Stepchildren, Adopted Children and Natural Children: Who Inherits?

Estate Planning Advice
for Every Stage of Life.

Stepchildren, Adopted Children and Natural Children: Who Inherits?

With the different variations of families in today’s modern world, complications can arise as to who has the legal right to inherit assets. In some cases, an adult child will come to a lawyer’s office after a parent has died to discuss the distribution of the estate — only to find out that he or she is not entitled to anything.

Besides being excluded in someone’s will, two of the reasons why a child possibly could have no right to an inheritance is that the child is not the natural born child of the parent or the child was not legally adopted. In general, if there is no will, people who are stepchildren cannot inherit from the stepparents. This is also true of people who were raised by an extended family member or close friend without a legal adoption, even with a legal guardianship,

So what are some of the inheritance rules regarding adopted children and stepchildren? The law varies from state to state. Generally though, natural born children and adopted children are provided the same rights to inherit assets if there is no will. However, a stepchild typically does not have a right to inherit assets from a stepparent if the stepparent dies without a will — or the will specifically does not designate the stepchild as a beneficiary.

On the other hand, the law in most states provides that an adopted child has the same rights as a natural child if legally adopted. It should also be noted that when a child is adopted, the adopted child generally loses the right to inherit from his or her natural parents, although the child gains the right to inherit from the adopting parents.

An exception is when one spouse adopts a child of the other spouse. In that situation, the adopted child does not give up inheritance rights from the natural parent.

Important: A parent of a stepchild who wants the individual to inherit assets must specifically state so in a will. The phrasing in a will is critical for the parent’s wishes to be carried out. Phrases that leave assets to “my children,” or to “my brothers and sisters,” will not include stepchildren and stepsiblings.

The same is true if you are a stepchild and want your parents or siblings to share in your estate. You must specifically name the individuals. Otherwise, by law, if you generally list “parents” or “siblings” without the specifics, the bequest may not go to the people who you want.

There is a way in which a stepchild could challenge the lack of inheritance. That would be when the child is financially dependent on the stepparent. If a stepchild was treated as a child of the family by a married stepparent or was financially dependent on a stepparent who has died, and there is either no or inadequate provision on the death of the stepparent, he or she might be able to make an application to the court for part of the inheritance.

The rights of inheritance for family members hinge on the laws in your state. Because these issues can be complicated, it is important for you to consult with an attorney to help fulfill your estate planning wishes.

PERKINS & ZAYED, P.C.
1745 South Naperville Road, Suite 100
Wheaton, IL 60189
Phone: 630-665-2300 | Toll Free: 877-TRUST-50
Fax: 630-665-4343
Email: admin@trust-lawgroup.com
The information contained on this website is for informational and educational purposes only and is not legal, tax or financial advice. Always consult a qualified licensed attorney and/or appropriate professional to provide advice for your individual needs and circumstances. Use of this website does not create or constitute an attorney-client relationship. This website may include advertising material for Perkins & Zayed, P.C., The Estate and Trust Law Group. 

Saving for Your Child’s Education with a Section 529 Plan

Estate Planning Advice
for Every Stage of Life.

Saving for Your Child’s Education with a Section 529 Plan

Q. It’s time for us to begin saving for our child’s education. We’ve heard a great deal about Section 529 plans. What are the advantages?

A. The advantages can be significant. Section 529 plans include both prepaid tuition programs and college savings plans. While prepaid tuition programs have been around longer, it is the college savings plan that is garnering most of the attention these days. Changes enacted by the Economic Growth and Tax Relief Reconciliation Act made these college savings plans more attractive from a tax-strategy standpoint.

Basically, a college savings plan allows you to place money in a state plan to be used for the beneficiary’s higher-education expenses at any college or university. These expenses include tuition, fees, books, supplies, and certain room-and-board costs. There is no tax deduction for contributions made to the plan, but the money is allowed to grow tax-free until the funds are withdrawn to pay for qualified education expenses. Your money is invested in stocks, bonds, or mutual fund options offered by the plan, with no guarantee as to how much will be available when the beneficiary enters college.

Here are some of the more significant benefits of these plans:

      • You are the owner of the account and can change the beneficiary or even take the money back, if permitted by the plan. This is helpful in the event that your original beneficiary decides not to go to college. If you take the money back, you will owe income taxes on the earnings and a 10% federal tax penalty as well. The money can be withdrawn without penalty if the beneficiary dies or becomes disabled.
      • In 2018, you or other family members can contribute up to $75,000 to a qualified plan in one year and count it as your annual $15,000 tax-free gift for five years (up from $14,000 in 2017). If the gift is split with your spouse, you can contribute up to $150,000, also for five years. However, if you die within the five-year period, a pro-rata share of the $75,000 returns to your estate. Grandparents can set up accounts for grandchildren, transferring large sums from their estates while providing for their grandchildren’s education.
      • There are no income limitations for contributions. Thus, these plans may be of particular interest to higher-income individuals who may not qualify for other college savings tax breaks.
      • The assets in the plan are considered the account owner’s assets, not the beneficiary’s assets. For financial aid purposes, 5.6% of the parents’ assets and 35% of the child’s assets are to be used for college costs. If the grandparents are the owners, the assets may not even be considered for financial aid purposes. Even though distributions are income tax free, their status for financial aid purposes is not clear. It may come down to a college-by-college decision whether the income will be considered the child’s income.
      • You can now make tax-free transfers of funds from one plan to another or from one investment option to another for the same beneficiary once every 12 months. In the past, the beneficiary had to be changed to make a tax-free transfer.

Private colleges and universities can now set up their own prepaid Section 529 plans. Distributions from these plans are eligible for the same federal income tax advantages as distributions from state-operated plans.

Most states now offer college savings plans, with the plans administered by the state or financial institutions. Certain state programs only accept residents, but most plans allow participants from any state. Before contributing to a plan, consider these tips:

      • Check out your own state’s plan first. Many states offer state income tax benefits to residents who contribute to their in-state plans.
      • Review investment options carefully.You can’t actively control the investments in your account, so you have to select from the plan’s options. Some offer a couple of choices, while others feature a more diverse selection. Recently, several plans added a principal-protected or guaranteed-return option to counter concerns about stock market volatility.
      • Examine fees. The management fees charged by plans vary widely and can significantly impact the performance of your fund. Some also charge an enrollment fee, an annual maintenance fee, and other annual expenses.

College savings plans offered by each state differ significantly in features and benefits. The optimal choice for an individual investor depends on his/her objectives and circumstances. In comparing plans, an investor should consider each in terms of investment options, fees, and state tax implications.

Update:  Beginning in 2018, a new law, the Tax Cuts and Jobs Act (TCJA) makes it possible to use 529 accounts to pay for tuition not just at college, but also at public, private, or religious elementary or secondary schools. The TCJA also allows you to take tax-free distributions of up to $10,000 per year to pay for these education costs.

PERKINS & ZAYED, P.C.
1745 South Naperville Road, Suite 100
Wheaton, IL 60189
Phone: 630-665-2300 | Toll Free: 877-TRUST-50
Fax: 630-665-4343
Email: admin@trust-lawgroup.com
The information contained on this website is for informational and educational purposes only and is not legal, tax or financial advice. Always consult a qualified licensed attorney and/or appropriate professional to provide advice for your individual needs and circumstances. Use of this website does not create or constitute an attorney-client relationship. This website may include advertising material for Perkins & Zayed, P.C., The Estate and Trust Law Group. 

Estate Planning with 529 College Savings Accounts

Estate Planning Advice
for Every Stage of Life.

Estate Planning with 529 College Savings Accounts

Saving for college is one of the most daunting financial tasks a family can face, taking as much commitment and careful planning as arranging your estate.

But there’s a powerful tool that lets you both put aside money for your family members’ educations and reduce your estate’s exposure to taxes. The 529 plan, named after the section of the Internal Revenue Code authorizing it, lets you remove wealth from your estate while you steadily accumulate assets to help educate children, grandchildren, nieces, nephews — and even yourself if you’re planning to go back to college.

These accounts are particularly useful for grandparents looking for ways to limit the tax hit on a lifetime of assets. You can set up accounts for several grandchildren and reap the same rewards from each account.

There are big tax advantages to 529 college savings accounts. Briefly, these state-sponsored accounts are allowed to accumulate earnings free of any federal income tax (usually free of state income tax too). Then, when the account beneficiary reaches college age, tax-free withdrawals can be taken to pay for the beneficiary’s qualified college expenses. While 529 accounts are usually set up for children and grandchildren, no family relationship is required. You can set up an account for any college-bound student you want to help.

Section 529 plans accept large lump-sum contributions (over $200,000 in most cases). Smaller installment pay-ins are also accepted. However, there’s an estate tax advantage to making relatively large lump-sum contributions. This article will explain how it works.

The Estate Tax Advantage

Contributions to a 529 account reduce your taxable estate.

For federal gift tax purposes, the contributions are treated as completed gifts eligible for the annual gift tax exclusion $15,000 in 2018 (up from $14,000 in 2017). Even better, you can elect to spread a lump-sum contribution over five years and thereby immediately benefit from five years’ worth of annual federal gift tax exclusions. You make the election on the federal gift tax return.

For instance, a single grandparent can make a lump-sum contribution of up to $75,000 in 2018 (5 times $15,000) to a 529 account set up for a grandchild. A married set of grandparents can jointly contribute up to $150,000 ($75,000 times 2). If you have several grandchildren, you do this for as many of them as you wish. Gifts up to these amounts won’t reduce your $5.60 million federal gift tax exemption for 2018 if you elect to take advantage of the five-year spread privilege (up from $5.49 million in 2017). Your $5.60 million federal estate tax exemption is also untouched.

However, if you die during the five-year spread period, a pro-rata portion of the contribution is added back to your estate for federal estate tax purposes.

Example: You and your spouse have three young grandchildren. Together you can immediately contribute up to $450,000 to 529 accounts with no adverse federal gift or estate tax consequences ($150,000 to three separate accounts, one for each grandchild). Assuming you live at least five years after making the gifts (the period over which the gifts are deemed to be spread), your taxable estates are reduced by a combined $450,000 ($225,000 each).

In addition, you avoid income and estate taxes on future earnings that would otherwise accumulate from the $450,000 contributed to the 529 accounts. In contrast, what if taxable college savings accounts were set up for the three grandchildren in the names of you and your spouse? In this case, the federal income tax hit on the earnings could be as high as 39.6%, plus state income taxes, plus possible estate taxes if you and your spouse die before all the money gets spent on the grandchildren’s college costs.

Key Point: Contributions covered by the annual gift tax exclusion (including under the five-year spread privilege) are also excluded for generation-skipping transfer tax purposes.

Accounts Are Flexible Too

When funding an account for a grandchild’s college education, you should always be concerned about what will happen to your money if things don’t turn out as expected. After all, your grandchild could decide to become a professional tattoo artist instead of going to college. If that happens, 529 accounts give you good flexibility.

First, the Internal Revenue Code allows you to change account beneficiaries without any federal tax consequences — as long as the new beneficiary is a member of the original beneficiary’s family and in the same generation (or a higher generation). For this purpose, an account beneficiary’s first cousin is considered a same-generation family member. That means a grandparent can move money from an account originally set for one grandchild into an account set up for any other grandchild with no federal income tax, gift tax, or generation-skipping transfer tax consequences.

Finally, what happens if you simply need to get your money back from the 529 account? The federal tax rules permit that too. You’ll be taxed on any withdrawn earnings and be charged a 10% penalty on any withdrawn earnings. Frankly, that’s an acceptable price for being allowed to recover your money.

PERKINS & ZAYED, P.C.
1745 South Naperville Road, Suite 100
Wheaton, IL 60189
Phone: 630-665-2300 | Toll Free: 877-TRUST-50
Fax: 630-665-4343
Email: admin@trust-lawgroup.com
The information contained on this website is for informational and educational purposes only and is not legal, tax or financial advice. Always consult a qualified licensed attorney and/or appropriate professional to provide advice for your individual needs and circumstances. Use of this website does not create or constitute an attorney-client relationship. This website may include advertising material for Perkins & Zayed, P.C., The Estate and Trust Law Group.