What It Is:
Estate planning is the act of preparing for the transfer of a person's wealth and assets after his or her death. Assets, life insurance, pensions, real estate, cars, personal belongings, and debts are all part of one's estate. Estate plans must be written, signed, and notarized by the person who owns the estate.
How It Works/Example:
Many people think they don't need to do any sort of estate planning, and they think that the existence of a simple will does the job. However, wills are simply legal documents that express the decedent's intentions for burial and to whom he or she wishes to pass money and property (the estate) when he or she dies. A judge has to allow the transfer of that money and property from the decedent's accounts to the beneficiaries' accounts. This procedure is known as probate, and it opens the door for relatives or third parties to contest your will and for a judge to misinterpret your wishes, both of which can tie up an estate in court for years.
Furthermore, probate fees can cost thousands and thousands of dollars. There are executor fees, court fees, recording fees and attorney fees, and in many cases, these fees must be paid as the estate is probated, meaning that the heirs will need to come up with the money fairly immediately upon the person's death. A will also does not alleviate the problem of estate taxes.
Why It Matters:
Estate planning is for everybody, not just the wealthy. Without an appropriate estate plan, friends and relatives can spend a lifetime (and their life savings) battling over your assets. It can be intimidating, but it is a necessary step in ensuring your assets end up where you want them, without the interference of the IRS or third parties.
Establishing a trust is a great way to mitigate some or all of the estate taxes that would otherwise be owed upon your death. A trust allows a person to transfer legal title of his or her property to another person while they're still alive, potentially saving thousands in taxes.
A trust also gives the trustee (the person acting on behalf of the decedent) the authority to distribute assets immediately to the beneficiaries based on the terms of the trust. No court is involved, so there are no probate fees and no public record of the value of the estate. Many financial advisors urge clients to have trusts, especially those who live in states where probate fees are especially high or if the client owns a home or real estate. Trusts are not for everyone, however, so it is important to seek proper financial advice.