By Michael Divine, Esq.
In Minnesota, a probate is generally only required if an estate’s probate assets exceed $50,000. Accordingly, estate planning that aims to avoid probate must utilize strategies reducing the probate estate – often by transforming probate assets into nonprobate assets. The following is an introduction to some of the strategies we use to help our estate planning clients avoid probate. Please note that these strategies are often used in conjunction with others, and avoiding probate is only one purpose of estate planning. Other estate planning functions, not discussed in this article, include reducing transfer and income taxes, protecting assets from creditors (client’s and their beneficiary’s), and providing for loved ones in a responsible manner.
First of all, a brief primer on essential terminology. All assets may be characterized as either probate or nonprobate. A nonprobate asset is one that will transfer to successors upon the owner’s death without the need for court involvement. Typical nonprobate assets include property owned jointly (e.g., a home owned by a married couple), property automatically passing by contract through a beneficiary designation (think IRA or life insurance policy), property containing pay-on-death/transfer-on-death instructions, and property transferred to a trust or business entity. A probate asset is, conversely, an asset that may require the assistance of a court for its transfer. Probate assets commonly include cars, bank accounts, and real estate owned by an individual or a surviving spouse.
Now that you understand the difference between probate and nonprobate assets, lets explore some specific tools.
If you bought your home while you were married, you likely own the home in joint tenancy together with your spouse. Joint Tenancy, as opposed to Tenancy in Common, includes an automatic right of survivorship, meaning that when the first joint tenant passes, the second owns the home automatically. No probate will be needed, though the surviving joint tenant will need to file an Affidavit of Survivorship with the county.
A probate will, however, be required upon the second spouse’s death, if other measure’s aren’t taken to remove the home from the probate estate. A probate is also generally required if real property is owned as Tenants in Common.
IRAs, 401ks, life insurance policies, and most other assets permitting beneficiary designations, pass to the designee under the terms of the asset’s governing instrument, and are, hence, nonprobate assets. As long as the owner has named beneficiaries, the asset will transfer to the entity indicated, and no probate is needed. Asset owners may name an individual, a group of people, an organization, a trust, or even their estate (though naming the estate would require a probate of the asset – there are some instances where this approach is advisable).
There are numerous factors to consider when determining the proper beneficiary for an asset, most of which are beyond the scope of this article. Some are obvious, for example, whether a beneficiary is mature enough to handle a large cash distribution. Others are not, for example, ensuring that an IRA’s required minimum distributions are stretched out over as long a period as possible. Be very careful if you are handling beneficiary designations on your own.
Pay On Death Designations
Most banks permit that an account holder may direct what happens to the account following his or her death. These pay on death designations function a lot like beneficiary designations, and accounts may be left to just about anyone (or anything). As with beneficiary designations, however, there are pitfalls waiting to trap the unwary. For example, if you leave the account to an adult child, instructing that he should distribute the account evenly between himself and his siblings, he may not legally have to follow your instructions. Furthermore, if the child makes the distributions as indicated, the transfers may count as taxable gifts.
Transfer on Death Deeds
As of 2005, Minnesotans may use a Transfer on Death Deed to designate who should receive their home after death. Transfer on Death Deeds are an excellent mechanism for removing real property from the probate estate, but should be limited to an individual beneficiary to avoid the complications that may result from shared ownership. When leaving the home to multiple beneficiaries, or when desired instructions for the home are complex, it is generally preferable to name a trust as the beneficiary.
Trusts are a tried and true method for avoiding probate. Living trusts, as opposed to testamentary trusts, are created and funded while the creator of the trust (the “settlor”) is alive. The trust is a legal entity distinct from the settlor, and property transferred to the trust is, generally, no longer part of the settlor’s probate estate (though it may be part of the taxable estate). When the settlor dies, the trust’s agent (“trustee”) must transfer, hold, or invest the property according to the terms of the trust agreement.
Family Limited Partnerships
Family Limited Partnerships (“FLPs”), and similar business entities, function a bit like living trusts. While alive, property is transferred to a separate legal entity, thus removing it from the transferor’s probate estate. When the transferor passes on, the property may be distributed in the manner dictated by a governing instrument, or by managing partners. A properly managed FLP also has the added benefit of reducing transfer taxes through valuation discounts applicable to gifts of noncontrolling interests. FLPs, however, are expensive to set up and manage, and therefore generally only used for large estates.
Unfortunately, there is no one-size-fits-all approach, and what works well for some clients may produce undesired results for others. To help you wade through all the options, Dudley and Smith offers new clients a free 30 minute consultation with an estate planning attorney. We are happy to meet you at any of our metro offices, located in Saint Paul, Woodbury, Burnsville, White Bear Lake, Bloomington, Blaine, or Chanhassen. At your consultation we will discuss your individual circumstances, possible estate planning strategies, and clearly outline costs before any work is performed.
This article does not constitute legal advice, nor does it constitute the initiation of an attorney/client relationship. Please consult an attorney licensed in your jurisdiction for assistance applicable to your specific facts and circumstances.
The above article was written by Michael S. Divine, an attorney with Dudley and Smith, P.A. Mr. Divine practices primarily in the areas of estate planning, probate, real estate, and litigation. He is based out of Dudley and Smith’s Saint Paul office, but also has regular days at each of the suburban satellite offices. © 2015 Michael Divine, Dudley and Smith, P.A.