Will Substitutes

A will substitute (sometimes referred to as a poor man's will) consists of a variety of techniques used to transfer property to heirs and beneficiaries without the use of a will. Most often, they are used to avoid probate. Probate, the court-supervised process of administering your will at your death, can be costly and time-consuming. In some states, a surviving spouse is legally entitled to a certain amount of a deceased spouse's estate, whether or not it was left to him or her in the will. In these states, will substitutes may be used to undermine the right of a surviving spouse to take this elective share (sometimes referred to as "taking against the will"). Another reason for using will substitutes is to reduce or even eliminate certain expenses usually incurred by an estate, such as the executor's fees and attorney's fees. Finally, will substitutes can be used to keep your affairs private because a probated will is a public document, available for anyone to see. Lifetime gifting and trusts are probably the best known and most flexible estate planning tools used to avoid probate and achieve some of the other goals listed above. However, will substitutes afford an easier and less costly way for you to transfer property to your heirs and beneficiaries while avoiding probate.

Technical Note: If you do not leave a will or will substitute, heirs receive property under the intestacy laws of your state, although perhaps not in the way you would like it to be distributed. Your heirs are specifically defined by your state and usually include your spouse, children, and other lineal descendants. If you want to leave something to someone who is not an heir, or in proportions different from those provided in your state statute, you must use a will or will substitute.

Caution: A will is generally the cornerstone of any estate plan. Care should be taken when considering will substitutes. There are some disadvantages associated with using them, and particular types may not be appropriate for you. No matter how well you think you have planned to avoid probate, you should still have a will in case you missed something. A will is also the appropriate place to name a guardian for your minor children.

What are some common types of will substitutes?

Living trust

The most complex type of will substitute, a living trust is a separate legal entity that you create to own property for you. During your life, you can take that property back at any time. At your death, the trustee continues to manage the trust or distributes the property according to the terms of the trust.

A living trust has several advantages. It allows you to (1) control the property until your death, (2) control the property after your death, and (3) give your representative the power to manage the property if you should become incompetent. However, a living trust: (1) doesn't avoid estate or income taxes, (2) doesn't avoid other costs arising at death, (3) doesn't shield assets from your creditors during your life or after your death, (4) may have negative gift and income tax consequences in some situations, and (5) may raise Medicaid eligibility issues.

Joint ownership

Joint ownership of either real or personal property is a very popular will substitute because it's inexpensive and easy to implement. Joint ownership is a shared ownership arrangement. There are several types of joint ownership that act as will substitutes. The two most common types are joint tenancy (including joint bank accounts) and tenancy by the entirety. Both of these types of ownership provide the co-owners with a right of survivorship. That means that when a co-owner dies, the property automatically passes to the surviving co-owner(s) without passing through probate.

Take care when considering joint ownership as a will substitute. Owning property this way has drawbacks: (1) it doesn't avoid estate taxes, (2) it removes the property from your total control, and (3) it puts the property within reach of other co-owners creditors.

Payable on death (POD) account

A Payable on Death (POD) account is a bank, savings and loan, or credit union account that can be designated as payable on death to someone of your choice. You can change the designation up until your death. The individual you designate has no right to the money or other assets in the account until your death, but receives it immediately upon your death.

One type of POD account is a U.S. savings bond. You can designate U.S. savings bonds as redeemable by someone else on your death. If you make this designation and that person is alive at your death, the bonds will pass automatically to him or her. However, a POD account does not minimize estate taxes and may raise other problems as well.

Totten Trust

A Totten Trust is actually a special type of bank account that works much like a POD account. You use it like a regular bank account, except that you also name yourself as trustee and hold the account in trust for one or more beneficiaries. You retain the right to alter or revoke the account until your death. Unlike a joint bank account, the beneficiary of the account cannot deposit or withdraw funds from the account whenever he or she wishes, but receives the proceeds only at your death.

Like a POD account, a Totten Trust does not minimize estate taxes and may raise other problems as well.

Transfer on Death designation

You can transfer ownership of securities such as individual stocks and bonds, mutual funds, or trading accounts to a beneficiary immediately at your death. All you need to do is complete and register a Transfer on Death (TOD) designation form. Like POD accounts, the beneficiary has no rights while you are living, but receives the securities only at your death.

However, a TOD designation does not avoid estate taxes and is not available in some states.

Beneficiary designations

There are several types of contracts, for example life insurance, annuities, IRAs, Keogh, 401(k), etc. that specify who is entitled to the proceeds in the event that you die before you receive all the benefits. The proceeds automatically pass to the named beneficiary at your death. Generally, you can change the beneficiary at any time until your death by simply filing a new beneficiary designation form.

However, contracts generally do not avoid estate taxes and may raise other problems as well.

Caution: When a spouse is not listed as the beneficiary on certain qualified retirement plans, he or she must acknowledge that he or she is aware that someone else is the beneficiary and consent to the designation by signing a special form.