Inheritance is the stuff of dreams for advisors and clients alike, but it often has nightmarish potential.
There's one good reason for this: People have a hard time planning for their own deaths. Sure, most folks of any sort of means have a will, and some even go so far as to do some estate planning. But in far too many cases, inherited money is exposed to danger when it passes from one generation to the next. These dangers include claims from ex-spouses or lawsuits from creditors and/or predators.
One way to protect funds from such perils is an “inheritor's trust,” a sort of safe room for inherited money. According to a leading proponent of the strategy, an estate-planning and asset-protection attorney based in Las Vegas named Steven Oshins, the other major benefit of inheritor's trusts is their ability “to avoid future estate taxes on the inheritance, and shelter prospective earnings and growth from the tax.”
A Little Perspective
Inheritor's trusts are new in one respect — the practice has recently been trademarked by Oshins and two other lawyers in his practice. But beyond that, the vehicles are essentially old products in a new package. Here's how they work: The inheritor's trust “gives the heir all control and benefits that the inheritor would have with outright ownership,” Oshins says. For instance, the trust language can give the heir the right to trust income, access to principal in certain situations and the power to appoint a co-trustee to handle distribution requests — a step Oshins recommends for greater protection from creditors.
Where the trust earns its keep is in protecting the money. Let's say a couple that's been married 15 years starts to have marital troubles. Then let's say the wife's great aunt dies, leaving them $5 million. The chances of getting the husband to renounce his claim to a portion of this money are pretty small.
If the money is left to an inheritor's trust, language can be written into the document that will prevent the departing spouse from having any claim to the windfall. Additional income earned by assets within the trust can be protected from divorce proceedings, even in community property states.
The Downside
The drawbacks to establishing an inheritor's trust are few, but they do exist. First, the trust must be established before the benefactor dies. Second, the donor's will must specify that any bequests intended for your client have to instead go to the inheritor's trust.
This brings up what is probably the biggest hurdle to pulling this off: broaching the subject with the donor. Families rarely discuss money as it is, and an adult child starting off a conversation with, “Let's talk about my inheritance,” might be concerned about appearing too greedy.
But the reward of having the conversation far exceeds the risk. “One of the great attributes of the inheritor's trust is that it does not disrupt the benefactor's estate plan,” Oshins says. Even if an advisor decides an inheritor's trust is not the right vehicle for the clients, there are still plenty of reasons to make sure that plans are in place for inheritance money well before the death of the bequeather. One of the best is that huge money is likely to be changing hands in the coming years. And there are more rich people than ever: Recent data from the Spectrem Group says there now are over 7.5 million households in the U.S. possessing over $1 million in net worth.
It's a safe bet that many of these millionaire families have adult children who are also in the high-net-worth category, meaning that estate taxes could be levied every time money moves from one generation down to the next.
The advisor who can step in and save a family from those taxes can become a hero for two generations of rich people. Isn't that what we're all after?
Writer's BIO: Kevin McKinley is a CFP and vice president of investments at a regional brokerage and author of Make Your Kid a Millionaire — 11 Easy Ways Anyone Can Secure a Child's Financial Future.
kevinmckinley.com