There’s No Better Way to Say “I’ll Be There for You” than with an Estate Plan

Matthew Perry was probably best known for his role as the sarcastic, neurotic, and always witty, Chandler Bing on the hit-tv show, Friends. He died suddenly at the age of 54. He was unmarried, had no children, and was survived by his parents, five half-siblings, and legions of fans. His Estate Plan differs from many of the cases that this blog examines because there likely won’t be a huge fight in court over his substantial fortune at least in part because he created a Revocable Trust and, as of this writing, no other documents exist. This lack of public fighting doesn’t mean that we can’t draw important lessons from this situation.

At the time of Matthew’s death, it’s estimated that his estate exceeded $120 million. He earned most of that from his time on Friends and the continued royalties from the show. While tragic, Matthew’s death and an examination of what we know about his Estate Plan remind us, regardless of the size of your Estate, it’s vital to have a comprehensive Estate Plan suited to your particular needs. While Matthew had a Revocable Trust, he didn’t have a Will. In many celebrity cases, the celebrity dies with no estate plan, or an insufficient Will, or a document that purports to be a Will which causes the fighting and gives the public insight into the decedent’s affairs. That likely won’t happen here because Matthew chose to create a Revocable Trust.

The Revocable Trust avoids many of the problems typically associated with celebrity estates. First, a Revocable Trust serves as a Will substitute thereby avoiding probate that a Will requires. Additionally, the Revocable Trust provides centralized management of assets, allows for disability planning during life, and protects the privacy of the decedent, the plan, and the beneficiaries. In creating the Revocable Trust, Matthew ensured the privacy of his plan and beneficiaries and avoided the probate process altogether. He did that right; but that alone is not a comprehensive Estate Plan. Any good Trust and Estate practitioner would advise their clients to create both a Will and a Revocable Trust to direct what happens at death because each document serves different functions. In addition to being the only instrument that does certain things (for example nominate guardians for minor children), the Will acts as a backstop to the Trust. If the decedent failed to retitle any assets in the name of the Revocable Trust prior to death, then the Will contains provisions directing distribution of those assets to the Trust, but first, those assets need to go through probate which can be a long and expensive process depending upon the state of residence. Except rarely, probate is a public process.

While it’s unclear how Matthew’s assets will pass because of the privacy a Revocable Trust affords the family, it’s clear that unless certain provisions were included in the Revocable Trust, they will bear significant taxes. When Matthew died, the Applicable Exclusion Amount was $12.92 million, about 10% of his net worth. In other words, the other 90%, or approximately $107 million will be subject to estate tax at a rate of 40%. That means there will be a federal estate tax bill of approximately $42.8 million ($107 million * .40). While it’s possible that the trust included provisions that would have decreased the tax liability, for example, by naming a charity as a beneficiary, we likely won’t know that because the terms of the Revocable Trust remain private. Interestingly, shortly after the actor’s death, the National Philanthropic Trust created the Matthew Perry Foundation. Had Matthew established that Foundation either through the terms of his Trust or as a stand-alone entity, assets given to the Foundation would have provided a charitable deduction for his estate saving substantial taxes.

Celebrity estates make great blogs. They demonstrate the myriad of issues that arise when an individual fails to undertake appropriate Estate Planning. No one is immune from having an Estate Plan regardless of the size of their Estate. It’s important to speak with me regarding your Estate Plan and your unique circumstances. I recommend the use of Revocable Living Trusts as Will substitutes to avoid probate and to provide certain other protections during life, including simplified asset management during periods of disability or incapacity. But, as this article demonstrates, Revocable Trusts alone do not cover every circumstance. Had Matthew created a proper Estate Plan, he could have ensured that his legacy would live on in the way that he desired, quite possibly through the Matthew Perry Foundation or any other charitable organization he created. Allow me to guide you through the creation of your Estate Plan. Your family will consider you a true “Friend” if you do.

Dynasty Trusts

January 1, 2024, marked exactly two years until the planned reduction by half of the current Applicable Exclusion Amount (“AEA”). The AEA is the amount that an individual can pass to anyone either during their life or at death before imposition of a transfer tax. For those needing a refresher, the Tax Relief Act of 2010 set the AEA at $5 million (adjusted for inflation) and the Tax Cuts and Jobs Act of 2017 temporarily doubled that amount to $10 million per person ($20 million per couple), as adjusted for inflation. The inflation-adjusted number in 2024 is $13.61 million per person ($27.22 million per couple). Thus, in 2024 each United States resident or citizen may pass an unlimited amount to their spouse and $13.61 million to whomever they want without worrying about gift or estate taxes. The provisions of the Tax Cuts and Jobs Act of 2017 sunset on January 1, 2026, which means that individuals who may have an estate tax issue when the AEA returns to $5 million per person need to consider more sophisticated Estate Planning techniques. A “Dynasty Trust” presents a good opportunity for wealthy individuals to leverage the doubled AEA for future generations and prevent taxation of those same assets for several generations.

While many folks think Dynasty Trusts are complex, they don’t have to be. In simple terms, a Dynasty Trust continues for the longest possible time allowed by state law. Some states have a “Rule Against Perpetuities” (“RAP”) that limits the amount of time that a trust can exist. Under common law, the RAP provides that the asset must vest, if at all, no later than 21 years after the death of a “life in being” determined when the trust became irrevocable, typically the death of the grantor of the trust. In practical terms, this means that upon the death of the grantor, the Trustee needs to distribute the assets in the trust no later than 21 years after the death of the last of the beneficiaries alive at the grantor’s death. For example, let’s assume that the grantor establishes a trust for his children and grandchildren, the youngest of whom is 4 years old upon the grantor’s death. If that grandchild lives until their 104th birthday (100 years after the grantor’s death), the trust can continue for another 21 years or 121 years after the grantor’s death.

Many states have adopted the Uniform Statutory Rule Against Perpetuities, which allows a trust to last either the traditional RAP period (a “life in being” plus 21 years) or 90 years, if longer. Some states have modified the RAP so that a trust might last 150, 365, or even 1,000 years. Other states have repealed the RAP completely thereby allowing the trust to last forever! You may be wondering why anyone would want to leave their assets in trust that long. First, the grantor could name a professional Trustee to manage the assets to prevent the beneficiaries from squandering them. Second, leaving assets in trust this long ensures that the Trustee distributes the assets in the manner decided by the grantor for future generations. Finally, a Dynasty Trust helps save on taxes for those with a taxable estate thereby allowing the assets to grow for multiple generations without diminution by estate taxes.

Let’s look at a quick example. For the sake of simplicity, we will ignore the impact of the AEA on each estate, assume a tax rate of 40%, and assume that the inheritance grows at a rate of 7.2% annually. John (age 80)(1st generation) dies and leaves $5 million to his daughter, Sally (age 50)(2nd generation), outright. The $5 million turns into $40 million by Sally’s death. Sally’s estate will pay a tax of $16 ($40 million * .40). Sally leaves the $24 million ($40 million inheritance less $16 million tax) inheritance to her child, Beth (3rd generation). Beth lives another 30 years and the $24 million she inherited from Sally grows to $192 million. Beth’s estate will pay a tax of $76.8 ($192 million * .40). Beth leaves the $115.2 million ($192 million inheritance less $76.8 million tax) inheritance to her child, Josh (4th generation), who invests similarly. Thus, the $115.2 million he inherits grows to $921.6 million. At Josh’s death, his estate owes tax of $368.64 million ($921.6 million *.40), leaving $522.96 million for future generations. So, by the end of the 4th generation, the $5 million inheritance from John has grown, after transfer taxes, to $522.96 million in 90 years. That’s an impressive return however, each generation has paid taxes on the assets.

There is a better way, a way that avoids taxation at successive generations. If at his death John (1st generation) left the $5 million to a Dynasty Trust for the benefit of Sally (2nd generation) and her descendants and allocated his Generation-Skipping Transfer Tax exemption, the assets would have been excluded from Sally’s estate. At Sally’s death, the $40 million in the Dynasty Trust would have escaped the 40% reduction due to the estate tax. Instead, the full $40 million could have continued to grow for the benefit of Beth (3rd generation) and her descendants. After 30 more years it would have increased to $320 million and at Beth’s death, again, it would have escaped taxation and would have passed to Josh without further estate taxes. After another 30 years of prudent investing by the 4th generation, the inheritance would have grown to $2.56 billion, or approximately 5 times the amount that it was without using the Dynasty Trust.

Without a Dynasty Trust, the assets increased significantly; however, with a Dynasty Trust, the assets ended up 5x more over the same period and with the same investment assumptions. A Dynasty Trust offers several benefits. It keeps the money in the family and may prove a better option than a nuptial agreement because the Dynasty Trust existed well before the couple and avoids the awkward situation of asking a fiancé to agree to a nuptial agreement prior to or just after the marriage. It allows the grantor to control distributions many years into the future. It provides the assets an opportunity to grow without imposition of estate taxes. Finally, it offers significant asset protection. While a Dynasty Trust may not work for everyone, it provides some great advantages if properly structured.

Starting 2024 the Right Way…with an Estate Plan!

Welcome to 2024! The year 2023 left many feeling unsettled. Chat GPT burst onto the scene, and it seemed AI was destined to take over everything. War continued in Ukraine and broke out in the Gaza Strip. Finally, COVID-19 seems to be the new norm. Calendar year 2023 taught us some tough lessons, most of which focus on preparing for the unexpected and unthinkable. Creating an Estate Plan helps give us a feeling of control and peace of mind, knowing that your loved ones will endure when you leave this earth.

Simply put, an Estate Plan serves as a set of instructions regarding how you want your affairs handled if something happens to you. The plan sends a message to your loved ones that you care enough to tell them what to do in your absence. A basic Estate Plan consists of documents that provide instructions for what happens both during your life and at death. Those documents consist of a Living Trust, also known as a Revocable Trust (a “Trust”), a Will, a Property Power of Attorney, a Healthcare Power of Attorney, a Living Will, and a Health Insurance Portability and Accountability (“HIPAA”) Authorization.

Although we list Trust first, let’s start with a discussion of the Will. A Will determines distribution of your assets upon your death and allows you to select an individual or company to make the disbursements of those assets. The Will allows you to nominate guardians to care for any minor children that you have at your death. Finally, some states allow their residents to pass tangible personal property through a separate writing without the formalities required of a Will. These documents must follow state statutes concerning requirements for validity, but generally, these documents need only reference the tangible personal property sought to be distributed, the desired recipient of the property, and have the testator’s signature along with the date signed. Usually, states that allow a separate writing require that the Will contain a direction regarding passing the tangible personal property according to such document. These states typically do not have companion statutes that allow a Revocable Trust to reference the memorandum. If you do not have a Will, then your state’s intestacy laws will govern dispensation of your assets at your death. Often, the state’s distribution pattern does not match your own. Even if state laws match your desired disposition, state laws contain no provisions to account for a beneficiary’s specific circumstances, for example, a beneficiary with special needs. Finally, state intestacy laws may appoint a stranger to handle these important tasks.

Regardless of whether you have a Will or your state’s intestacy laws determine property division and distribution of your assets upon your death, the individual in charge must petition the court for permission to transact the business of your estate through a probate proceeding. Depending upon the laws of your state, probate can be a lengthy, costly, and public process. If you want to avoid probate and maintain your privacy, a Trust serves as a Will substitute and provides the opportunity for you to do that. With a Trust, you transfer the assets to the Trust during your lifetime and manage them as the Trustee. You avoid probate altogether by using a Trust because the Trust contains provisions regarding what happens upon your death and vests a successor Trustee with the power to make distributions from the Trust without court oversight. The Trust also protects against incapacity by giving a successor Trustee the power to make distributions from the Trust for your benefit should you become incapacitated. Due to cases of fraud, institutions more readily recognize a successor Trustee acting on your behalf than an agent under your Property Power of Attorney.

The Property Power of Attorney allows you to appoint someone as your “Agent” to act on your behalf concerning your financial affairs. If that Agent is unwilling or unable to act, you can appoint one or more successor Agents. Through the Property Power of Attorney, you give someone else (the Agent) powers you inherently already have yourself. Property Powers of Attorney come in several flavors. Some vest immediately meaning that the Agent has the power to make decisions regarding your financial assets right away and without regard to your ability to make those decisions for yourself. In most states, they also may vest upon incapacity meaning that the Agent’s powers “spring” into action only upon your incapacity. Practitioners refer to these types of Property Powers of Attorney as “springing” Powers of Attorney. You may hear the term “durable” in conjunction with the Property Power of Attorney. This means that the Property Power of Attorney continues to be effective notwithstanding your incapacity. A Property Power of Attorney that is not durable does not allow your Agent to act during your incapacity.

A Healthcare Power of Attorney allows you to appoint an agent to make medical decisions for you if you are unable to do so for yourself. If you can make these decisions, then your agent cannot veto any medical decision you make. A Living Will, sometimes called an “Advance Directive” expresses your wishes regarding end-of-life decisions. Without this document memorializing your wishes, doctors and medical professionals must keep you alive even if you have no reasonable chance of recovery notwithstanding that doing so only prolongs your suffering. Often the Living Will and Healthcare Power of Attorney are combined into one document. The Health Insurance Portability and Accountability Act of 1996 mandates that healthcare providers keep your protected healthcare information confidential. While most of us would agree that generally makes sense, sometimes you want others to have access to that information, especially the fiduciaries that you have nominated to act upon your incapacity. A HIPAA Authorization allows you to appoint one or more individuals to access or receive protected health information.

It’s important to keep your Estate Plan updated. Reviewing these documents often ensures that you always have trusted and capable individuals serving in these important roles and that you do not leave your loved ones wondering what to do upon your incapacity or death. While we hope 2024 will be better than the last several years, it’s important to begin the year by creating an estate plan, if you do not yet have one, or reviewing the plan that you already have in place to ensure that it accomplishes your goals. This will provide you and your loved ones with peace of mind for anything that 2024 brings. If the last few years have taught us anything, it’s to expect the unexpected. Even a basic Estate Plan provides peace of mind. Resolve now to get your estate planning done this year, sooner rather than later.