Estate Planning Headaches to Avoid When Clients' Assets Span State Lines

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Clients today are becoming increasingly mobile – and not just online. They often have assets in multiple states that need to be addressed in their estate plan. Since state regimes are inconsistent from one to the next, care needs to be taken in handling estate plans for multi-state clients. When working with this category of clients, here are four things to consider.

Watch for State Inconsistencies in Inheritance and Estate Taxes

Recently, an issue arose where one of my clients resided in a state with an inheritance tax. My client also had real property located in another state with an estate tax. Often practitioners suggest their client transfer property to an LLC with the hope that they will avoid the estate tax in the state where the property is located, therefore avoiding ancillary probate.

Ancillary probate is another probate process, done in a state other than the decedent's resident state, for purposes of administering property within the non-resident state.

We recently ran into an issue where this transfer would have made the property, located outside the resident state subject to the inheritance tax in the resident state. Furthermore, if the transfer to the LLC did not actually avoid the estate tax, the property would get hit twice by estate and inheritance taxes. To make matters worse, there would be no mechanism to take a tax credit in either state.

Don't be Surprised by Not-So-Subtle Transfer Taxes

Often in estate planning, we may suggest the transfer of certain properties between spouses, or suggest alternative gifting strategies. As part of this, we carefully plan the gift tax and income tax consequences of the transfer. However, consideration must be given to any local or state transfer taxes that may be assessed. For example, certain states will collect a transfer tax on gratuitous transfers of property.

Even though the property is gifted to a trust for no consideration, there may still be local transfer taxes, while other jurisdictions may have a "flip" tax. For example, New York has a tax on transfer for coops. Although this is not a true "tax," it is still a transaction cost. While these may or may not be significant, as a general rule make sure your clients aren't surprised by additional costs.

Consider Multiple Directives for Health Care

Since health care proxies are state-specific, clients who spend a significant amount of time in several different states may request, or require, health care proxies that comply with the laws of those states they frequent most. However, it's important to note that drafting multiple health care proxies could result in the earlier proxy being revoked. For example, if your client spends the winters in Arizona, a health care worker in Arizona may not recognize, or accept, a Massachusetts health care proxy. Therefore, it's important to consider drafting multiple health care directives, while at the same time watching state laws for inconsistencies.

Avoid Ancillary Probate

If a client has property located in multiple states, their estate may need to be probated in those states through ancillary probate. Generally speaking, primary probate is done in the state in which the client was a resident.

Next, in order to transfer property from the decedent to the estate, ancillary probate must be done in the state in which the property is located. The problem with ancillary probate is that it often involves retaining attorneys in multiple states in order to conduct the probate process in each state. This can add thousands to legal fees to settle the estate.

A solution would be to either put the property into a revocable trust or an LLC, as property in either of these vehicles can avoid ancillary probate.  If you choose this option, it's important to review your client's resident state laws and location of property state laws in order to ensure that you haven't created more problems for the client than you have solved.

Keeping these tips such as these four in mind can help ensure that the estate your client leaves to his or her heirs is free of unnecessary tax and legal headaches.

Attorney Allen Falke is a member of Massachusetts-based Mirick O'Connell's Business and Trusts and Estates Groups. He focuses his practice on tax law and estate and business planning.

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Financial planning Estate planning