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This page is designed to help you better understand the issues related to the various aspects of estate planning.
Feel free to review all the contents or click below to the area that is most important to you:
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| q Living Trusts for California Residents |
| q Reducing Federal Estate Taxes By Using an Exemption Trust |
| q Charitable Remainder Trusts |
| q Federal Estate and Gift Taxes |
| q Irrevocable Life Insurance Trusts |
| q Trusts for Pets |
| q Administration of a Trust After a Trustor's Death |
| q The Process of Probate in California |
| q Avoiding Probate in California |
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| Living Trusts for California Residents |
| How can a living trust help your estate? |
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In most instances, a living trust will avoid probate for all of the assets that have been transferred to the trust.
Probate is a costly, time-consuming process that many estates do not need. While, as a general rule, avoiding
probate is an objective of establishing a living trust, certain circumstances may offset these generally beneficial
estate planning devices.
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A trust also can also help in avoiding the imposition of a conservatorship, which can be expensive, time-consuming
and restrictive. Conservatorships are often imposed when an individual can no longer manage his or her financial
affairs. A conservator is appointed by a and given the power to manage the conservatee's financial affairs, and
make decisions concerning the conservatee's living arrangements, such as long-term healthcare. A properly
prepared trust can provide a successor trustee who will manage the trust for the benefit of the trustor, sometimes
avoiding the need for a conservatorship, and affording much greater latitude and control in mandating such important
decisions as declaring that one remain and receive healthcare in one’s own home, rather than being sent to a
nursing home.
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| How is a living trust set up and “funded”? |
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A trust document is drafted and usually names the Trustor(s) (the person(s) setting up the trust) as the trustee(s)
of the trust. The trustees are responsible for managing the trust and its assets. The trust usually names other
persons, banks, or trust companies as successor trustees. The successor trustee(s) will take over management of the
trust after the death, resignation, or incompetency of the original trustee(s). Again, the selection of successor
trustees is dictated by the Trustor(s), thus providing an additional measure of control.
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The trust also provides for distribution of the estates of the Trustor(s) after the deaths of the Trustor(s).
These provisions are often similar to those found in a will and can include trusts for younger beneficiaries,
gifts to charities, specific bequests of personal or real property, cash, and the like.
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Depending on the size of the estate, the trust might include provisions that will effectively reduce or eliminate
federal estate taxes. For example, for married couples with more than $1,000,000
in net worth, a living trust can reduce or eliminate federal estate taxes by setting up an Exemption Trust.
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After the trust is designed and drafted, the Trustor(s) transfer their assets to the trust. This process of titling
assets in the name of the trust is known as “funding” the trust. If this critical task is not performed, additional
legal work, possibly including a of these assets, will be required after the death(s) of the Trustor(s).
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| Advantages of living trusts: |
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Assets held by the trust (properly titled) will not be subject to probate. Legal fees for probating an estate
(set by statute or court order) are usually much higher than the fees for a trust. Probate often takes a year
or longer to complete, while a trust administration can, in most, be completed in a much shorter time.
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If a trustor becomes mentally incompetent, the successor trustee can take control of the trust, thus avoiding
the cost of a conservatorship in most cases. A conservatorship is a public court-supervised proceeding that
can involve substantial legal fees.
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The trust is revocable during the lifetime(s) of the Trustor(s). (If an Exemption Trust is used, part of the
trust will become irrevocable after the death of the first trustor.)
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| Disadvantages of living trusts |
| Living trusts usually cost more to prepare and fund than an estate plan involving just a will. |
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Transferring assets to the trust involves costs and paperwork (recording deeds, and the like) not required for
less elaborate estate plans, such as a will.
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Administration of an Exemption Trust can involve additional effort for the surviving spouse.
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Refinancing real property that is owned by a trust may require removing the property from the trust before the
refinancing, and then titling it in the name of the trust after the refinancing. Not all lenders require that
property be removed from the trust in order to refinance.
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| Reducing Federal Estate Taxes By Using an Exemption Trust |
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WHAT IS AN EXEMPTION TRUST?
An exemption trust is known by many names, including bypass trust, credit shelter trust, or B trust. Regardless
of the name of the trust, its purpose is to reduce or eliminate federal estate taxes for a married couple's
estate. This type of estate plan sets up an irrevocable trust that will hold the assets of the first spouse to
die. The amount transferred to the irrevocable trust will not be taxed for federal estate tax purposes when the
second spouse dies. For couples with substantial assets, the savings for their estate can be more than $300,000.
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HOW DOES IT WORK? Let's look at how the estate of a married couple would be taxed if the couple did
not have an exemption trust:
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| EXAMPLE 1: |
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Assume that a married couple owns $2,000,000 in community property and has no estate plan. On the death of the first
spouse (assuming the death is in 2002), a portion of that spouse's assets will be transferred to the surviving
spouse in accordance with the intestate succession laws. Regardless of the amount that is transferred, there will
be no federal estate tax imposed at this point. Federal law allows a "marital deduction" to be used when
assets are transferred to the surviving spouse, and that deduction eliminates any tax that might otherwise be due.
However, it also eliminates use of the exemption for the first spouse to die because he or she had no estate
remaining that can be exempted from the tax.
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As a result of the death of the first spouse, the surviving spouse now owns nearly the entire $2,000,000 estate,
but there is only one $1,000,000 exemption available because the marital deduction was used to transfer the
entire estate of the first spouse to the surviving spouse. If the surviving spouse dies during 2002 with an estate
of $2,000,000, a tax of more than $300,000 will be due from his or her estate.
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| EXAMPLE 2: |
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Assume that a married couple with a net worth of $2,000,000 has set up a living trust that includes an exemption
trust. While both of them are alive, the assets will be held in the revocable living trust. On the death of
either one of them, the trust will be split into two trusts: The survivor's trust, and the exemption trust.
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In this example, the deceased spouse's share of the estate, $1,000,000, will be transferred to the exemption trust.
The "marital deduction" will not be used because there are no assets that are transferred to the surviving
spouse. (The exemption trust and the surviving spouse are two separate taxpayers for this purpose, even though the
surviving spouse will receive the income from the exemption trust and may spend the principal of the trust in certain
limited circumstances.) As a result, the exemption amount for the first spouse to die is not lost because his or her
assets were transferred to a taxpayer other than the surviving spouse. Although this may seem like a minor difference
in the estate plan, establishing the irrevocable trust will save the couple's estate more than $300,000. If the
surviving spouse dies with an estate that is not more than the exemption amount that is allowed in the year of death
(if the surviving spouse died during 2002, the amount would be $1,000,000), the surviving spouse's estate will pay
no federal estate tax.
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| Charitable Remainder Trusts |
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What are they? A charitable remainder trust allows you to make a donation to your favorite charity, and
retain the income from the donated assets for your personal use during your lifetime.
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How do they work? The donors establish the trust and transfer assets, such a real estate or highly appreciated
stocks, to the trust. The trustees of the trust, who are often also the donors of the property, then sell the
assets for the trust and reinvest the proceeds. The donors receive a specified amount of the income from the
trust either for the balance of their lives, or for a fixed period of time. After their deaths, the assets are
given to the charitable organization named in the trust.
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What are the advantages?
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1. The donors receive an income tax deduction for the donated assets.
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2. Capital gains taxes are avoided on the assets that are donated.
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3. The assets that are donated are no longer part of the donors' estate, and will not be subject to the federal
estate tax.
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4. The donors will receive income from the assets based on a percentage or amount specified in the trust.
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5. The donors can decide which charities will benefit from their estate, instead of giving a large part of
their estate to the federal government.
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What are the disadvantages?
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1. The charitable remainder trust must be irrevocable under federal regulations.
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2. The part of the estate that is donated to the trust will not go to the donors' heirs, but instead will
eventually wind up being given to the charitable organization.
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3. If the assets donated were substantial, the donors may not be able to take the full amount of the charitable
deduction on their income tax returns in the same year that the donation took place. However, the deduction can
often be spread over a five-year period.
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| Types of charitable remainder trusts include the following: |
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1. Charitable Remainder Annuity Trust: An annuity trust provides a fixed amount of income each year to the
donors. If the donors decide to receive $50,000 per year from the trust, for example, they will receive that
amount even in years in which the trust does not earn $50,000 from its investments. In other words, if the
income is not enough, the payments to the donors will be taken out of the principal of the trust. The amount
chosen must be at least 5 percent of the initial value of the trust, and cannot exceed 50 percent. The value
of the remainder amount that will go to the charity must be at least 10 percent of the initial value of the
trust.
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2. Charitable Remainder Unitrust: A unitrust provides an income that is a fixed percentage of the assets.
The value of the assets are recalculated each year to determine the amount that will be paid. The amount of
the payments will vary each year, and the donors will have some protection against inflation. The percentage
chosen must be between 5 and 50 percent of the trust principal, and the value of the remainder amount that
will go to the charity must be at least 10 percent of the initial value of the trust.
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| Federal Estate and Gift Taxes |
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The Federal Estate Tax is a tax on any transfer of assets from a deceased person's estate to his or her heirs.
The tax bill that was enacted in 2001 provides that the federal estate tax will be repealed as of January 1,
2010. Although the tax bill provides for repeal of the estate tax, it also includes a "sunset provision,
" meaning that the entire tax bill is no longer valid as of January 1, 2011. In other words, the estate
tax will become effective again on January 1, 2011, unless Congress and the President take action to extend
the repeal. On June 13, 2002, the United States Senate failed to pass a permanent repeal of the estate tax,
and the issue probably will not come up again until 2003.
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All assets owned by the deceased person are subject to the estate tax, including property in joint tenancy,
living trusts, and life insurance (if the insurance was owned or controlled by the decedent).
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Each asset has an exemption from the tax that will increase each year until 2009, when it will be $3,500,000.
The exemption amounts are as follows:
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| Year of Death |
Exemption Amount |
| 2001 |
$675,000 |
| 2002 |
$1,000,000 |
| 2003 |
$1,000,000 |
| 2004 |
$1,500,000 |
| 2005 |
$1,500,000 |
| 2006 |
$2,000,000 |
| 2007 |
$2,000,000 |
| 2008 |
$2,000,000 |
| 2009 |
$3,500,000 |
| 2010 |
Repealed |
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| The maximum rates for the federal estate tax are as follows: |
| Year of Death |
Maximum Tax Rate |
| 2001 |
55 % |
| 2002 |
50 % |
| 2003 |
49 % |
| 2004 |
48 % |
| 2005 |
47 % |
| 2006 |
46 % |
| 2007 |
45 % |
| 2008 |
45 % |
| 2009 |
45 % |
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THE MARITAL DEDUCTION
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Assets that are transferred from one spouse to the other spouse at death are not taxed. This is called the
"marital deduction," and there is no limit on how much can be transferred.
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THE DISADVANTAGES OF USING THE MARITAL DEDUCTION
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Although the marital deduction protects the surviving spouse from federal estate taxes, it may subject the
surviving spouse's estate to higher taxes at a later date. Using the marital deduction to transfer all of a
spouse's assets to the surviving spouse means that the first spouse to die will not have taken advantage of
his or her exclusion amount, and that benefit is no longer available to the couple's estate.
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THE FEDERAL GIFT TAX
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The Federal Gift Tax is intended to limit the amount that can be transferred to persons other than a spouse
without incurring a tax. Gifts of up to $11,000 can be made during 2002 and the following years to an
individual without incurring a gift tax. If the gift is made by a married couple from their jointly owned assets,
it can be as much as $22,000 without being taxed. There is a lifetime gift tax exemption of $1,000,000, starting
on January 1, 2002. Although the estate tax is being repealed, the gift tax will not be repealed. It will
continue past 2009 at a tax rate equal to the highest income tax rate in effect for the year that the gift is
made. Currently it appears that the tax rate will be 35 percent.
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WHAT IS A DISCLAIMER?
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A disclaimer is a refusal to inherit all or part of an asset. The reason for doing this is that the person who
is entitled to receive a bequest either doesn't need or doesn't want the bequest. In most cases the bequest
would only make a sizable estate larger and increase the amount of federal estate taxes that will eventually
be collected from that estate. The disclaimer operates as though the disclaimant died before the decedent, and
the decedent's estate plan specifies a contingent beneficiary, who is often the disclaimant's children. If that
is the case, the effect is that the bequest goes to the disclaimant's children, and is never taxed in the
disclaimant's estate.
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For example, assume that the disclaimant has a $5 million estate and receives a $1 million bequest from his or
her parents' estate. If the parents' estate plan provides that the bequest will go to the disclaimant's
children if he or she does not survive the parents, the disclaimer will allow the $1 million bequest to go
directly to the disclaimant's children. If a disclaimer is not used in this situation, the $1 million would
stay in the disclaimant's estate, and eventually be taxed at rates currently as high as 50 percent. The
disclaimant's children would receive only half of their inheritance if the disclaimer is not used, but $1 million
if it is used.
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| Irrevocable Life Insurance Trusts
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Purpose: The purpose of a life insurance trust is to avoid federal estate taxes on life insurance owned
or controlled by the decedent. Anyone who buys their own life insurance, or has it provided by their employer,
will usually have the face value of the insurance included in their estate for federal estate tax purposes.
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Insurance can inflate the size of an estate: For example, if you have a house, stocks, and bank accounts that add
up to $1,000,000, you may believe that you do not have a federal estate tax problem. However, if you also have
$500,000 worth of life insurance provided by your employer (and you are allowed to name the beneficiaries, for
example), it is considered part of your estate. Instead of a $1,000,000 estate, you have a $1,500,000 estate, and
estate taxes will be due after you die.
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How can estate taxes be avoided? If the insurance is not owned by the decedent or by his or her spouse, the
insurance will not be considered part of the estate. This can be accomplished by setting up an irrevocable
life insurance trust that buys the insurance and pays the premiums for the insurance.
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How does a life insurance trust work? The trustor sets up the trust and names a trustee, who should not be
related to the trustor, or be an employee of the trustor. The trustor contributes funds to the trust, which
are used to buy the life insurance. After the trustor's death, the proceeds of the insurance are paid to the
life insurance trust, and then distributed to the beneficiaries of the trust, who might be the trustor's
children. If the trust has been administered properly, the proceeds of the insurance will be distributed free
of estate taxes to the beneficiaries.
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| Trusts for Pets
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Purpose: The purpose of a trust for a pet is to provide funds to pay for the pet's care after the death
of the trustor.
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How does it work? The trust can provide that a trust will be established for the care of the pet, and a
specified amount of money will be used by the trustee for the care, feeding, and health care of the pet for the
remainder of its life. The trust for the pet can be provided either through a will or through a living trust.
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Legal authority: California Probate Code section 15212 was enacted in 1991 and authorizes trusts for pets.
Prior to 1991 in California courts had been reluctant to declare that these types of trusts were valid.
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Alternative: Another approach to lifetime care for pets would be to give the pet to a friend, and also
give the friend a cash bequest. This would allow the trust to be closed prior to the death of the pet, but
also has a risk that the friend would not be legally obligated to pay for the pet's care.
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| Administration of a Trust After a Trustor's Death
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WHAT IS TRUST ADMINISTRATION?
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When the trustor of a trust dies, certain steps must be taken to comply with state law and to change title to
assets. This is called "trust administration," and the complexity of the administration depends on
the number and type of assets, their total value, and whether the trust includes tax planning provisions.
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WHAT STEPS SHOULD BE TAKEN FOR ALL TRUSTORS WHO DIE?
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The decedent's will must be filed with the county clerk, and a statement must be filed with the county assessor
stating whether the decedent owned real property. Major assets must be appraised and an inventory must be
prepared. If the estate is more than $1,000,000, (assuming the death occurred in 2002 or 2003), a federal estate
tax return must be filed. Income tax returns also will be filed for the estate and for the decedent. If the trust
became all or partially irrevocable as a result of the death, the decedent's heirs and trust beneficiaries must
be notified of that fact.
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WHAT SHOULD BE DONE IF THE TRUSTOR HAD AN EXEMPTION TRUST?
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The purpose of an exemption trust is to reduce or eliminate the federal estate tax. To create the exemption
trust, the surviving spouse must take all of the steps described above, and also transfer certain assets to
the exemption trust. This is an irrevocable trust and the surviving spouse will also have to file additional
income tax returns and accountings to ensure that the exemption trust will meet state and federal requirements.
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WHAT MAY HAPPEN IF AN EXEMPTION TRUST IS NOT ADMINISTERED?
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If the surviving spouse does nothing to administer the trust after the death of the first spouse, the exemption
trust will not exist and will therefore provide no benefit to the estate. As a result, the couple's estate will
pay higher estate taxes. The exemption trust must be properly funded, and other procedures must be followed,
such as filing income tax returns, or the trust will be included in the surviving spouse's estate for federal
estate tax purposes, raising the federal estate taxes for the estate.
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| Avoiding Probate in California
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There are several ways to keep your estate out of probate, including:
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LIVING TRUSTS
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Assets owned through a living trust will not be subject to the probate process.
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JOINT TENANCY
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If an asset is owned by two or more people as joint tenants, it will usually not be subject to the probate process.
These assets can be identified by the words "joint tenants," or "in joint tenancy,"
"JT TEN," or similar wording. After the death of one of the joint tenants, the surviving joint
tenant owns the asset, regardless of what the will of the deceased joint tenant says about that asset. However,
joint tenancy is not recommended for assets that can increase in value, such as a residence, because the
surviving joint tenant will not receive a "step-up in cost basis" to fair market value at the date of
death of the other joint tenant. Other disadvantages, as well, render joint tenancy a disfavored estate planning
device.
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Cost basis is one of the numbers used to determine capital gains. For many homeowners, the cost basis is the
price they paid for their home, plus any capital improvements that have been made. The cost basis is subtracted
from the selling price to determine the capital gains. When a married couple owns an appreciated asset as community
property, the surviving spouse will get a step-up in the cost basis to the fair market value at the date of death
of the other spouse. Simply put, if the surviving spouse has to sell the residence, he or she is unlikely to have
to pay any capital gains. If the residence is held in joint tenancy, it is more likely that some capital gains
tax may be due. The federal tax reform bill passed in 1997 allows the surviving spouse a capital gains exclusion
of $250,000, but for California residents who live in this age of skyrocketing real estate valuations, even this
amount may not be enough to prevent payment of capital gains tax when a residence is sold.
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SMALL ESTATES
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The California Probate Code provides that probate estates of $100,000 or less will not be subject to the probate
process. In some cases, the actual estate may be well in excess of $100,000, but this provision in the law can
still be used. The reason is that many assets are not included in the definition of a probate estate, such as
life insurance (unless it was payable to the estate), IRAs, 401Ks, assets held by a living trust, and joint
tenancy assets.
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Estates of less than $100,000 of probate assets are administered by preparing affidavits which are presented
to the various institutions (banks, brokerages, etc.) that hold the assets. The assets are then turned over
to the person named as executor in the will, and distributed according to the will. If there is no will, the
assets are distributed according to the rules of intestate succession (in other words, to the nearest relatives
of the deceased in accordance with a statutory formula.)
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SPOUSAL PROPERTY PETITIONS
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If the decedent is survived by a spouse, the spouse can file a spousal property petition with the court. The
purpose of this petition is to change the titles of the assets to the surviving spouse's ownership. The
petition is a simplified probate, and takes much less time than a full probate. Legal fees are usually much
lower for this type of petition than a full probate.
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| The Process of Probate in California |
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Probate is a legal proceeding that is used to wind up a person's legal and financial affairs after death.
In California, probate proceedings are conducted in the Superior Court for the county where the decedent lived,
and take a minimum of six months and often last several years.
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The person who is nominated (named) in the will as executor files a petition asking that he or she be appointed
as executor. (If the decedent died with no will, the Probate Code provides a prioritized list of persons who
have standing to petition to become executor.) The will also is filed with the petition, and notices are sent
to the heirs and/or relatives to notify them as to when the hearing will be held. If there are objections to
the petition, or if the validity of the will is contested, the hearing will be used to resolve any such problems.
In some cases, this may mean that the validity of the will is not upheld, or that some person other than the
original petitioner is appointed to administer the estate. In most cases, however, there is no objection and
the petition is granted. The executor then makes an inventory of the estate's assets, locates creditors, pays
bills, files tax returns, and manages the estate’s assets. When all of the duties of the executor have been
completed, another petition is filed with the court asking that the estate be distributed to the heirs. If this
petition is granted, the estate administration is completed by distributing the assets to the heirs and filing
final tax returns.
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California Probate Code section 10810 sets the maximum statutory fees that attorneys can charge for a probate.
Higher fees can be ordered by a court for more difficult cases. The fees are 4% of the first $100,000 of the
estate, 3% of the next $100,000, 2% of the next $800,000, 1% of the next $9,000,000, and 0.5% of the next
$15,000,000. For estates larger than $25,000,000, the court will use its discretion to determine the fee for
the amount that is greater than $25,000,000.
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The fees listed below are the statutory fees used to compensate attorneys and executors in probate cases for
various sizes of estates. If both the attorney and the executor receive a fee, the amount paid will be double
that shown below.
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| SIZE OF ESTATE |
STATUTORY FEE |
| $100,000 |
$4,000 |
| $200,000 |
$7,000 |
| $300,000 |
$9,000 |
| $400,000 |
$11,000 |
| $500,000 |
$13,000 |
| $600,000 |
$15,000 |
| $700,000 |
$17,000 |
| $800,000 |
$19,000 |
| $900,000 |
$21,000 |
| $1,000,000 |
$23,000 |
| $2,000,000 |
$33,000 |
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Estates are appraised by probate referees, who determine the fair market value of the assets. The fair market
value includes mortgages and other debts, which can result in an appraisal of the property that is higher than
the equity that the deceased owned in the property. Probate referees are appointed by the state controller's
office and they receive a fee based on 0.1 % of the assets appraised.
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In probates that are complicated by lawsuits or tax problems, the attorney and executor can ask the judge to
approve fees that are higher than those set by state law.
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In addition to the statutory fees, there are costs for court filing fees, appraisal fees, publication costs,
and miscellaneous fees charged by the county. A typical estate might incur $1,000 to 2,000 in court costs
and other mandated fees.
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ADVANTAGES OF PROBATE
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The proceedings are controlled by a judge, who can decide disputes between heirs or between the heirs and the
executor.
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Creditors are required to submit their claims against the estate within a four-month period, provided they have
been notified of the probate.
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The executor is required, in most cases, to prepare an accounting and report of the executor's activities.
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DISADVANTAGES OF PROBATE
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The cost is usually much higher than would be required for the administration of a living trust for the same size estate.
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It usually takes several months longer to probate an estate than to administer a trust.
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Most estates don't need the supervision of the court unless disputes occur between the participants.
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| Working
hard to protect what you worked hard to buildTM |
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