Blended Family Basics

Coleman Law Firm

If you are a blended family member, then you are in good company. Blended families now outnumber traditional nuclear families. And the number is likely to grow, based on current divorce statistics and trends.

If you are a blended family member, then you are in good company. Blended families now outnumber traditional nuclear families. And the number is likely to grow, based on current divorce statistics and trends.

Divorce is rather common in America. In fact, an estimated 50 percent of first marriages end in divorce after an average of 11 years. The average divorce will cost the parties about $15,000 and take approximately one year to process from initial filing to final decree. Thereafter, the resulting economic fallout will tend to reduce the standard of living of both ex-spouses. Not surprisingly, divorce is not only expensive, but researchers consistently rank it as one of the most stressful life experiences.

Blended families face unique social, psychological and economic challenges. As a result, an estimated 60 percent of second marriages end in divorce. Fortunately, there are numerous organizations and support groups dedicated to helping blended families with these challenges. Unfortunately, however, little attention has been paid to the critical Life & Estate Planning challenges of blended families. These challenges include disinheriting your ex-spouse, protecting your own children, providing for your new spouse and minimizing your estate taxes.

Your Ex-Spouse

Will your ex-spouse inherit your retirement money, even if the laws of your state automatically extinguish their interest in the assets of your estate? It depends. In Egelhoff v. Egelhoff, 121 U.S. 1322 (2001), the United States Supreme Court held that federal law under the Employee Retirement Income Security Act of 1974 (ERISA) preempted state law regarding the retirement plan of a recently divorced and deceased man.

Mr. Egelhoff had failed to replace his ex-spouse with his children as the named beneficiaries of his retirement plan prior to his death. State law automatically disinherited ex-spouses. In a 7-2 decision, the Court found that the retirement plan administrator must follow the ERISA statutes requiring distributions to the named beneficiary, even when the end result conflicts with state law. Bottom line: Mr. Egelhoff’s former spouse inherited the sizeable ERISA retirement plan instead of his own children.

Your Own Children

Assuming you have removed your ex-spouse as the named beneficiary of your ERISA retirement plan, does the rest of your Life & Estate Plan protect the inheritance of your children from your ex-spouse? Without proper legal planning, your exspouse (as surviving parent/guardian) would likely be appointed by the probate court to manage the inheritance you leave to your children. To make matters worse, what if your children later predecease your ex-spouse, and are single and childless at that time? Who would inherit your assets then? That is right … your ex-spouse, as the next-of-kin of your children.

Regardless whether children are reared in a traditional nuclear family or in a blended family, great care should be given to protect any inheritance both for them and from them. For starters, wealth representing a lifetime of your hard work and thrift can be squandered in very short order. Dollars earned just spend differently than dollars inherited. In addition to good, oldfashioned squandering, an inheritance can quickly vanish through divorces, lawsuits and bankruptcies.

Your New Spouse

Chances are you made a few solemn promises to your new spouse on your wedding day. Among them were promises to be there through thick and thin, personally and financially. In the absence of a Pre-Marital Agreement to maintain separate assets, most spouses in blended families tend to blend their wealth. For example, titling their respective assets in the names of both spouses and designating one another primary beneficiary of their respective retirement plans and life insurance policies.

Warning: Should you predecease your new spouse, then you may forever disinherit your own children from your share of such blended wealth! Thereafter, upon the death of your new spouse, your assets likely may be inherited by your stepchildren, or even by your new spouse’s next spouse and their children. 

 Your Estate Taxes

Aside from disinheriting your own children, blending your wealth with your new spouse may unnecessarily enrich the IRS. How? The Internal Revenue Code provides an exemption to each taxpayer for purposes of sheltering a certain dollar value from estate taxes (with marginal rates exceeding 40 percent). However, this is a use it or lose it exemption and you lose it when title to your blended assets vests in your new spouse upon your death. In addition to disinheriting your own children, this mistake alone can trigger hundreds of thousands of dollars in unnecessary estate taxes.

Alternative Solutions

While there is no one-size-fits-all solution, there are a few alternative solutions you might want to consider.

Be sure to disinherit your ex-spouse by replacing them as the named beneficiary of your ERISA retirement plans, for starters. While you are at it, create a Long-Term Discretionary Trust (LTD Trust) to administer the inheritance for your children and appoint a party of your own selection to serve as trustee. That way, even if your children reside with your ex-spouse, your trustee will control the inheritance through the LTD Trust and ensure its use only for your children. Should your children predecease your ex-spouse, the inheritance would remain in trust for your grandchildren, your surviving children or for other beneficiaries of your own selection.

Your LTD Trust does double duty by securing many additional tax and non-tax benefits. For example, protect the inheritance for and from your children (and their potential squandering, divorces, lawsuits and bankruptcies) through Spendthrift Provisions contained in your LTD Trust.

Create a Qualified Terminable Interest Property Trust (QTIP Trust) to provide income and perhaps even principal to your new spouse for life, while protecting the inheritance for your new spouse in the event of any subsequent remarriage and divorce. Thereafter, the QTIP Trust assets may pass to the LTD Trust you established for your own children.

Create an Estate Tax Exemption Trust to shelter the maximum available exemption amount upon your death. Often used in conjunction with the QTIP Trust for your new spouse, this trust can help you leave more wealth for your loved ones … and less to the IRS.

Finally, seek appropriate legal counsel. It will be time and money well spent.

This publication does not constitute legal, accounting or other professional advice. Although it is intended to be accurate, neither the publisher nor any other party assumes liability for loss or damage due to reliance on this material. Note: Nothing in this publication is intended or written to be used, and cannot be used by any person for the purpose of avoiding tax penalties regarding any transactions or matters addressed herein. You should always seek advice from independent tax advisors regarding the same. [See IRS Circular 230.] © Integrity Marketing Solutions.

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