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Trusts and Estates

A Section of the Virginia State Bar.

Funding Revocable Living Trusts For Single Clients

Newsletter - Trusts and Estates

Volume 14, No. 2

FUNDING REVOCABLE LIVING TRUSTS FORSINGLE CLIENTS

By MARTHA LEARY SOTELO
DONNA ESPOSITO FINCHER
PATRICK J. VAUGHAN

You have been assisting Joan Brown, a retired widow, age 68, with her estate planning arrangements. Joan has two children, each of whom has two teen-age children. She has a net worth of $900,000. Her primary goals are to avoid probate complications, preserve family privacy and streamline the settlement of her affairs in the event of her incapacity or death. On your advice, Joan has executed estate planning documents consisting of a revocable living trust (which includes a continuation trust for the benefit of her grandchildren if either or both of her children do not survive her), a pour-over will, a durable general power of attorney and an advance medical directive. Joan and her eldest child, Jack, are serving as Co Trustees of her trust, with either of them having the ability to act independently. Joan has asked for your recommendations on how to retitle her assets to properly fund her revocable living trust.

To: Joan Brown

Now that you have executed your estate planning documents, you should fund your revocable living trust to maximize its usefulness as a vehicle to manage your assets in the event of your incapacity, avoid probate and preserve your privacy. Since you are serving as one of the Trustees of your trust, the proper employer identification number for your trust is your social security number.

Below you will find the following:

I. Schedule of Your Assets Before Funding Trust

II. Retitling Recommendations

III. Schedule of Your Assets After Funding Trust

Assets are titled as follows:

(1) In Joan's name individually

(2) Beneficiary designation: Children

II. RETITLING RECOMMENDATIONS

Checking Accounts

You should continue to own your checking account in your individual name. Changing the title of your checking account will complicate the direct deposit arrangements you presently have for your pension and your government benefits. You should, however, ask your bank for a Pay on Death ("P.O.D.") card and designate your trust as the beneficiary of this account. By designating the trust as the P.O.D. beneficiary of the account, you will ensure that the account avoids probate on your death. The appropriate wording for designating your trust as the P.O.D. beneficiary is as follows:

Trustees of Joan Brown Trust dated March 18, 1998.

Certificates of Deposit

You should fund your trust with your certificates of deposit ("CDs"). One option is to retitle the CDs into your trust by completing new signature cards which change the title to you and your son as trustees of your trust. A second option is to designate your trust as the P.O.D. beneficiary. The appropriate wording for retitling your CDs to the trust is as follows:

Joan Brown Trust dated March 18, 1998, Joan Brown and Jack Brown, Trustees, either of whom may act independently.

The appropriate wording for designating your trust as the P.O.D. beneficiary of the CDs is the same as for designating your trust as the P.O.D. beneficiary of your checking account.

Please note that before you change the title to your CDs, you should ask the bank whether the change in title will trigger any penalties. If so, you should wait until the CDs mature before retitling to your trust.

U.S. Savings Bonds

With respect to your savings bonds, you should either designate your trust as the beneficiary or transfer the bonds to your trust.

If you decide to retitle the bonds to your trust~ you will not be required to recognize the accrued income upon retitling because such a transfer is not considered a disposition of the bonds for income tax purposes.1

Stock and Bonds

Your stocks and bonds should be transferred into your trust.2 You have a brokerage account which holds the majority of your securities. You also hold a few stock certificates outside of your brokerage account.

With regard to your brokerage account, you should contact your broker and instruct him or her to establish a new account in the name of your trust. Your broker will probably want to see certain pages of your trust in order to verify the trust is valid, to ascertain the trustees and to determine the extent of the trustees' powers. Your broker will send you whatever paperwork is necessary to establish the new account. Your broker will take care of transferring the stock and bonds from your existing account to the new account in the name of your trust.

You have two options with respect to retitling the stock certificates that are not in the brokerage account. You can contact the transfer agent for the stock to request a new certificate in the name of your trust, or you can transfer these stocks to your broker to be held in the new brokerage account in the name of your trust and let your broker handle retitling. If you contact the transfer agent directly, you will bear the responsibility for making sure the new stock certificates are issued properly. Like your broker, the transfer agent will probably want to see certain pages of your trust in order to verify that the trust is valid, to ascertain the trustees and to determine the extent of the trustees' powers.

The appropriate wording for retitling your brokerage account and the stock certificates is:

Joan Brown Trust dated March 18, 1998, Joan Brown and Jack Brown, Trustees, either of whom may act independently.

Mutual Funds

You should transfer your mutual funds into your trust. If your mutual funds are held in your brokerage account, you should contact your broker and instruct him or her to transfer your holdings into the new brokerage account in the name of your trust. Your broker will send you any paperwork necessary to complete the transfer.

If you deal directly with the transfer agent for your mutual funds, you should request the transfer agent to retitle the mutual funds into the name of your trust. The transfer agent will probably want to see certain pages of your trust in order to verify that the trust is valid, to ascertain the trustees and to determine the extent of the trustees' powers under the trust.

The appropriate wording for retitling your mutual funds is the same as for retitling your stocks and bonds.

Partnership Interest

You own a 15 percent interest as a limited partner in a limited partnership. You should transfer .this interest into your trust. Your partnership agreement requires the general partner to approve any transfer of your partnership interest. You. should contact the general partner of the limited partnership and request his or her assistance in assigning your limited partnership interest to your trust.

The appropriate wording for the assignment of your partnership interest is:

Joan Brown Trust established March 18, 1998, Joan Brown and Jack Brown, Trustees, either of whom may act independently.

Installment Note

Five years ago you sold appreciated property and financed a substantial portion of the purchase price. The buyer signed a promissory note agreeing to pay the loan back over 15 years. You are the payee of the note. You should transfer your interest in the installment note to your trust.

The appropriate wording to endorse the installment note to your trust is: Pay to the order of Joan Brown -Trust established March 18, 1998, Joan Brown and Jack Brown, Trustees, either of whom may act independently.

After you insert this wording, you should sign and date the endorsement.

Virginia Residence

Your residence is encumbered by a $10,000 mortgage. It is our understanding that you do not intend to refinance this mortgage nor obtain a home equity loan in the near future. Under federal law, you may retitle your residence to your trust without any risk that your lender may exercise its option under the due-on-sale clause as long as you remain the beneficiary of the trust and continue to occupy your residence.3

Since you have no intention of refinancing or obtaining a home equity loan on your residence, we recommend that you execute a new deed retitling your residence to your trust. The transfer of your property to your revocable living trust will not trigger any transfer tax in Virginia.4 The transfer of the property to your trust will have no impact on your ability to exercise the $250,000 capital gain exclusion for single persons who have resided in their homes for two out of the last five years.5

Please note that if you have any plans to refinance your residence mortgage or to encumber the residence with a home equity loan, we do not recommend retitling your home to your trust. Lenders are often reluctant and sometimes even refuse to make a loan secured by property which is titled to a trust. Even if the lender does not refuse to make the loan, the lender will impose additional requirements before agreeing to the loan which will complicate settlement. Accordingly, for individuals who wish to refinance their residence or obtain a home equity loan, we recommend that title to the property be maintained in their individual names.

Delaware Beach House

At this time, your beach house is free and clear of any mortgage. If you do not intend to mortgage the property in the future, you should execute a new deed transferring title to the property to your trust. By transferring title to the property to your trust now, your estate will not have to undergo ancillary probate proceedings in Delaware with respect to this property.

You should contact an attorney in Delaware (or if you prefer, we will contact a Delaware attorney) to assist in the preparation of a new deed. A Delaware attorney should prepare the new deed to ensure compliance with Delaware law and to ascertain any tax consequences resulting from the transfer.

If you intend to mortgage your Delaware beach house, we recommend that you do not transfer the property into your trust until after you obtain the mortgage. As mentioned above, lenders are often reluctant and sometimes even refuse to grant a loan against property which is owned by a trust. If you use the beach house only for your personal purposes, you can transfer the property to your trust after you obtain the mortgage without requesting the lender's approval.6 If you use the beach house as a rental property, you must obtain the lender's approval before retitling the property to your trust. Failing to obtain the lender's approval before retitling rental property to your trust could result in the lender exercising its option under the due-on sale clause.

Life Insurance

For any life insurance policy insuring your life, you should be the owner of the policy and your trust should be designated as. the beneficiary of the policy upon your death as follows:

Trustees of Joan Brown Trust dated March 18, 1998.

If a life insurance company requires you to identify the specific trustees, identify the trustee(s) who will serve following your death.

Designating your trust (rather than your children) as the beneficiary of your life insurance policy will ensure that your children or other beneficiaries will receive the proceeds in accordance with the trust arrangements you have made on their behalf.

IRA (Traditional)

With a traditional IRA, a person can extend the payout from the IRA over the joint life expectancy of himself or herself and a designated beneficiary. A designated beneficiary is an individual (including a beneficiary named under an irrevocable trust or under a revocable living trust which becomes irrevocable upon the person's death).7 You may name your children or your revocable living trust (which names your children as your primary beneficiaries) as the beneficiary of your traditional IRA. The advantage of naming your trust as the beneficiary is that if either or both of your children predecease you, your grandchildren will receive their parent's share in accordance with the trust . arrangements you have made on their behalf.

Designating your children (or your revocable living trust) as the beneficiary of your traditional IRA will enable you to minimize, to the extent possible, the size of the distributions that you will receive from your traditional IRA. Once you reach the required beginning date for receiving distributions from your traditional IRA (April 1 of the calendar year following the calendar year in which you reach the age of 70~), you can elect to have the distributions calculated based on the joint life expectancy of you and your children.8 In so doing, you can reduce the amount of distributions you will receive from your IRA each year, thereby deferring the recognition of income taxes.

IRA (Roth)

Since any distributions you receive from your Roth IRA are not taxable to you as income,9 the considerations discussed above in retitling a traditional IRA do not apply to your Roth IRA. Thus, we recommend that you designate the trustees of your trust as the beneficiary of your Roth IRA as follows:

Trustees of Joan Brown Trust dated March 18, 1998.

In designating your trust as the beneficiary of your Roth IRA, you will ensure that if either or both of your children do not survive you, your grandchildren will receive their parent's share of the proceeds from the Roth IRA in accordance with the trust arrangements you have made on their behalf.

Tangible Personal Property

You should assign title of your tangible personal property (e.g., clothing, jewelry, household goods, personal effects and automobiles) to your trust. We will be happy to prepare such an assignment for you. In accordance with the provisions of your trust, you should write a letter of instructions to your trustee indicating how you would like specific items (not otherwise specifically bequeathed) distributed upon your death.10 This letter must describe the items and intended beneficiaries with reasonable certainty and be signed by you. You may alter or amend this letter of instructions at any time without having to modify your trust agreement.

CONCLUSION

We strongly encourage you to retitle your assets in accordance with the recommendations set forth above, in order to fully maximize the usefulness of the estate planning documents we prepared for you. Please note that you will not suffer any adverse income tax consequence as a result of the retitling since you will be considered the owner of the assets held by your trust during your lifetime. Any income you receive from such assets will be reported on your individual income tax return.

Recommended Retitling Measures:

(1) No change.

(2) Retitle in name of trust.

(3) Designate trust as P.O.D. beneficiary.

(4) Establish brokerage account in the name of trust.

(5) Assign to trust.

(6) Deed property to trust.

(7) Designate trust as beneficiary.

Patrick J Vaughan, J.D., CPA, ChFC, is a principal in the McLean, Virginia law firm of Adams, Porter & Radigan, Ltd., where he specializes in estate planning, estate administration, and fiduciary litigation.

Donna Esposito Fincher, J.D., CPA, is a principal in the McLean, Virginia law firm of Adams, Porter & Radigan, Ltd. where she specializes in estate planning, estate administration, and fiduciary litigation.

Martha Leary Sotelo, J.D., is an associate at the McLean, Virginia law firm of Adams, Porter & Radigan, Ltd., where she specializes in estate planning, estate administration, and, fiduciary litigation.

Endnotes

1. Rev. Rul. 58-2,1958-1 CB 236

2. The Uniform Transfers On Death (TOD) Security Registration Act, Va. Code Ann. Sec. 64.1-206.1 et. seq., allows for securities to be transferred upon death by a beneficiary designation. While Ms. Brown may use a transfer on death designation to avoid probate of her stocks and bonds, we recommend that her stock and bonds be transferred to her trust so that if she becomes incapacitated before death her co-trustee can better manage those assets for her.

3. Gam-St. Germain Depository Institutions Act of 1982. Pub. L. No. 97-320; 96 Stat. 1469; 12 U.S.C. Section 1701j-3(d)(8); 12 CFR Section 591.5(b)(1 )(vi).

4. Va. Code Section 58.1-811 (12).

5. See Internal Revenue Code Sec. 121 ( as amended by 1997 Taxpayer Relief Act) and Priv. Ltr. Rul. 8006056; Priv. Ltr. Rul. 8007050; Priv. Ltr. Rul. 8025027 (interpreting previous Code Sec. 121).

6. Gam-St. Germain Depository Institutions Act of 1982. Pub.,L. No. 97-320; 96 Stat. 1469; 12 U.S.C. Section 1701j-3(d)(8); 12 CFR Section 591.5(b)(1)(vi).

7. The Internal Revenue Service recently issued revised Proposed Regulations regarding the criteria for designating a trust as the beneficiary of an IRA. Revised Prop. Treas. Reg. Section 1.401(a)(9)-I. The revised Proposed Regulations modify Section 1.401(a)(9)-I) of the Treasury Regulations to allow the beneficiaries of a revocable living trust to be treated as a designated beneficiary of the IRA if: (i) the trust becomes irrevocable upon the employee's death; (ii) the trust is valid under state law; (iii) the beneficiaries of the trust are identifiable and; (iv) a copy of the trust agreement is provided to the plan administrator or certain trust certification requirements are satisfied.

8. Since Ms. Brown has more than one beneficiary, the beneficiary with the shortest life expectancy, not to exceed ten years, will be calculated along with her life expectancy. Prop. Treas. Reg. Section 1.401(a)(9)-l(E) Q&A E-5, and Prop. Treas. Reg. Section 1.401(a)(g)-2 Q&A 6.

9. See Internal Revenue Code Sec.408A (added by 1997 Taxpayer Relief Act Section 302(a)).

10. In 1997, Virginia Code Section 55-7.2 was enacted to allow a trust to incorporate by reference a written statement or list executed before or after the execution of the trust which disposes of specific items of trust tangible personal property.