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MICK JAGGER IS AMONG the most successful entertainers of our time. But despite his wealth, Jagger tells his eight children that they’ll need to make their own way. Similarly, Shaquille O’Neal tells his children that they can earn some of his millions, but it won’t necessarily be given to them. Actor Jeff Goldblum puts it more bluntly: “Row your own boat,” he’s said. Other public figures have echoed a similar theme.
Why do these wealthy folks take such a seemingly uncharitable view? One likely reason: They want their children to have the opportunity—and the satisfaction—of succeeding on their own. Counterintuitive as it may seem, by withholding a large inheritance, they may feel they’re doing their children a favor.
Decisions like this aren’t easy and require delicate tradeoffs. Much of estate planning, in fact, is about tradeoffs. If you’re building a plan for your own family, here are five other key tradeoffs to consider.
1. Cost. While estate planning strategies can be effective in reducing estate taxes, they can be costly to set up and maintain. How do you strike the right balance?
With the federal estate tax at 40%—and many states levying their own estate or inheritance tax on top of that—folks with assets above the lifetime exclusion amount often conclude that it’s worth spending virtually any amount on legal fees in an effort to defray that tax.
Suppose you have assets that are $1 million over the threshold. At today’s rates, that would result in a tax of $400,000—a hefty number. While legal fees can be costly, it’s unlikely that an estate planner would charge even one-tenth of that amount to put a new strategy in place. Seeing this likely return on investment, many families are happy to incur significant legal and accounting fees.
That’s one point of view, and it’s certainly logical. But not everyone agrees. Other families look at it this way: If their estate is large enough for the estate tax to apply, then their heirs will receive a healthy sum, regardless of how much estate tax is paid. Through this lens, these families decide to spend little or nothing on estate tax strategies. They accept that their estates might—and likely will—end up facing a larger tab, but still prefer that to spending large sums on legal fees.
2. Complexity. The most effective estate planning strategies also tend to introduce the most complexity. To see why, let’s look at a common structure known as an irrevocable trust.
Suppose Jane and Joe are 50 years old and have a net worth of $10 million. They’re concerned that if their assets continue to grow, their family will face estate taxes down the road. To get in front of this, Joe sets up an irrevocable trust for the benefit of Jane and their children, and moves $500,000 of stock from his brokerage account into this new trust.
At the time Joe makes this gift, the $500,000 is deducted from his lifetime exclusion, so there’s no immediate benefit. But if Joe lives another 40 years, and the stock appreciates at 7% per year, it would be worth $7.5 million at the end of his life. That’s when the benefit would be realized. The $7 million of appreciation above Joe’s original $500,000 would be free of estate tax.
The benefit, in other words, could easily reach into the millions. The downside is that irrevocable trusts introduce complexity. Drafting the documents and making the initial gift is actually the easy part. On an ongoing basis, the trust will require its own tax return each year, and Joe will need to decide on a trustee or trustees, who may also ask to be paid. This all entails additional complexity, and that’s for the most straightforward type of trust.
For even greater potential tax savings, some families move illiquid assets, such as their homes or shares in a family business, into irrevocable trusts. But moves like this dial up the complexity level even further. Suppose a family moves its home into a trust. Over time, this could deliver a tax savings. But in the meantime, the family will no longer own its own home. The trust will. To continue living in the home, the family will need to pay rent to the trust each year, and all of the home’s expenses will need to be paid by the trust. This can take a fair amount of bookkeeping, which is why many high-net-worth families decide that the complexity is more trouble than it’s worth.
3. Flexibility. Let’s continue with the above example, where Joe moves $500,000 into an irrevocable trust. If everything goes according to plan, Joe’s heirs will realize significant tax savings. But suppose Jane and Joe have a change of heart, and would instead like to use that $500,000 toward another goal—perhaps to pay for college or to help their children purchase a home. If a trust is well designed, it’ll allow for distributions during Joe’s lifetime, but it isn’t so simple. Irrevocable trusts aren’t truly irrevocable as long as the donor is still living, but for the most part, they are, and this is another key tradeoff when constructing a plan.
4. Control. Establishing an irrevocable trust requires a few additional leaps of faith. Specifically, the donor needs to feel comfortable with the distribution provisions written into the trust, and also needs to feel comfortable with the trustee. This too requires a delicate tradeoff. On the one hand, establishing a trust sooner rather than later provides more time for the assets to appreciate, as described above, increasing the opportunity for tax savings. But that also means there are more years during which a divergence might emerge between the trust’s provisions and the donor’s current preferences.
5. Equity. Imagine a family with two children, one of whom is a schoolteacher and the other a brain surgeon. If you were the parent, would you leave equal shares to each, or would you leave more to the schoolteacher? There are good arguments for both approaches.
On the one hand, the surgeon is more likely to be self-sufficient and might be happy to see a greater share go to his schoolteacher sibling. On the other hand, as I often say, brain surgeons have feelings, too. Though he might have a higher income, he might feel that it’s a matter of principle for children to be treated equitably by their parents.
There is no “right” or “wrong” on any of these questions—they’re personal decisions—but it can be a valuable exercise to think through them before creating your estate plan.
Adam M. Grossman is the founder of Mayport, a fixed-fee wealth management firm. Sign up for Adam’s Daily Ideas email, follow him on X @AdamMGrossman and on Threads, and check out his earlier articles.
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Good article and discussion…..I’ll add this to the “food for thought”
–Predicting the estate exemption amount in the future is one of the more complex parts of my financial planning….with the volatile politics in DC, it is simply impossible. Not knowing that number in the future makes things ridiculously challenging to plan.
–Gifts—a couple approaches
Give it away now so the adult children can make more use of the funds than when you pass and they are then much older. Also, gifting is another manner to reduce the estate over time. The allowable gift amount continues to increase and, if one is creative (per IRS guidelines), can make substantial reductions in the estate.
Another plan is to use one of key inheritors (a child that you trust and is a good financial manager) to the annual gifts, from his/her inheritance, after you pass.
Finally, the whole topic of beneficiaries vs will is worth some review. By design, there are almost zero meaningful assets in our will. Virtually every single asset will be inherited via a designated beneficiary. Keeps things out of probate, which simplifies the process…..and can make changes to those beneficiaries relatively easily…..sometimes annually!
The challenge remains….it is easier to predict next year’s Kentucky Derby winner than the future estate exemption number. What DC requires a US citizen to do for future family financial planning is shameful. Nobody has any idea of the estate exemption or the estate tax rate in XX years….”throwing darts” financial planning..
In addition to the brain surgeon/schoolteacher question, there is the spender/saver question. If children have spent their money unequally, is that a reason for them to inherit unequally? Should the more “careful” inherit more or the more “generous”?
I often encourage people to give generously and responsively in their lifetimes, but to distribute evenly in their estates and trusts, because these legacy gifts can so often be taken as last statements of affirmation and appreciation.
If the very rich asked me, I would so advise them as well. Why assume our children are going to be worse managers than we are? We all make mistakes and we all appreciate the opportunity to do so.
The brain surgeon/schoolteacher question is an interesting one, and I noticed that you used the word “equitably.” In education when we talk about “equity,” the distinction is “equal means you treat everyone exactly the same, while equitable means you give everyone what they need.” So, for example, some students might need more time, energy, and encouragement than others, and it makes sense for a teacher to channel their finite time and energy where it’s most needed.
Money for siblings is different, though, and unless the brain surgeon kid specifically says “leave more money to my brother because he needs it more,” I’d favor an equal division of assets (though in a tax smart way, as another commenter mentioned).
In my family, this is a fraught issue. For one thing, when my father died, he disinherited all three of us and left his entire estate to his second wife, my stepmother. My own mother is in her 80s, and from what she’s told us, she’s divided her own estate equally among the three of us and her partner, a younger man. She doesn’t have a lot of money, but a good deal of what she does have is from our father in the divorce. As part of the divorce settlement, she got half of his 401K and he took out a life insurance policy with her as beneficiary. In return, he got the family home (which he left to my stepmother).
My mother has said things recently like “I’m going to spend all my money. You kids all earn enough to take care of yourselves.” More power to her, of course. But I could also see her leaving more money to my younger brother, who is single, reasoning that my sister and I have husbands to take care of us* or at least to share expenses. I worry about my brother’s well-being and financial security as he ages, so I wouldn’t necessarily object to this…but if I’m being honest, it would feel like getting disinherited by my dad all over again, since a good deal of her money came from him when he died.
*ironically, my sister’s husband isn’t earning much these days. He had an EBay business that did pretty well for awhile but not so much in recent years. My sister has a good job and is supporting them.
My grandparents had a family farm, back when the inheritance tax exclusion was MUCH lower.
They set up a trust and had their most “business-minded” son identified as the trustee.
When Grandma was gone and it was time to distribute the trust, many sibling rivalries and issues surfaced in a very disturbing way. Some of the siblings still no longer talk to one another.
I am sure that is not what Grandpa and Grandma intended. The choice of a trustee really is critical.
As Ed Slott and Jeffrey Levine noted on their podcast, to equalize/maximize after tax inheritances, you would leave more Roth to the brain surgeon (assuming they’re still working) and more traditional assets to the schoolteacher.
Clever idea!
The vast majority of families will never experience the need for extensive estate planning, as the vast majority of American Families won’t have millions about which to be concerned. Therefore irrevocable trust are not in the future of most families.
All families, however, will eventually pass something to their heirs, be they children or grandchildren, or non family members. Doing that in the smartest most tax efficient manner will benefit all involved, but again, due to the lack of financial education and sophistication exhibited by most Americans, these goals may never be fully realized.
My wife and I have @$1.25M in liquid assets and a home with $300K equity. We had all of our legal documents revised last year, in anticipation of my retirement. It is likely that our children will inherit a significant sum upon our demise, and it will be divided evenly between the two of them. Between a revocable trust, POD instructions on our financial holdings, and wills, the division will be relatively straight forward and rather simple.
Having just recently retired, we are adjusting to living on Social Security (which exceeds our monthly expenses) and planning some domestic travel over the next 2-3 years. After that is done, and assuming our invested portfolio outpaces inflation for those 2-3 years, we plan to give both of our children cash gifts of $50-$100K, spread over 3-5 years. If the market does better, we can shorten the gift giving period.
We can take 2-3% of our holdings each year to cover travel expenses, and allow the rest to grow. If there is a bad year, we simply reduce the amount we withdraw that year.
Not a complicated estate plan, but one that works for us.
Another excellent article Andy!
What if you don’t have children?
Leave money to charity
This is timely, Adam, we’re about to update our wills so the topic has been top of mind lately.
Much to my irritation, our state has an estate tax with an absurdly low exclusion level. Worse, for the last four or five years, they’ve stopped indexing it for inflation for a completely B.S. reason while a bill to fix it has been conveniently stuck in the legislature’s Finance committee.
We’ll likely still go with a simple will because I abhor complexity. I also think there may be a better way for us than dealing with trusts: gifts while one or both of us is still on this side of the vale of tears. Those should lower the size of the estate. Then we’ll take our lumps on whatever remains when the last of us croaks.
Any thoughts/ideas about this approach?
We want to let our children share equally in whatever we have left.
Of course we won’t be anywhere near the Federal Estate Tax trigger level either.
How much to help the children is an important topic, and a good problem to have, despite the headaches it can give. I’ve been blessed to experience it from both ends on a small scale. I think parents are right to want to give to following generations a leg up, without damaging the ability stand up on their own.
I like your choice of “delicate “ language in #4. The potential problems of who controls the money can blow up out of control.
Like so areas of life, a successful outcome in this realm often boils down to personality traits and strength of character.