Estate Planning for Unmarried Couples

     Chances are quite good that you know couples who are living together without the benefit of marriage. The U.S. Census Bureau confirms what you already may suspect: More people are cohabitating in lieu of marriage these days than ever before in our nation’s history. In 1930, married couples accounted for 84 percent of American households. In the year 2000, just 70 years later, married couples were barely in the majority at 52 percent. The trend does not seem to have bottomed-out, either. In 2005, married couples were the minority at 49.7 percent. And, it is not just young couples. In fact, between 2001 and 2006, the number of unmarried cohabitants older than age 55 rose 61 percent, from 340,000 to 549,000.
     Even though cohabitation is legal in the majority of states, unmarried cohabitants face unique estate planning challenges regarding incapacity, inheritance, and estate taxation. In this article we will review such challenges and some of the potential problems they can cause.

Who Has Legal Authority When One is Incapacitated?

     Unlike their married counterparts, unmarried cohabitants may not be able to make fundamental health and financial decisions for one another in the event of incapacity. Absent prior legal planning or specific statutory authority, they have no legal relationship giving legal standing in court over blood relatives.
     For example John and Jane are unmarried cohabitants when a severe automobile accident leaves Jane in a coma. If John and Jane’s parents square off in a court of law seeking to be her guardian, then the preference will be for Jane’s parents. In addition, if Jane’s parents do not like him, they may legally bar John from visiting her. Jane’s parents would even have the authority to make end-of-life decisions without John’s input.
     Similarly, John would not be able to manage Jane’s finances. Her parents likely would be appointed as conservator over her financial affairs, paying her bills and filing her taxes, too.

Protecting Your Partner's Inheritance

     Absent proper legal planning, state intestate succession laws (i.e., state laws that determine the distribution of assets of a person who dies without an estate plan) may leave a surviving cohabitant on the street. For example, Jane and John reside in a home titled in Jane’s name alone. If Jane dies, then her parents inherit the home and may force John to leave as a trespasser. If Jane and John had children together, then the children would inherit the home, not Jane’s parents. But what if the children were minors?
     As the surviving parent, John would be responsible for maintaining the home for the children, or selling it on behalf of the children. When the children reach the age of majority (i.e., age 18 in most states), John may be required to turn the home or the proceeds from its sale over to the children without any further guidance or control.

Unmarried Couples Lose the Unlimited Marital Deduction for Estate Taxes

     The unlimited marital deduction is an unlimited deduction for estate (and gift) tax purposes, but only for transfers between spouses. For example, Jane’s estate is worth $7 million, chiefly consisting of an IRA and a life insurance policy designating John as the beneficiary. Upon her death, only $3.5 million of the IRA and life insurance proceeds will be sheltered from federal estate taxes. What about the remaining $3.5 million?
     Jane’s estate will pay more than $1.5 million in federal estate taxes (plus income taxes on any IRA funds withdrawn to pay these federal estate taxes) within nine months of Jane’s death.
     Contrast this result with Bob and Barbara who are married and make their home in the next cul-de-sac. Assume they present the same facts. Bob will inherit Barbara’s full $7 million without any reduction due to federal estate taxes.* This is because the unlimited marital deduction allows spouses to give during life or leave upon death an unlimited amount of assets free of transfer taxation.
     Couples who elect to cohabitate should consider seeking qualified legal counsel to minimize or eliminate these adverse results.

*Note: This scenario requires significant tax planning beyond the scope of this article.

Estate Planning for Married Couples

     Whether you just tied the knot or just celebrated your Golden Anniversary, it is never too soon (nor, perhaps, too late) to get your legal house in order as a couple. In this article we review some fundamental legal tools and techniques that are must-haves for every married couple.

Durable Powers of Attorney

     Many married couples mistakenly believe that upon exchanging vows they are granted blanket legal authority to carry out their mutual pledges to care for one another in sickness and in health. Unfortunately, the law requires further and more specific written legal authority. For example, if one spouse is legally incapacitated due to an illness or an injury, then this becomes painfully apparent.
     Each individual adult American is responsible for making his or her own personal, health care, and financial decisions. When incapacity strikes, that responsibility does not end. But, under such circumstances, who will make these decisions? Bottom line: It will either be someone appointed by you in advance, or someone appointed for you by a judge in the probate court. Hint: Hiring an attorney to prepare a durable power of attorney to appoint your spouse as your agent may be much less expensive than having a judge (plus the two additional attorneys required) eventually appoint your spouse anyway.
     A durable power of attorney may be prepared to cover both financial and health care matters in one document. Alternatively, separate documents may be created with one for financial and the other for health care. While you are at it, remember to prepare a living will or a health care treatment directive to provide proof of your end-of-life treatment wishes.

Wills & Trusts

     Once you have made arrangements to care for each other in the event of incapacity, make arrangements for the smooth transfer of your assets to one another upon death. These transfers may be outright or in trust. Also, do not forget to make arrangements for any eventual inheritance that may be left to your children. Sometimes it is wise to protect an inheritance both from and for your children. Testamentary trusts, whether established under a last will and testament, or under a revocable living trust, can provide considerable inheritance protection for your children from potential divorces, lawsuits, and bankruptcies, as well as from squandering.

Estate Taxes and the Credit Shelter Trust

     Properly drafted credit shelter trusts may save more than $1.5 million in unnecessary federal estate taxes. The emphasis here is on unnecessary.
     Fortunately, the Internal Revenue Code authorizes each person to protect up to $3.5 million in federal estate taxes. However, this tax exemption is not automatic and careful planning is required to fully maximize your federal estate tax savings.

Note: This is not a do-it-yourself project. Retain appropriate legal counsel to review your options.