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7 Big Estate Planning Mistakes: Leaving Assets Outright To Adult Children

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This is the fifth installment of my seven-part series on major estate planning mistakes. I review the first four installments at the end of this post.

Mistake #5: Leaving assets outright to adult children.

People understand why minor children and even young adults shouldn’t inherit property outright. Someone with more maturity and experience needs to manage the assets and make spending decisions. That’s why for minors and young adults, inheritances routinely are left in trusts at least until the youngsters are older.

Too often, however, people overlook the benefits of leaving assets in trust for adult children instead of having them inherit the property outright.

Consider the risks of leaving wealth outright even to grown children and these benefits of using inheritance trusts to hold bequests for them.

Reaching a particular age doesn’t mean someone is financially sophisticated. As the value of an inheritance increases, so does the level of financial acumen needed to manage it. When one of your goals is for the wealth to last for years, professional management of the wealth might be essential. The adult child could, of course, hire a money manager or financial advisor to manage wealth inherited outright. But someone who isn’t sophisticated enough to manage the money might not make a good choice of a financial advisor.

Make an honest assessment of the ability of each of your children to manage the property, and then decide whether to leave the bequest outright or in trust.

Some people are spendthrifts no matter what their age. When you’re concerned an adult child won’t focus on the long term, consider a trust. You can set rules for distributions from the trust.

For example, you can limit annual distributions to only investment income or a percentage of the trust’s value. At the other extreme, you can consider giving the trustee discretion to determine the distributions based on the needs and best interests of the beneficiary. When you're really concerned about the spending of the child, the trustee can pay the expenses of the child directly to providers of essential living expenses instead of distributing cash or property to the child. The rules for distributions generally are limited only by the imaginations of you and your estate planner.

The trust also can have a sort of on/off switch. You might be worried that an adult child has a problem with substance abuse or gambling. In that case, you can give the trustee the discretion to stop making distributions when it is in the beneficiary’s best interests. Distributions can be resumed when the trustee determines it is again in the beneficiary’s best interests.

A trust also protects your wealth from the creditors of the children. In most states, creditors can’t force distributions from a trust, but they can assert claims against income and principal that are distributed to the children. The money is safe as long as it is in the trust. Review state law with your estate planner if creditor protection is a goal. You might want the trust located in a state with stronger protection.

When you leave an inheritance outright to an adult child, the spouse of your offspring often can claim a share of the assets in a divorce or separation. But when you leave the bequest in a trust, it usually isn’t considered part of the marital estate. Part of it won’t end up with a former spouse of one of your children.

When an inheritance is given through a trust instead of directly, it doesn’t have to stay in the trust forever. You can provide that the principal will be distributed to the beneficiary upon reaching a certain age, or that it will be distributed in stages as the beneficiary reaches different ages. Some trusts have principal distributed as other milestones are reached.

A trust isn’t needed or appropriate in every case. You should consider your goals and realistically assess your children, Then, decide if it would be better to let your children inherit the wealth outright or through a trust.

The first four parts of this series are:

Relying Only On A Will

The Power Of Attorney Trap

Not Avoiding Probate

Not Making Full Use Of A Living Trust

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