Cohabitation Complexities
Chances are quite good that you know couples who are living together
without the benefit of marriage. The U.S. Census Bureau confirms
what you already may suspect: More people are cohabitating in lieu of
marriage these days than ever before in our nation's history. In 1930,
married couples accounted for 84 percent of American households. In the
year 2000, just seventy years later, married couples were barely in the
majority at 52 percent. The trend does not seem to have bottomed-out,
either. In 2005, married households were the minority at 49.7 percent.*
At present, the cohabitation of unmarried
couples is prohibited by the laws of seven states. But even in the
majority of states, where cohabitation is not a violation of state law,
unmarried cohabitants face unique estate planning challenges regarding
incapacity, inheritance and estate taxation. In this article we will
review these challenges and some of the potential problems they can
cause.
Incapacity Challenges
Unlike their married counterparts, unmarried
cohabitants may not be able to make fundamental health care and
financial decisions for one another in the event of incapacity. Absent
prior legal planning or specific statutory authority, they have no legal
relationship giving legal standing in court over blood relatives.
For example, John and Jane are unmarried
cohabitants when a severe automobile accident leaves Jane in a coma. If
John and Jane's parents square off in a court of law seeking to be her guardian,
then the preference will be for Jane's parents. In addition, if Jane's
parents do not like John, they may legally bar him from visiting her.
Jane's parents would even have the authority to make end-of-life
decisions for Jane without John's input.
Similarly, John would not be able to manage
Jane's finances for her either. Her parents likely would be appointed as
the conservator of her financial affairs by the court, too. They
could pay her bills, make her investment decisions and file her tax
return.
Inheritance Challenges
Absent prior legal planning, state intestate
succession laws (i.e., state laws that determine the distribution of the
assets of a person who dies without an estate plan) may leave a
surviving cohabitant out on the street. For example, Jane and John
reside in a home titled in Jane's name alone. If Jane dies, then her
parents inherit the home and may force John to leave as a trespasser. If
Jane and John had children together, then the children would inherit the
home, not Jane's parents. But what if the children are minors?
As the surviving parent, John would be
responsible for maintaining the home for the children or selling it on
behalf of the children. When the children reach the age of majority
(i.e., age 18 in most states), John may be required to turn the home or
the sale proceeds over to the children with no further guidance or
control.
Estate Tax Challenges
The unlimited marital deduction is an
unlimited deduction for estate tax purposes, but only for
transfers between spouses. For example, Jane's estate includes an IRA
worth $4 million and she has designated John as her primary beneficiary.
Upon her death, only $2 million of the IRA is sheltered from federal
estate taxation. What about the remaining $2 million?
Jane's estate will pay more than $800,000 in
federal estate taxes (plus income taxes on any IRA funds withdrawn to
pay the federal estate tax bill) within nine months of Jane's death.
Contrast this result with Bob and Barbara who
are married and make their home in the next cul-de-sac. Assume that they
present the same facts. Bob will inherit Barbara's full $4 million IRA
without any reduction for estate taxes upon transfer.** This is because
the unlimited marital deduction allows spouses to give during
life or leave upon death an unlimited amount of assets free of transfer
taxation.
Couples who cohabitate should consider seeking
qualified legal counsel to minimize or eliminate these adverse results.
*Source: U.S. Census Bureau, American
Community Survey, 2005
**Note: This scenario requires significant tax
planning beyond the scope of this article.
Postnuptial Protocol
Whether you have just tied the knot or just celebrated your Golden
Anniversary, it is never too soon (nor too late) to get your legal house
in order as a couple. In this article we review some fundamental legal
tools and techniques that are must-haves for every married couple.
Durable Powers of Attorney
Many married couples mistakenly believe that
upon exchanging vows they are granted blanket legal authority to carry
out their mutual pledges to care for one another in sickness and in
health. Unfortunately, the law requires further and more specific
written legal authority. If one spouse is incapacitated due to an
illness or an injury, then this becomes painfully apparent.
Each individual American is responsible for
making his or her own personal, health care and financial decisions.
When incapacity strikes, that responsibility does not end. But who will
make these decisions? Bottom line: It will either be someone appointed
by you in advance, or someone appointed for you by a judge in
the probate court. Hint: Hiring an attorney to prepare a durable
power of attorney to appoint your spouse as your agent is likely
much less expensive than having a judge (plus the two additional
attorneys required) involved in the court process ... to eventually
appoint your spouse anyway.
A durable power of attorney may be prepared to
cover both financial and health care matters in one document.
Alternatively, separate documents may be created with one for financial
and the other for health care. While you are at it, remember to prepare
a living will or health care treatment directive to
provide clear and convincing proof regarding your end-of-life
treatment wishes.
Wills & Trusts
Once you have made arrangements to care for
each other in the event of incapacity, make arrangements for the
transfer of your assets to one another upon death. These transfers may
be outright or in trust. Do not forget to also make arrangements for any
eventual inheritance that may be left to your children. Sometimes it is
wise to protect an inheritance both from and for your
children. Testamentary trusts, whether established under a last
will and testament or under a revocable living trust, can provide
considerable inheritance protection for your children from potential
divorces, lawsuits and bankruptcies.
Estate Tax Savings
Properly drafted credit shelter trusts
can save more than $800,000 in unnecessary federal estate taxes. The
emphasis is on the word unnecessary.
Fortunately, the Internal Revenue Code
authorizes each person to exempt up to $2 million from federal estate
taxes. However, this tax exemption is not automatic. Many couples fail
to protect the full $4 million allowed because they overuse the unlimited
marital deduction by leaving everything outright to the surviving
spouse. Careful planning is required to fully maximize federal estate
tax savings. This is not a do-it-yourself project. Retain appropriate
legal counsel regarding your options.
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