Non-trust and Non-probate Transfers (part I)

Most people are familiar with the downsides of probate – the cost and the time – but not everyone is cognizant of the downsides of other, non-probate transfers.

Trusts provide great flexibility in planning and management, as well probate-avoidance and an easy transition of assets.  Many clients are hesitant to utilize trusts because of costs or perceived complexity; and in truth, there are some situations where a trust may not be ideal.  But a client should have an understanding of the pros and cons of all possible transfer techniques

JOINT TENANCY

While property held in joint tenancy will immediately pass to the surviving joint tenant(s) without probate administration, this may result in consequences not intended by the decedent.

First, there is a lack of control over who will ultimately receive the property.  Say a spouse holds property in joint tenancy with the other spouse and their two children, with the intent that the property will ultimately pass to the children and grandchildren.  If one of the children passes away before the surviving spouse, that interest will be split between the surviving spouse and surviving child – it will not pass to the predeceasing child’s children. This may also interfere with other estate planning done by the decedent, which planned for the estate being split evenly between the children.

Additionally, there is a lack of oversight for joint property passing to the surviving tenant(s).  The property will necessarily pass outright to the surviving tenant(s).  This may not be ideal if, for instance, your children are from a prior marriage, and the joint tenant is your spouse.  The surviving spouse now has full control of the asset, and my not pass it on to your children.  Nor is it ideal for spendthrift beneficiaries who are unable to effectively manage assets; if passed on in trust, you can select a competent trustee who will ensure the continued financial well-being of your children, by properly managing and distributing the trust assets.

Further, there is a lack of creditor protection for property passed outright (not in trust).  Upon death, the decedent’s interest in that property will immediately be subject to the surviving tenants’ creditors.

One big advantage a properly drafted joint trust has is that, upon the death of the first spouse, the property gets a full step-up in basis; if held in joint tenancy, only the decedent’s half of the property gets a step-up.

Moreover, generally speaking, joint property is not subject to the decedent’s creditors upon his or her death.  That could result in beneficiaries of other property losing a disproportionate share of their inheritance.  For instance, say father holds rental property worth $1 million dollars in joint tenancy with his daughter, and bequeaths $500,000 to his son.  These are his only two major assets.  If father has any creditors at the time of his death, the creditors will necessarily be paid out of the $500,000, since the real property is not subject to their claims (this of course does not apply to, for instance, banks who have a deed of trust on the property).  That means, all other things equal, son will receive a smaller inheritance.

It should also be noted that, joint tenancy, when created, may result in a taxable gift unless full market value consideration is provided in exchange.


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