I’m in a second marriage. We both have kids from prior marriages. How do we protect each other and assure our children receive our assets?

Money Matters Radio – Estate Planning Checklist

By: Martin M. Shenkman, Esq.

Introduction/Overview: The stats are 50% divorce rate for first marriages and 75%+ for second and later marriages. How do you protect your new spouse and the kids from prior marriages has become a question for most families. This is the common estate planning dilemma for most blended families. The simple estate planning solution, a marital trust (QTIP trust (see below)) is a good part of the solution, but never enough. The reality is that the myriad of complexities that affect blended families really need to be thought through to assure any plan will work.

Here are a few of the many points to consider:

√ QTIP Trust. This is a trust, typically formed under a will or revocable trust for your new spouse. On your death, your assets would be distributed into this marital trust for your surviving spouse. He or she would get the income payable at least annually (to qualify for the tax benefit of a marital deduction) and on his/her later death the assets could pass to your children from your prior marriage. The simplicity ends here.

√ Bypass Trust. Because the estate tax exclusion has increased on the federal level to $3.5 million in 2009 (but who knows what the future will bring) the reality is that this type of trust will be used before the QTIP usually discussed as the answer to the blended family issue. While a bypass trust can do what a QTIP can in terms of protecting your new spouse and children, there are quirks. Bypass trusts (also called credit shelter trust, applicable exclusion trust, etc.) hold assets that wont’ be taxed in your surviving spouse’s estate. That’s good. But because of this they are often drafted differently. For example, you children from your prior marriage as well as your new spouse, can all be beneficiaries of this trust. That can be good too. It can also be a disaster! Who are the trustees? When and what can they distribute to whom? You need to be really careful and clear as to your wishes to avoid a family mess.

√ Power of attorney. What does this have to do with it? A power of attorney is a legal document in which you name an agent to handle legal, tax and financial matters for you. Most powers of attorney include gift provisions authorizing gifts. Many, perhaps most, authorizes an agent to change beneficiaries on insurance and IRAs, etc. So, depending who you name as agent and how broad the authority is that you give them in the power document, your agent could undermine the entire plan you have. So in a blended family you have to give careful consideration to who you name as agent, how they will handle the conflicts inherent in a blended family situation, and what powers the document gives them. Relying on boilerplate forms will get your family in hot water!

√ Insurance Can be your Friend. All the estate and trust planning niceties aside, it gets complicated in the best of blended family situations to divvy up assets. A simple solution for early years, if you’re reasonably young, health and insurable, is to by enough life insurance to satisfy what one side needs (kids or new spouse) and leave the rest of the estate to the other side. Have a life insurance trust own the insurance to assure it is used as you wish (and if the children are minors to protect them). This is also a great stop-gap during the first years or decade of the new marriage while you see how things pan out. Remember, the divorce rate for second and later marriages is often quoted to be 75%. As the relationship evolves, you can determine a plan that works better.

√ Commingling Assets. Many a fine plan for a blended family is torpedoed by the reality of people living together. Financial matters get entangled. Then if divorce follows, it is difficult, costly, contentious, and often impossible, to untangle. Whatever your prenuptial agreement or estate planning documents provide for, if the ownership of many assets is changed beyond identification (e.g. old separate accounts closed and new joint accounts or accounts with beneficiary designations opened), no plan will work.

√ Prenuptial Agreement. If you’re going into a second or later marriage you really need a prenuptial agreement to backstop whatever you include in your estate plan. If you’ve already tied the second (or third…) not without one, try a post-nuptial agreement. It might not carry the weight of a prenuptial but at least you’ve endeavored to backstop and clarify your intent.