Number One Mistake People Make in Estate Planning



According to a panel of Judges and Magistrates in Colorado, the number one mistake people make in their attempts to do their own estate planning is this:

Trying to Avoid Probate

The panel was unanimous in its opinion that this one mistake is the driving force behind many of the cases that wind up in their courts.

As I have said in a previous post, Probate is not inherently evil (see, “Probate – Should I or Should I Not?” blog dated April 11, 2014). There are some valid reasons to avoid probate, but it should not be avoided without serious considerations of the consequences.

Here are some common things people do, trying to avoid probate, that can and often do come back to haunt them:

  1.      Titling Real Property in “Joint Tenancy” with Less Than All the Heirs.

Most people want to share their estate with their children equally; however, some people, believing that probate should be avoided at all costs, title a piece of real estate in their name and in the name of one of their adult children. This creates a “joint tenancy” under the laws of most states and can cause problems.

First, most people do not realize that this creates a gift to the child into whose name the real estate is transferred. Gift giving is a taxable event. Granted, there is an exemption that allows a gift of up to $14,000.00 per year, per person before taxes are due, but most real property in Colorado is worth much more than that. In other words, putting a child on the title to real property most likely means that a gift tax will be owed. This tactic avoids probate; however, it also creates an immediate gift tax liability.

Second, when the child is placed on the title to real property, the child receives what is called a “carry-over” basis in the real property. This means that the child is now deemed to have paid what the original purchaser of the property paid for the property and will pay capital gains taxes on the increase in value of the property when he or she goes to sell. Let me give an example to illustrate how this works:

  • Parents buy real property for $30,000.00.
  • The property is now worth $200,000.00.
  • If parent places the child on the title to that property, that child immediately incurs a potential liability of $170,000.00 in capital gains taxes (technically, the child would only be responsible for one-half since the child would get a stepped-up basis on one half and a carry over basis on the other half).
  • This is in addition to the gift tax that would be due in the year in which the gift is made.

One of the advantages of probate, or other conveyances upon death, is that the heir receives a “stepped-up” basis upon the death of the grantor. So, in our example, if the child were to inherit the property at death instead of being put on the title during the life of the parent, then the child’s basis would jump to $200,000.00 and there would be no capital gains tax due if the child then sold the property for $200,000.00.

The third and final consequence of putting a child on the title to real property during the life of a parent is that the overall estate planning wishes of the parent may be thwarted by such a move. As I said at the beginning of this essay, most parents want to distribute their estate among the children in equal shares. But if one child is on the real estate, that child takes the entire piece of real estate outright. The real estate does not enter probate but, rather, passes to the child by operation of law. The parent may hope that the child will share with his or her siblings equally; however, I have seen numerous cases in which the child refuses to do so. And, the danger is, the law and the court can do nothing to prevent the child from receiving an unequal share of the parent’s estate.

     2.     Putting a Child on the Parent’s Bank Account.

This is similar to number 1, above, but involves cash assets instead of real property. In some circumstances, however, the consequences are the same. The move may constitute a gift to that child, which can result in gift taxes being due in that year. This is especially true when the child withdraws money from the account.

Furthermore, upon the death of the parent, the cash in that bank account goes to the child outside of probate. This can cause the unintended result of an unequal distribution of the parent’s estate, as discussed above.

Conclusion and Recommendation.

There are valid reasons to avoid probate; however, many of the ways people try to accomplish that goal cause unintended results. My advice is to speak with a qualified estate planning attorney before making any changes to your assets.

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