1.0 WHAT IS A “PROBATE”?
When someone passes away with property titled in their individual name, probate is the court administered procedure to change the title to such property to such deceased person’s heirs. For example, if someone dies holding title to his home in his individual name, a court order would be required to transfer title to such home to his spouse or child and probate is the procedure required to get such court order.
2.0 WHY IS PROBATE SOMETHING ONE TYPICALLY WANTS TO AVOID?
You likely have heard from others that “probate” is something you want to avoid but didn’t know why. Three reasons why you likely want to avoid probate in California are:
2.1 Unnecessary Expenses. Because probate is a court administered process, an attorney typically needs to be involved. Additionally, an Executor must be appointed to direct the procedure on behalf of the deceased person’s heirs. Both the attorney and Executor are entitled to receive fees payable from the deceased person’s assets (the “estate”). While the fees are set by the state of California, such fees can be significant and often unnecessary. For example, for a simple estate with $400,000 of assets (without consideration of any debt on such property), the required fee to the attorney and Executor would be $11,000 each. Specifically, the fees are 4% of the first $100,000 in assets, 3% of the next $100,000, 2% of the next $800,000, and 1% of the next $15,000,000. While the Executor fees can be waived if the heirs are serving in that role, the attorney fees are likely unavoidable. Additionally, court fees and expenses are usually several thousand dollars and appraisal fees can equal as much as .1% of the value of the property.
2.2 Time Delays. Because probate is a court administered procedure, numerous documents and forms need to be filed with the court and many actions require court supervision. As a result, the transfer of property to the intended heirs is often a lengthy process usually lasting between 6 months and 2 years. During that time, the property may not be able to be sold and if sold the heirs may have limited access to the sale proceeds.
2.3 Public Information. Since all documents relating to the transfer of property must be filed with the court, such information is available for public review. Therefore, in most circumstances, not only are the values of the deceased person’s assets subject to public disclosure, but so are the deceased person’s intended beneficiaries and any conditions on their receipt of the assets.
3.0 HOW CAN I AVOID PROBATE?
There are several ways to avoid probate.
3.1 Revocable Living Trust. One of the most common ways to avoid probate in California is to insure little or no assets are titled in the name of the deceased person. Instead, such person (the “Grantor”) creates a revocable living trust during life and transfers title to his property to the trust prior to death. Such trust is completely revocable and ignored for all income tax purposes so that the Grantor does not have additional administration or complexity after creating the trust and transferring the assets to the trust. But, when the Grantor passes away, the assets pass automatically according to the terms of the living trust and outside of probate. In effect, the revocable living trust serves as a “Will substitute” and determines how the Grantor’s assets will pass at death instead of the Grantor’s Last Will and Testament (“Will”).
3.2 Joint Tenancy. Another method to avoid probate is to hold title to property in “joint tenancy” with your intended beneficiaries. For example, two people could take title to their home as “John Doe and Mary Doe, as joint tenants.” When either joint tenant passes away, the property automatically passes outright to the surviving joint tenant. While removing the deceased joint tenant from title does require some legal paperwork, it is much easier and less expensive to accomplish than a full probate. However, there are several issues with holding property in joint tenancy. First, it is likely that only 50% of the property will receive a step-up in income tax basis to fair market value at the death of the first joint tenant. For most assets, when one passes away, the Internal Revenue Code allows the basis of 100% of such deceased person’s assets to be increased to fair market value. As a result, sale of such property immediately following death not create any income tax consequence. However, if the property is held in joint tenancy, then the income tax basis of only 50% of such property may receive a step-up in basis. Second, if the intended heir is a non-spouse, changing title to joint tenancy with your intended heir may create gift tax consequences. Third, the surviving joint tenant receives the property outright so you do not have the ability to provide alternative distribution terms if you do not want the property to pass outright immediately upon your death. This is especially important if your intended heirs are young children. Lastly, upon the death of both joint tenants, the property will be subject to probate when the second joint tenant passes away. Therefore, holding property in joint tenancy is often not the best way to avoid probate.
3.3 Community Property with Rights of Survivorship. If the property is being held between you and your spouse as community property, another option may be to hold such property as “community property with rights of survivorship.” Upon the death of the first spouse, the property automatically passes to the surviving spouse in a similar manner as joint tenancy. Since it is being held as community property, however, 100% of the property will receive a step-up in income tax basis to fair market value. The main drawback to holding property in this manner is that all of the property must pass outright to the surviving spouse — which may not be desirable in a taxable estate or if the spouses want to insure the assets pass to their children after the second death. Additionally, the surviving spouse must still take steps to avoid probate of the property at his or her death.
4.0 ARE THERE ANY ASSETS NOT SUBJECT TO PROBATE?
Yes, any assets where you have a designated remainder beneficiary will pass automatically at your death without the need for probate. Such assets include retirement plan assets (such as an I.R.A. or 401-k) and life insurance. Those assets would only be subject to probate if there is no designated beneficiary and the assets become payable to your estate. Also, there is a separate non-probate procedure to transfer automobiles and motor homes at death as well through the California DMV.
5.0 WHAT IF THE ASSETS OF MY ESTATE ARE UNDER $150,000?
To the extent the value of the assets held in one’s name is less than $150,000 at death (not including the automobiles), there is a simplified procedure to transfer such assets without the need for a formal probate. While it may still require an attorney to prepare the necessary paperwork, no court action is required. Although the value of your estate may be greater than $150,000, this procedure can be used in conjunction with a living trust to handle the transfer of assets held individually at death. For this reason, when using a living trust, it is often acceptable to hold a small checking account in your personal name for administrative convenience.
6.0 WHAT IF THE ASSETS ARE PASSING SOLELY TO MY SURVIVING SPOUSE?
Regardless of the size of the assets of your estate, if the intended beneficiary of your estate is your spouse, there is a simplified procedure that permits the transfer of assets to your spouse without the need for a formal probate. However, unlike the procedure for small estates under $150,000, a court hearing is required. But, this procedure, which includes the filing of a Spousal Property Petition, is much less burdensome (and much more inexpensive) than a formal probate. While the procedure can be used whether you pass away with or without a Last Will and Testament, if any of your assets are your separate property, a formal probate may be required for those assets.
7.0 ANY ADVANTAGES OF PROBATE?
Yes, probate may be desired in certain circumstances:
a) Protect Beneficiaries Rights. In circumstances where you would like a court to supervise the distribution of your estate in order to protect the rights of your beneficiaries, you affirmatively choose to subject your estate to probate at your death. In this case, any disputes over the distribution of the assets can be settled by the judge.
b) Terminate Creditor Rights. With a formal probate, your creditors have only a limited amount of time to file a claim against the assets of the estate. Any known creditor must still be given notice of the probate and the opportunity to file a claim, but if they fail to file a claim within the specified time, then their claim is barred forever. However, even if your assets pass through your living trust outside probate, a procedure under California law allows the trust to cut off the claims period for known creditors who have been given an opportunity to submit their claims against the estate.
8.0 WHY AM I SUBJECT TO PROBATE EVEN THOUGH I HAVE A LIVING TRUST?
Most likely, your estate will be subject to probate at death despite the creation of a living trust because you failed to transfer your assets to your trust during your lifetime. If you create a living trust and fail to change the title to your existing property or you acquire new property in your name individually, such assets will pass through your estate according to your Will (or according to the intestate succession rules under California law if you die without a Will). Typically, when you create a living trust, you will also create a Will that “pours” any assets you hold in your name to your living trust at your death. As a result, your assets will still pass according to terms of your living trust, but they will first be subject to probate. Therefore, to maximize the benefit of your living trust, you must insure that your assets are titled in the name of your trust.
Clay R. Stevens © 2012