trusts upon the death of the first spouse. This is done partly to protect the estate from estate tax, and partly to make sure that some of the property will be distributed according to the wishes of the spouse who passed away.
This sort of planning is important if there’s enough property to worry seriously about estate tax; or if there’s a significant chance that the surviving spouse will frustrate the original estate plan.
On the other hand, there are a lot of families where there’s no serious risk of estate tax, and where the second spouse either wants or needs the flexibility to use/control all of the property .. or where the second spouse reasonably wants or needs to change the original distribution plan. (For example, if there are two or three children, and one of them quits their job or moves cross-country to care for the ailing surviving spouse, it’s not uncommon to see a disproportionate distribution of property to that child who made a big sacrifice to provide care and support for the parent.)
A well-drafted estate plan can include flexibility to allow the surviving spouse to allocate property between the A and B trusts after the first death. This isn’t necessarily what you’ll get from a trust mill, or from an attorney who isn’t interested enough to spend a few hours talking to you to understand your situation – but it is certainly possible. Two common approaches are called a “disclaimer trust” and a “Clayton election”.
I think this sort of planning is very important where, as now, it’s tough to know what the estate tax exemption amounts are going to be, and what the family is going to look like, upon the first (and second) deaths.
A recent California court decision illustrates the importance of reading carefully and paying attention, even when signing apparently harmless documents.
In Hogan v. Country Villa Health Services, a California appellate court enforced an arbitration clause in admission documents for a skilled nursing facility, signed by an elderly woman’s daughter upon admission. When the elderly woman later died while a patient of the skilled nursing facility, her family wanted to sue for wrongful death, eder abuse, and violation of patient rights.
The skilled nursing facility asked the court to rule that the family was forced to bring their elder abuse claim before an arbitrator instead of to a jury, because of the documents signed at the time of admission. The family argued that, even though the daughter had a statutory Heathcare Power of Attorney form signed by her mother, the mother had not authorized the daughter to waive her right to a jury trial in a real courtroom.
The Appeals Court held that the California statutory Advance Health Care Directive form (see Probate Code section 4701), as it was signed by the mother, was sufficient to give the daughter the power to agree to the arbitration agreement.
The unfortunate result is that the elder abuse claim will not be heard in a public forum – even though it’s likely that neither the mother nor the daughter had any idea that was a potential outcome when they signed the documents.
This is an important reminder to always read what you sign – and that it’s helpful to get assistance from someone who can advise you about unexpected consequences, such as the waiver of the right to a trial – because sometimes simple forms have complicated, unintended consequences.
A common questionI encounter concerns the administration of a joint trust after the first spouse has died. In California, a typical living trust estate plan will take the form of a joint trust, which splits into two (or three) subtrusts when one of the spouses passes away.
The typical model is that the property that belonged to the person who passed away should be transferred into the “B” or Bypass trust. In some circumstances, another trust – referred to as the Q-TIP or “C” trust – will also be funding with some of the property from the person who passed away.
The other trust – the “A” trust, also known as the Survivor’s trust, holds the property of the spouse who is still living.
It’s not unusual for the surviving spouse – especially if they didn’t pay attention during the estate planning process, or if they used a trust mill or an attorney who couldn’t be bothered to explain the estate plan which was developed – to be surprised to learn that they’re obligated to take half of the property they’re accustomed to thinking of as “theirs”, and to move it into a new bank account or brokerage account.
(The exact details of the split between the A, B, and maybe C trusts depends on the property you own, how title was held (separate property versus community property), and the terms of your trust, so it’s not possible for me to describe exactly what to expect without actually reading your trust and understanding your property situation.)
In any event, unless the joint trust has been specially drafted to preserve flexibility at the first death, the trustee of the trust – typically the surviving spouse – is required to move assets into the bypass trust.
Why is this required? Because the different trusts – A, B, and C – are treated differently from a legal and from a tax point of view. For example, the B and C trusts are typically distributed according to the rules created by both spouses together; while the surviving spouse typically has the power to give the property in the A trust to anyone they choose.
In practical terms, this is most often an issue where the surviving spouse and the spouse who passed away had different ideas about who should receive their property – often because the surviving spouse remarries, or because this was a second marriage for one or both of the partners, and some of the children weren’t the biological offspring of both partners.
What happens if the bypass trust isn’t funded? The trustee – either the surviving spouse, during their lifetime, or the successor trustee – may face a lawsuit from frustrated beneficiaries, who are angry that their inheritance has been taken away from them or mismanaged.
A California appellate court issued an opinion on February 22, 2007 in Young v. McCoy 2007 Cal App Lexis 224 which will provide encouragement and comfort to trust creators who seek to preserve assets for their beneficiaries.
The court ruled that a creditor cannot force the trustee of a discretionary trust to make a distribution to the beneficiary, if the trustee has reasonably determined that the beneficiary does not need a distribution to provide for their health, education, maintenance, or support. The practical effect is that – since there is no distribution – the creditor cannot get their hands on the funds which have been preserved for the beneficiary.
This opinion concerns a case where the beneficiary was convicted of attempted murder – but it is likely to be helpful to people in much more mundane circumstances faced by many families, such as divorce, business disputes, and even bankruptcy created by overwhelming medical bills following catastrophic injury or illness.
If your estate plan does not provide asset protection for your family – or if you are using the state’s default estate plan, which does not provide asset protection for beneficiaries – you should think seriously about sitting down with competent estate planning counsel to make sure you’re doing everything you can to provide for the people who depend on you, and the people you care about most.