Blog of Jeff Vandrew Jr, Attorney-CPA

6 Things You Can Do Right Now to Live Richer & Leave More for Your Loved Ones

When talking about estate planning, we often get all twisted up in the mechanisms (revocable living trusts, wills, death taxes, etc.). We then lose sight of the bigger picture, which is how to live more richly with the time we do have. When I speak of “living richly”, I don’t necessarily mean living extravagantly. I mean living a fuller life. Being smart with money, and identifying it as a tool rather than as a master can certainly help in this goal.

When you live more richly, not only does it benefit your own life, but you also leave more behind for your loved ones not only in terms of money, but also priceless memories.

The ideas on this list range from the commonplace to the aspirational, but I believe you’ll find all of them very actionable in your day to day life.

529 Strategies: FAFSA & A Grandchild’s College Expenses

It’s common that grandparents want to help with college expenses for their grandchildren. Most grandparents helping their grandchildren want to do so in a way that won’t affect financial aid eligibility.

One of the most common ways that grandparents help is through use of a 529 Plan. A 529 Plan is a special type of tax-deferred account that has both an “owner” and a beneficiary. In most cases, it’s beneficial that the grandparent be the “owner” of the account. The beneficiary is the student incurring college expenses. Generally speaking, a 529 Plan has the following advantages:

Contributions to a 529 Plan are removed from a grandparent’s taxable estate.
The contributions grow free of income taxes.
Withdrawals from the plan are free of tax so long as used for qualified higher education expenses.
The “owner” (usually the grandparent in this case) can change the beneficiary on the account to another family member of the original beneficiary if the original beneficiary doesn’t end up needing the funds for college.

Most questions I get about 529 Plans revolve around their affect on student aid. The good news is that so long as the grandparent (not the parent) of the student is the owner, the 529 Plan doesn’t count as an “asset” for determining financial aid. However, the bad news is that any distributions from the grandparent-owned plan do count as “income” for student aid purposes. There are two main strategies that can mitigate this income effect:

By January 1 of the student’s junior year, the student will have filed his last FAFSA. This means that distributions from a grandparent-owned 529 Plan after this date will not affect financial aid. If the student’s parents have saved anything for the student’s college, the strategy here is to use their savings for the first 2.5 years of college, and then use the grandparent-owned 529 Plan to pay for the final 1.5 years.
If the parent’s funds (or financial aid) is not sufficient to cover the first 2.5 years mentioned above, an account-owner transfer may work. Under this strategy, the grandparent rolls over one year’s worth of college expenses into a separate 529 Plan (with the same student as beneficiary). After the student files their FAFSA for the year, the grandparent then transfers ownership of the separated 529 to the student’s parent. [The grandparent transfers only the smaller 529 holding one year of expenses, not the original 529 Plan.] The parent then spends those funds on the student’s tuition for the year. Unlike a grandparent-owned 529 Plan, distributions from a parent-owned 529 Plan are not income the to student. The downside of a parent-owned 529 Plan is that the assets in the plan are countable in determining financial aid. However, in this case, the parent-owned 529 only contained one year of expenses, which will all be spent by the time the student must file a FAFSA again. The balance will be zero by the time the next disclosure comes on a FAFSA.

Strategy 1 above is pretty “vanilla” and is commonly used. Strategy 2 is also used, but is definitely more aggressive, and could potentially be challenged by a financial aid office (although this isn’t something I’ve personally seen). In 2008, the IRS also issued a notice stating that it might issue regulations to restrict 529 account owner transfers, but it has not taken any action to do so yet.

This stuff is tricky, so don’t attempt it without first consulting with a tax advisor. And feel free to contact me.

Taxes, Mortgage & Title Insurance: Side Effects of a House Held in Trust

When clients transfer the deed to their home or other real estate into a revocable living trust, or into an irrevocable trust, they often question how it will affect the property’s title insurance, mortgage, and taxes. Because I receive so many questions on this topic, I thought I’d do a post addressing each area.

Title Insurance. If you transfer your home out of your personal name into a trust and your title insurance policy was issued before 2006, it is likely that the transfer voids your title insurance. This is obviously an undesired result, as if there were ever a problem with your title years down the road you wouldn’t be covered. The solution to this problem is to contact your title insurance company before making the transfer to inquire about an endorsement to the policy to cover the trust. Title insurance companies generally issue such endorsements without a problem; usually they only require a copy of the trust, a copy of the deed, and a fee for the endorsement. The fee varies between title insurers. I’ve had some title insurance companies charge as little as $75 and others charge as much as $400 depending on the amount of the policy. Whatever the fee, it is generally small compared to the cost of a new title policy and is worth the investment for piece of mind.

If your title insurance was issued after 2006, the situation is even better as the transfer into trust is likely covered without any endorsement necessary. To find out whether your title insurance covers such a transfer without endorsement, you’ll need to read the policy itself. You’ll need to read the actual policy (sometimes called the “jacket”), not the title work. If a transfer to trust is covered without endorsement, the “Conditions” section of the policy will generally state such in Section 1(d)(i)(D)(4). If you find this confusing, we can review the policy for you to make sure you’re covered.

Mortgage. Your mortgage almost certainly states that if title to your property is transferred out of your name, the entire mortgage balance becomes due and payable immediately. This is called a “Due on Sale” clause. At first blush, this would seem to prevent any transfers into trust unless a home was owned free and clear. In this scenario, however, a federal statute known as the Garn-St Germain Act comes to the rescue. Under the Garn-St Germain Act, a mortgage company is prohibited from enforcing any Due on Sale clause upon a transfer in trust if the borrower is a beneficiary of the trust and is permitted under the trust document to occupy the property. This generally permits transfers into revocable living trusts without any problem. Most irrevocable trusts, on the other hand, may pose a problem unless written approval is first obtained from the mortgage company. Note that Garn-St Germain only applies to residential properties of less than five units.

Taxes. So long as the trust to which your property is transferred is a “grantor trust”, your ability to deduct your property taxes each year on your tax return is unaffected. Likewise, your ability to exclude the gain on sale of your principal residence under IRC 121 is also unaffected. All revocable living trusts are “grantor trusts”, as are many irrevocable trusts.

New Jersey has three major property tax benefits for principal residences: the Homestead Rebate, the Property Tax Reimbursement (“Senior Freeze”), and the Veterans Deduction. All three benefits are likewise unaffected if the principal residence is held in trust for the person who resides there and is claiming the benefit.

I hope this rundown was beneficial, and if you have any questions, don’t hesitate to contact me.

NOT LEGAL ADVICE. Everything posted here is for educational purposes only, and is not to be construed as legal advice. Do not take any action, postpone any action, or decline to take any proposed action based on this information without first engaging the representation of me or another qualified attorney. Nothing posted on Twitter or on any website shall be construed in any way as legal advice.

Revocable Living Trusts from a NJ Lawyer

If you’ve been reading internet articles on New Jersey estate planning, you might come away with the impression that the standard “revocable living trust” (“RLT”) is the solution to all of your problems. However, that’s really only half of the story.

How Revocable Living Trusts Work

In the old days, when someone died with a will, one of their friends or relatives needed to hire a New Jersey lawyer file a complaint in court to “probate” the will. In those days, probate was the process where the court appointed who would be in charge of the affairs of the deceased person and directed that person (the “executor”) on how to act. The executor was required to pay the decedent’s debts and then distribute the remaining assets to any beneficiaries. Before he could do this, however, he needed to make a formal accounting to the court and receive court approval.

That olden-time system resulted in a lot of fees for estate planning attorneys. The executor was often needing to appear in court, and as a result, he needed an attorney to represent him. Somewhere down the line, some clever practitioner came up with a way to avoid having to resort to the court process. The tool to accomplish this was the revocable living trust.

In the simplest scenario, if someone were do die with all of his assets in a revocable living trust, he would have no assets which would need to go through the probate process. The RLT document itself would name a successor trustee at the death of the Grantor, and that person would be permitted to pay the decedent’s debts and distribute assets to the beneficiaries free of court supervision. The revocable living trust would act just like a will, but without having to go through the probate process.

At this point, you’re probably thinking that a revocable living trust sounds great. However, what most internet resources don’t tell you is that the old-time expensive probate system no longer exists in New Jersey, making the old-fashioned type of RLT mostly moot. Let’s debunk a few RLT myths here:

Myth 1: Probate is expensive and long, and revocable living trusts avoid probate.

Unlike in Florida and California, nowadays in New Jersey the probate process is not supervised by the court and is generally inexpensive and efficient. In today’s times, New Jersey probate usually is no more than a quick visit to your local county Surrogate to pay a filing fee of a couple hundred dollars. Unlike in other states, New Jersey probate is no more complicated or expensive than administering a revocable living trust.

Myth 2: Revocable Living Trusts Provide Asset Protection.

RLTs provide no asset protection while you are alive. If you’re sued or you need long term medical or nursing home care, a revocable trust doesn’t help you at all.

Myth 3: Revocable Living Trusts Reduce Taxes.

The traditional form of RLT is tax-neutral.

Does this mean you should proceed with a standard will? Absolutely Not. A standard will (or standard RLT) can leave your loved ones totally unprotected from taxes and divorce (click here to learn more). We offer much better options, namely a highly specialized type of RLT called a Bloodline Trust. Contact us and we can help.

Tenancy by the Entirety: What is it, and can it protect your assets?

There are three basic ways in which two people can take co-ownership of property in New Jersey: joint tenancy, tenancy in common, and tenancy by the entirety. Of those three, only tenancy by the entirety provides any sort of asset protection at all. Tenancy by the entirety is a very special type of ownership available in less than half of states. In this post, I will discuss what tenancy by the entirety is, and the protection it provides in New Jersey.

Tenancy by the entirety (“TBE”) is a form of joint ownership only available to husbands and wives, and in New Jersey, civil union partners. When spouses hold property as TBE, they each hold an undivided one-half interest in the property, along with a right of survivorship. This means that upon the death of one spouse his interest in the property passes automatically, despite what his will might say, to his spouse. Also, neither spouse may sell his or her interest in the property without consent of the other spouse. N.J.S.A. 46:3-17.4.

The default rule, and the absolute rule in most states that recognize TBE, is that TBE property cannot be levied by a creditor unless the creditor has a judgment against both spouses. If a creditor has a judgment against only one spouse, he has a lien against the property but cannot foreclose upon that lien. The creditor of only one spouse is basically entitled to three things:

1. Satisfaction of the debt if the property is sold. Because the debtor has a lien against the property, if the property is ever sold, the sales proceeds must be used to satisfy the creditor’s judgment.

2. The debtor’s right to survivorship. If the non-debtor spouse dies before the debtor spouse, the creditor can step into the shoes of the debtor spouse and take the entire property.

3. The debtor’s right to occupy the property. The creditor technically takes the debtor’s right to occupy the property in question. In real life, the creditor rarely wants to actually occupy the property. However, a right to occupy legally entitles the creditor to more than just physical occupancy. Due to the right to occupy, if the property is not the non-debtor spouse’s residence whatever income the property generates must be split between the non-debtor spouse and the creditor. Also, if the non-debtor spouse uses the property as a residence, the creditor is entitled to some level of payment from the non-debtor spouse for her ability to occupy without the creditor. See, e.g., S.E.C. v. Antar, 120 F. Supp. 2d 431, 449-51 (D.N.J. 2000) aff’d, 44 F. App’x. 548 (3d Cir. 2002).

The main selling point of TBE is that despite the creditor obtaining the above rights, he doesn’t get the right he really wants: the right to foreclose. However, in New Jersey, in certain circumstances a judge may ignore the traditional protections of TBE and order foreclosure of the property anyway:

Fairness dictates that a family not be dispossessed of its home as a result of one spouse’s debts. On the other hand, New Jersey courts have not held that creditors are never entitled to obtain partition of property held as a tenancy by the entirety…. Thus, a court is permitted to exercise its equitable discretion in deciding whether to allow partition or foreclosure.

S.E.C. v. Antar, 120 F. Supp. 2d 431, 449-51 (D.N.J. 2000) aff’d, 44 F. App’x. 548 (3d Cir. 2002).

If you live in a reasonable home, it is probably a good bet that a court will allow the traditional TBE protections for your primary residence and will not allow foreclosure. However, if you live in a lavish home or are seeking TBE protections for a non-residence, there is a good change a court will order foreclosure in New Jersey.

In short, TBE does provide some asset protection, but in New Jersey it is not perfect. I would generally not recommend relying on it for assets other than a principal residence, and even then it has downsides. The upside is that it is extremely easy and cheap to implement. If you are interested in TBE, or would like to learn about other asset protection mechanisms that provide more protection than TBE, feel free to contact me.