In this episode, podcast host and author of “Control Your Retirement Destiny”, Dana Anspach, covers Chapter 13 of the 2nd edition of the book titled, “Estate Planning.”

If you want to learn even more than what there is time to cover in the podcast series, you can find the book “Control Your Retirement Destiny” on Amazon.

Or, if you are looking for a customized plan for your retirement, visit us at sensiblemoney.com to see how we can help.

Chapter 13 – Podcast Script

Hi, this is Dana Anspach. I’m the founder and CEO of Sensible Money, a fee-only financial planning firm. I’m also the author of Control Your Retirement Destiny, a book that shows you how to align your finances for a smooth transition into retirement.

In this podcast episode I cover the material in Chapter 13, on “Estate Planning.”

If you like what you hear today, go to Amazon and search for Control Your Retirement Destiny. And, if you are looking for a customized plan, visit sensiblemoney.com to see how we can help.

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Even if you have never been to an attorney or drawn up a will or a trust, you have probably still done some type of estate planning- and not even known that’s what you were doing. How could that be?

If you have ever opened a bank account or named a beneficiary on a retirement account or life insurance policy, that’s estate planning. It’s a legal document that specifies where your assets go when you pass.

For example, if you open an account titled jointly with a spouse, friend or child, when you pass, that account belongs to them. It doesn’t matter what your will says – the titling of that account overrides any other documentation.

The same thing occurs with beneficiary designations on retirement accounts. The financial institution must disburse the funds to the beneficiaries you have listed – it doesn’t matter if you have a trust or will that says something else.

Many people don’t know this. And it can get you in trouble. I saw this first-hand with George and Faye.

George was referred to me shortly after Faye passed away from pancreatic cancer. This was a second marriage and Faye had two children from a previous marriage. When Faye was diagnosed, they had wisely visited an attorney and had a trust drawn up. Faye wanted 1/3 of her assets to go to each of her two children and 1/3 to George, so that is what the trust said.

However, nearly all of Faye’s assets were in her company retirement plan. And Faye never changed the beneficiary designation on this plan to the trust. George was named as the beneficiary.

Unfortunately, George and Faye thought the trust document would take care of this. They did not realize the trust has no legal authority over her retirement plan unless she took the next step of filing updated beneficiary paperwork.

Now, George was in the awkward position of inheriting the entire account. Luckily, George is a good guy, and continues to honor Faye’s wishes by taking withdrawals and then sending the appropriate after-tax amounts to Faye’s children. However, this has unfortunate tax consequences for George, forcing some of his other income into higher tax rates.

Overall though, this case has a happy ending because George is doing the right thing. But not everyone would.

The type of estate planning error that happened to George and Faye could have been avoided if the estate planning had been coordinated with the financial planning. Many attorneys don’t ask clients for a detailed net worth statement. I’m not sure why. They should and they should look at the types of accounts that someone has so they can make recommendations that will work.

An attorney can draft the best documents in the world, but if they don’t make sure the client follows through on all the other paperwork that is needed, those documents can become pretty ineffective.

In this podcast, I’m going to cover a few basic things you need to know about estate planning. However, I am not an attorney. Nothing I say should be considered legal advice. Rules vary by state and you will always want to get advice that is specific to your situation.

With that in mind, the four topics I want to cover are titling accounts, setting up beneficiary designations, trusts, and I’ll briefly touch on the topic of estate taxes.

First, account titling.

You have retirement accounts, and pretty much everything else. When I say retirement accounts, I mean IRAs, Roth IRAs, 401ks, 403bs, SEPS, SIMPLE IRAs and any other type of company sponsored retirement account like a pension or deferred compensation plan.

Retirement accounts must be in a single person’s name. We are frequently asked by married couples if they can combine their retirement accounts, or title an IRA in a trust. The answer is no. A retirement account must be owned by one individual.

The way you specify where your account goes upon your passing is by the beneficiary designation you put on file.

With non-retirement accounts you have more choices. Most people open bank accounts in their name or jointly with a spouse or partner. If an account is titled only in your name, upon your death it will need to go through probate. When you add a person to the title or add a beneficiary to the account, then the account can pass directly and avoid the probate process.

One of the first things we do when bringing on a new client is review account titling. Many people are not aware that you can add beneficiaries to a non-retirement account. This is accomplished through something called a P.O.D. or T.O.D. registration. P.O.D. stands for payable on death. T.O.D. stands for transfer on death. And some financial institutions have their own term for this type of account. For example, Schwab calls it a DBA or designated beneficiary account.

Let’s look at an example. Assume you add your daughter as a joint tenant on your bank account. Your will (or trust) specifies that your money should be split evenly between your children. At death, what happens?

Legally that entire bank account belongs to your daughter regardless of what the will (or trust) says. A financial institution must pass assets along according to how the account is registered or titled.

There are three key things to know.

First, if the account is registered only in your name, and you have a will, then the will controls how the account is disbursed. However, because there is not a direct beneficiary named or another person on the account title, this account will have to go through probate.

Second, if you title an account in the name of a trust, then the terms of the trust control how the account is disbursed. Assets and accounts titled in a trust will avoid the probate process.

And third, if you add a joint tenant, or some other formal account registration such as tenants in common, transfer on death, or payable on death, then that account registration takes precedence over the will or trust.

Let’s say we have Joe and Mary who have two children. They have a jointly titled account, which means if either Joe or Mary passes the account belongs to the survivor. However, if Joe and Mary both pass, the account will have to go through probate. To avoid this they can add their two children as designated beneficiaries to this account, so if both pass, the account goes seamlessly to the children without all the red tape.

This type of titling can be accomplished with real estate also. You can file a transfer on death deed or a beneficiary deed for a minimal filing fee.

Now, some people prefer to add their children to an account or to the title of their home while they are alive. Please, don’t do this without understanding the potential consequences. When you add another person to the title, that account is now subject to their creditors. If they get in trouble, your assets could be at risk.

It could also cause a tax mess. Particularly when it comes to how capital gains taxes work upon death.

On a capital asset (such as a home, a stock, or a mutual fund) you have what is called your cost basis; what you paid for the asset. Upon your death, your heirs get what is called a “step-up” in cost basis, which means their cost basis for tax purposes is the value of the asset at your date of death.

Let’s look at an example using your home.

Assume you bought your house many years ago for $100,000. You’ve done no major improvements so this $100,000 is your cost basis. Today the home is worth $400,000. Upon death, your heirs inherit the house worth $400,000 and immediately sell it. How much do they have to pay in capital gains taxes?

Assuming they sell the home for $400,000, they pay no capital gains taxes on the $300,000 of gain because their cost basis was stepped-up to the date of death value.

This step-up in cost basis can be voided by titling your property inefficiently. This happens with the common practice of adding an adult child to the title of the house.

For example, let’s say after your spouse passes, you add your son to the title of your home. Technically you have gifted him half the value of your home, and instead of the home passing to him at death, he co-owns it with you now.

This means he does not get that entire step-up in cost basis upon your death; only the interest attributed to you gets a step-up. Let’s walk through the numbers.

Assume the same facts: you paid $100,000 for the home, and upon your death it is worth $400,000, and your son sells it for that amount.

Your half of the asset gets a step-up in cost basis, so your share of the house has a basis of $200,000. Your son’s share, howeve