5 Methods of Estate Transfer
To secure your financial legacy and ensure your loved ones’ well-being, it’s crucial to understand the different methods of estate transfer. Estate transfer plays a pivotal role in retirement planning and financial peace of mind. By estate transfer, I am broadly talking about the method by which an asset that was owned by you is transferred to someone else upon your death. In this article, I will explore five key methods of estate transfer, providing you with examples and insights to help you make informed decisions about your estate.
The following methods are executed in a specific order sort of like the “order of operations” for math you learned in school. PEMDAs refers to the common mathematical order of operations which stands for Parentheses, Exponents, Multiplication and Division, Addition and Subtraction. When you perform a calculation, you must follow the order to reach the right answer. If you try to come up with the answer calculating multiplication before exponents, you won’t get the result you are hoping for.
Similar to solving a math problem using PEMDAS (Parentheses, Exponents, Multiplication and Division, Addition and Subtraction), estate planning follows a specific order.:
- By Law
- By Beneficiary
- By Trust
- By Will
- By State
For example, if you own an account with a “By Law” or “By Beneficiary” transfer, that account will not be influenced by the presence or provisions of a Will. If you have an account that does not have a beneficiary designation, it will fall to the provisions of your Will. If you do not have a Will, then it will become subject to State Laws.
Of course, I am not an attorney so please consult an attorney for specific legal advice. For those looking for an easier to remember acronym, I could not come up with one so if you can think of one, let me know!
The 5 Primary Methods for Estate Transfer
By Law
Transferring assets by law is simply means another person has a legal right to the asset and the asset is being transferred according to the legal rights of ownership. The most common methods of transferring by Law:
- Joint with Rights of Survivorship
- Joint Tenants in Common
- Tenancy by the Entirety
- Community Property
There are many nuances to each of these that are not covered in this article, so it is best to consult an advisor or an attorney when considering each. In the case of community property, you may not have a choice on how to title.
Pros of By Law
- Clear ownership as parties are listed on the account title
- Access to account remains consistent
- Avoids probate
Cons of By Law
- More complicated to update and potential tax consequences to doing so
- Limited Number included in titling
- Cannot apply to qualified accounts like IRA’s or 401(k)s
By Beneficiary Designation
Transferring assets by beneficiary designation is one of the most common methods to transfer assets. For many people, this will also be one of the most used methods as well. Whenever you open any type of account, you have the option to add a beneficiary designation to your accounts.
- Individual Retirement Accounts (IRAs): Traditional IRAs, Roth IRAs, and other types of retirement accounts
- 401(k), 403(b), and TSP: Employer-sponsored retirement plans
- Life Insurance Policies
- Annuities
- Brokerage and Investment Accounts: Other investment accounts that are not IRAs or retirements
- Bank Accounts
- Health Savings Accounts (HSAs)
- Savings Bonds
You can name a variety of different beneficiaries: natural people such as spouse or children, trusts, charities, or even just your estate. If you do not name a beneficiary outright, each custodian where the accounts are held will have their own rules on the default beneficiary.
Pros of the Beneficiary Designation
- Simple to put in place and make updates. Typically just a form or letter is required to do so.
- No cost to implement or execute and custodian will help facilitate the transfers.
- Avoids probate, and provides privacy.
- Fast transfer after death once custodians required documentation is met (death certificate and beneficiary identification)
Cons of the Beneficiary Designation
- Limited flexibility or contingency planning
- No control over assets after passing
- Minor Beneficiaries require additional consideration
- Limited ability for asset protection
- Limited ability for tax planning
By Trust
Trusts are versatile estate planning tools that allow individuals to control the distribution of their assets both during their lifetime and after their passing. If you have a specific estate distribution goal that the previously discussed methods cannot accomplish, a trust is likely the solution. Simply put, a trust is a legal entity that exists separate from the grantors (those who made the trust). Broadly speaking, there are two types: Revocable Living Trusts and Irrevocable Trusts. Within these broad types, there are many variations of trust types to accomplish all sorts of goals such as tax planning, asset protection, privacy, asset control, and other complicated distribution wishes.
Pros of the Beneficiary Designation
- Avoids probate, and provides privacy
- Control over the assets after death
- More tax planning opportunities
- Identifiable transfer of management for the assets
Cons of the Beneficiary Designation
- Adds complexity to plans in setting up and managing
- Expensive to set up and maintain depending on structure
- Laws may change resulting in unintended consequences unless updated
By Will
A will is a legally binding document that outlines your wishes regarding asset distribution after your passing. A Will can be drafted as simple or complex as you would like but it does have one primary limitation – it does not control assets beyond the grave. To do so, you would need to establish a trust.
Without a will, state laws determine how your assets are distributed. This is given the term “Intestate” which just means you died without a Will.
Pros of the Will
- Simple document to direct assets
- Names executor and guardians for minors
- Relatively inexpensive to create
Cons of the Will
- Does not avoid probate
- Your Will is public record
- Limited Asset Protection
- Laws may change resulting in unintended consequences unless updated
By State
When individuals pass away without a will or other estate planning documents, state laws, known as intestate succession laws, govern the distribution of their assets. By not electing to use one of the above methods, you are defaulting to allowing the state to decide who gets what.
The state laws that govern this distribution is the state that the individual resides unless it is real estate. Each state sets their own intestate succession rules. For a list of various intestate rules, check out this article: Intestate Succession | Nolo
Let me give you an example. In Indiana, consider a married couple with two children. If one spouse were to die intestate, the assets owned by the spouse that pass through probate would be split 50% to the spouse and 50% to the children. The spouse would not inherit all of the assets as is usually the intent for most estate plans that I look at.
Pros of the Intestate
- Easiest to implement as you don’t have to do anything.
- Small estates may have lower costs to transfer
Cons of the Intestate
- May distribute assets in a different way than you intended
- No control
- No tax planning
- No asset protection
- Time consuming
Summary
Planning for how to transfer assets when you pass can be complicated but is critical to ensuring that the right people or organizations receive any remaining assets when you die. I hope that this article provided some food for thought and clarifies the procedures on how assets are transferred.
Other Notes on Methods of Transfer
The Order May Change: It is important to note that in estate planning, this order of operations can be changed. There are two common cases where the order presented here are broken:
- The Testamentary Trust: A testamentary trust is a trust that is created by the Will. Because the trust is created by the Will, the Will has to be executed first before the trust can be used.
- The Pour-Over Will: A Pour-Over Will is a term used to describe a Will that basically sends all of the assets in the estate to the Trust to be managed there. The estate pours over into the Trust.
Probate is a legal process that occurs after a person passes away. It involves the validation and distribution of their assets and property according to their will or, in the absence of a will, according to state laws. During probate, a court oversees the identification of the deceased person’s assets, payment of debts and taxes, and the lawful transfer of remaining assets to the designated beneficiaries or heirs. The primary goal of probate is to ensure that the deceased person’s assets are distributed in an orderly and fair manner while also addressing any outstanding financial obligations.