Estate Planning for Real Estate Investors
Real estate planning is for anyone who has anything or anyone to leave behind. However, if anyone needs to create a real estate plan, it's real estate owners and investors.
Owners of several properties and genuine estate investors are prime candidates for needing estate plans. This is primarily because properties alone can come with some significant taxes. These taxes can end up financially burdening the family that gets left behind.
Real estate owners often spend much of their efforts looking for the most valuable additions to their investment portfolios, ensuring that each property can be turned into an irreplaceable asset. But, of course, without proper estate planning, preserving those assets for future generations or even selling them off to cover estate taxes and probate court fees can be a challenge.
Whether you have a few vacation homes for your family, flip houses to sell, or are buying properties to rent for profit, you need an estate plan to protect your investments.
Keep reading to learn more about what makes estate planning in Huntsville, AL, different for real estate investors.
Estate Planning 101
If you're new to estate planning, here's your crash course:
In a nutshell, estate planning involves making arrangements for those you want to receive your assets (belongings) after you've passed away. It also involves making arrangements for your affairs — financial or otherwise — to be taken care of should you become mentally incapacitated.
By making the appropriate arrangement for your assets and affairs in advance, you can get as specific as you want regarding how all of your assets, from cash to properties, are distributed and when. Making these arrangements also help to reduce taxes and any unnecessary legal fees that may cut into the value of what you're leaving behind. (This is especially true if you have multiple investment properties).
Wills and Trusts
The primary tools used in estate planning are wills and trusts, which you're likely familiar with. Both items are designed to designate beneficiaries for your assets in the event of your death. While wills and trusts have different applications, most people choose to create both concurrently to take advantage of all the possible benefits.
The main distinction between wills and trusts is that a will gives the option to name legal guardians for minors. It can also provide instructions for how you want any outstanding debts or taxes resolved and how you want your funeral or burial to go.
Trusts, on the other hand, come in several forms. There are living trusts, joint trusts, and testamentary trusts, to name a few. Depending on your needs and future plans, they can also be revocable or irrevocable. However, they all act as an account into which you can funnel certain assets, naming a designated beneficiary who will receive them at a specific time.
What's more, trusts can keep your business private — and out of probate court, which means they also help reduce the tax burden of your overall estate. When you put a property into a trust, you can pass it down to a beneficiary without any problems or questions asked.
Lastly, while you don't necessarily need to create trusts, you must draft a last will. Otherwise, your entire estate will be distributed according to the Alabama Intestate Succession laws.
What Makes Estate Planning Different for Investors?
The primary difference between the average individual creating an estate plan and a real estate investor is that a real estate investor has more assets to account for in their last will, trusts, and other directives. All of your investment properties are subject to the state — and taxes without the proper estate plan.
While Alabama does not levy a "death tax," aka state taxes on assets up to a certain threshold, federal taxes and capital gains taxes still apply to a certain extent. Since having multiple properties increases the overall value of your estate, your federal taxes will be higher.
Capital gains tax comes from the profit of an investment (or property aside from your family home) once said the investment is sold. This means that any properties within your estate that get sold by the state or your family will incur a capital gains tax and the federal tax on your estate.
The most important thing to note is that capital gains are essentially paid on the appreciation of any assets inherited through an estate. However, they are only levied when the assets are sold for profit — not when they're simply inherited.
When you inherit a property, the IRS only applies what is referred to as a "stepped-up cost basis." Therefore, you won't have to pay any taxes on the property you inherit unless you sell it. At least, not in the state of Alabama. It also means that you would only be expected to pay the appreciation value from the date of the original owner's death.
It should also be noted that if any of your heirs live in another state, they may be subject to an inheritance tax — which is something your Huntsville attorney can assist you with.
Ultimately, what makes estate planning so important for investors is ensuring that they can reduce the tax burden in the event of their passing. Your Huntsville attorney will likely advise that you funnel as many properties as possible into trust accounts for your heirs, including business partners, where applicable. Of course, this will reduce the overall value of your estate (and, therefore, your estate's federal taxes). Still, it will also ensure that your properties stay out of probate court and any immediate capital gains taxes.
The Benefits of Estate Planning for Real Estate Investors
A solid estate plan is beneficial to all who choose to create one. It allows you to manage your assets and any investments, debts, and even profits should you become incapacitated or pass unexpectedly. What's more is that your estate plan takes care of your family's future, which is especially important if you have any minor children.
For real estate investors and the average individual, estate planning comes with the following benefits:
Avoiding probate court. Probate is the legal process during which the validity of your last will is proven, as is the overall value of your estate. Unfortunately, the entire probate process can be long and arduous, lasting between six and nine months. As a result, it could take a long time for your family to get the necessary funds to live. However, with a proper estate plan in place, you can significantly minimize the time it'll take for the probate court to approve your will.
Giving your business a longer lifespan. If real estate investing is your business, you'll want to ensure that it "outlives the client," meaning that you may want it to survive you for an heir to take over or business partner. By structuring your business appropriately, you can create a living trust and a "pour-over will" to make it easier to transfer the ownership of your business.
Asset protection. One of the primary reasons to create an estate plan is to protect your assets. Regarding real estate investing, if you have a profitable real estate portfolio, you'll likely want your heirs to take over when you're gone. By planning your estate with trusts, you'll be able to ensure that your properties are transferred to the right people while also shielding those properties from creditors and probate court.
Giving your assets to charity. If you have no one to leave your investment properties or other assets to, you can divide your estate up and have everything distributed to the charitable organizations of your choosing as a gift. This also ensures that your life's earnings don't just go to the state.
Avoiding taxes. As previously mentioned, estates in Alabama are subject to federal taxes and capital gains taxes on assets sold for profits. However, when you sit down with your Huntsville attorney to put the appropriate plan in place, you can minimize, if not altogether avoid, any taxes owed on your estate to ensure that your loved ones receive as much as possible.
How Can You Set Up Your Estate Plan as a Real Estate Investor?
Setting up an estate plan as a real estate investor isn't much different from how you would create plans as an average individual. The main difference is that you'll have more assets to consider and potentially more people to consider if your investments involve partners, tenants, or temporary renters in addition to your family.
Here's a quick checklist you can run through when setting up your estate plan as a real estate investor:
Find a Huntsville attorney to help plan your estate. A professional estate planning attorney is the only person that can ensure your estate plan is efficient and effective so that your family and investments will be secured and prepared for the worst of times.
Start your plans by specifying what you want to happen immediately when you pass away in your last will. For example, what are your funeral and burial wishes?
Create directives for your medical care, business affairs, and financial affairs that would go into effect if you become mentally incapacitated. These are known as powers of attorney (POAs), and depending on the state of your affairs and wishes, your Huntsville attorney will walk you through all your options.
Create trusts for the assets and heirs you want to protect. Your Huntsville attorney will also walk you through your different options regarding trusts. However, the most important thing to remember is that a trust trumps will. This means that when you create a trust, the assets will bypass probate court and go directly to their named beneficiary when the time comes. However, any assets that you leave out of your trusts must be included in your will to ensure that nothing is left up to the state.
Write out instructions for how you want your business and business assets to be transferred and to whom. For example, if you have an LLC as your business structure, you can put it into a trust if you want to transfer your ownership rights to an heir.
If you have any minor children or a loved one with disabilities, choose a guardian that you can trust to care for them if needed. Your decision regarding guardianship over children or loved ones will be your will. You can also choose to create trusts for minor children or loved ones to ensure they are financially stable should a guardian have to take over.
Designate the beneficiaries who will receive your properties and other assets upon your passing. Other assets may include your bank account, savings accounts, investment accounts, retirement accounts, and anything else of value.
Arrange for any assets associated with title documents, such as vehicles, real estate, etc., to be transferred automatically to your named beneficiaries upon death or incapacitation.
Consider taking out a life insurance policy if you haven't done so already. A life insurance policy can help cover outstanding debts and provide additional financial means for your loved ones. This can come in handy should any assets become tangled up in probate court.
Appoint an executor (for your will) and trustees (for any trusts) to ensure that your wishes and instructions are carried out appropriately. These should be individuals you can trust. They'll essentially manage your affairs, ensure all debts are paid, distribute assets, etc. You'll also want to leave them with as much helpful information as possible, including how to find important documents and who to notify when you pass away.
Be sure to update your estate plan routinely to make the necessary changes as your circumstances change.
Estate Planning Errors to Avoid
Your greatest mistake as a real estate investor would be not sitting with your Huntsville attorney to discuss your options and get everything squared away. This is especially true if you have rental properties and tenants.
Get in touch with us today to set up a consultation with Sarah S. Shepard or another experienced Huntsville attorney. We'll cover all the details of what's needed in your estate plan so you can focus on your investments and family with one less thing to worry about.