As you probably know, I am a big advocate of using revocable living trusts to avoid the probate process when a person passes on. While a revocable living trust is not for everyone, it is for a lot more people than most attorneys think, and the same attorneys either find or repeat what I see as some the most ridiculous reasons and use bumper sticker sayings that, intentionally or not, perpetuate the agony of probate for more and more families.
One is “if you have less than $1 million, then you don’t need a revocable living trust.” That’s like saying you don’t need to change the oil in your car because the gas tank is full. One thing has nothing to do with the other. The $1 million number, or any number for that matter, refers to the asset level at which there will be estate taxes. It has nothing to do with probate. And so if an attorney solely asks about your estate asset level and then says whether or not you need a revocable living trust, then they do not know enough about estate planning to actually find out what your goals are. Someone may have $200,000 in assets but may be adamant about their estate avoiding probate. They should have a revocable living trust. Someone else may have $4 million in assets but could care less about the downsides of probate. Then a last will and testament may be a better fit. The point is that a dollar figure has nothing to do with whether or not a revocable living trust is appropriate, but it is taken as gospel for most attorneys. Another one, it seems, is that a married couple’s home should not be placed into their trust.
A colleague of mine, Sabrina Winters, recently called to ask about putting a married couple’s real estate into a joint revocable living trust. She felt pretty certain that the primary residence and other real estate should be retitled in the name of the trust to avoid probate, but she put the question to a list serv for estate planning attorneys in our state. First, most questioned why they should have a joint revocable living trust rather than separate ones, but that can wait for another article. But uniformly the participants wrote NOT to put a married couple’s real estate into the trust.
Here’s the legal reasoning being repeated, followed, and never questioned—real estate jointly owned by a married couple is owned as “tenancy by the entirety,” which means each person owns all of the real estate and will automatically inherit the house without probate. Tenancy by the Entirety also has special creditor protection so if either the husband or wife is sued then the property cannot be sold to pay for the judgment because the other spouse has their interest in the property.
Sounds logical doesn’t it? And I’m sure it sounds logical to most estate planning attorneys. But there often has to be a balancing of interests in choosing estate planning strategies, and here the balance only rarely comes out in favor of keeping the real estate out of the trust.
The benefits of placing the real estate into a married couple’s joint revocable living trust are:
- It avoids the probate process on the first death AND the second death. There is no chance that if both spouses die at the same time that the real estate will have to go into probate.
- When the house is placed into the joint revocable living trust and one spouse dies, it will typically be divided equally between a subtrust for the surviving spouse and a credit shelter trust that uses the deceased spouse’s estate tax credits. If real estate just went to the surviving spouse automatically outside of probate, then it would not be part of the assets placed into this credit shelter trust and there may be some unnecessary taxes when the survivor passes on.
- Once that half of the house is in the credit shelter trust, it is protected not just from lawsuits but also from bankruptcy, Medicaid spend down, and creditors. And not just for the surviving spouse, but also potentially for the beneficiaries after the surviving spouse’s death.
- Once that half of the house is placed into the credit shelter trust, all growth on that half of the house is also protected from future estate taxes. So if a house is worth $200,000 when the first spouse passes on, then $100,000 of it goes into the credit shelter trust. If the whole house grows in value to $600,000 by the time the surviving spouse dies, then it is not just $100,000 that is protected, but the full $300,000 for that half of the house.
The one thing I hear from some attorneys in response to that is that the surviving spouse can use a technique known as a “disclaimer” so that they refuse to accept that half of the house, and then it can become part of the credit shelter trust. Good point. But HOW does that happen? The spouse writes out a disclaimer refusing to accept that half of the house. OK, then what happens to that half of the house? IT GOES TO PROBATE. The half of the house will then, through the Will, go into the revocable living trust and then into the credit shelter trust portion.
And so we get to the balancing of interests. On one side, keeping the house titled in tenancy by the entirety allows for lawsuit protection if one spouse is sued and the other is not. No added protection for bankruptcy, no added protection from Medicaid spend down, and no protection from probate when the second spouse dies. In fact, there is no protection from probate even when the first spouse dies if they need to have half the house go into the credit shelter trust. Unless the client situation is one of those rare instances where lawsuit protection is needed, such as one of the spouses is an OBGYN or other high-lawsuit-risk professions, there is very little chance that they will be involved in a lawsuit that will get to the point where their insurance will not cover it, so there really is no benefit to keeping real estate out of a trust for almost all people.
On the other hand in putting the real estate into the trust we have the benefits of avoiding probate for real estate upon both spouses’ deaths, and for the half going into the credit shelter trust, protection from lawsuits, Medicaid spend down, and creditors for the surviving spouse and possibly beneficiaries as well. Then it also avoids unnecessary estate taxes on half the real estate AND its growth when the surviving spouse passes on.
In short, on the one hand we have all of the downsides of keeping the real estate outside the trust for the teeny tiny chance that lawsuit protection may be needed. On the other hand we have all of the benefits of putting the real estate into the trust with 100% certainty that both spouses will die at some point. Seems like a no-brainer to me.”