Estate Planning For Newbies, Part2: 6 Different Ways to Prepare For It

Estate Planning For Newbies, Part2. 6 Different Ways to Prepare For It: Get Life Insurance, Donate or Gift your estate/assets to your heir while you are alive, Sell your assets to your heirs while alive, Donate it to the government, Set-up a Living Trust, Create A Corporation
In the previous post, we went over what the estate tax is and why it's important to plan for it. This time we're going to go over some of our options in preparing for it.

What exactly are our options?

1. Get Life Insurance

This is the simplest and most straightforward way to prepare for it. Just determine the value of your estate, estimate the taxes your heirs will have to pay, and then get a life insurance with enough face amount to cover the tax plus funeral expenses.

I'm sure a lot of insurance agents will gladly point out the benefits of this option. And it's quite obvious: it's simple and easy.

A downside is that it's relatively costly. Term is cheap but you could end up paying for decades; the cost adds up over time. Plus, at some point (i.e. when you're old and/or more vulnerable to disease) either you become un-insurable or the premium goes up.

Whole life and VULs can be relatively cheap when you're young, though they aren't really that cheap compared to Term life. That carries with it some opportunity cost. You could be using that money (which is essentially for asset protection) to grow your estate instead (i.e. starting a business, direct stock investment, etc).

Bottom line though is that insurance is a great tool. But don't simply get what sounds or looks great. Consider your life goals and see how insurance can strategically fit with your goals.

2. Donate or Gift your estate/assets to your heir while you are alive

This carries taxes too (2% to 15%, depending on the amount). Smaller than an estate tax (which is 5% to 20%) but still significant.

The upside is the lesser tax burden, and you get to execute the distribution of your assets/estate as you see fit rather than entrusting it to someone else. You also avoid expensive probate costs; though that's not something we can cover here as this post will get too complicated.

Another upside is that you will get a fresh start for each year, and effectively, you can donate P100,000 in cash or in kind at 0% donor’s tax.

The downside is that it carries risk. Once you donate/gift something, it ceases to be yours. So if your child, for example, decides to sell everything to pursue an ill-fated political career then you can't do anything about it.

Additionally, if they die before you do then it goes to their heirs - it doesn't return to you. That's just weird, since you could have gifted your house to your daughter, on the agreement that you'll live in it till you die. But she dies before you do, so her cheating husband from whom she's been separated for a year suddenly is the legal heir. He can then decide to sell the house for 50% less than market value so he can go on an expensive vacation with an obscenely younger girlfriend just months later.

A little (or a lot) melodramatic, I know. I just wanted to highlight the pitfalls.

3. Sell your assets to your heirs while alive

It's similar to donating it, but with even less of a tax burden. Instead of up to 15% in taxes, you just need to pay the 6% capital gains tax. The caveat is that the 6% is based on the selling price or the fair market value. You can sell your house to your child for Php1.00 but if the fair market value is Php10M, you'll still have to pay 600K in capital gains tax.

It has the same pitfall as donating: it becomes the buyer's property. They can do with it what they want, regardless of your wishes and if they die you don't get it back nor do you have a say in who inherits it from them.

(A Will could solve that though. Not sure if it's legal to place in the contract who they should bequeath it to. But depending on your relationship, it possibly can't be you either. There's a law on succession. If you're the parent, they'd have to be single with no child for it to go back to you.)

Additionally, the 6% is standard for any transaction regardless of amount. The gift tax can be as low as 2% or 4% for transactions less than 200K and 500K respectively.

4. Donate it to the government
Estate Planning For Newbies, Part2. 6 Different Ways to Prepare For It: Get Life Insurance, Donate or Gift your estate/assets to your heir while you are alive, Sell your assets to your heirs while alive, Donate it to the government, Set-up a Living Trust, Create A Corporation

Obviously the worst option of all. The only "upside" is that it's tax-free. But then government receives it, so it may as well be a 100% tax, since taxes go to them anyway.

Just had to mention it since it's in the law. Absurd provision, I know.

5. Set-up a Living Trust

One of the more interesting options. It's sort of like being able to give your heirs an allowance even after you pass away.

Similar to  life insurance, it can either be revocable or irrevocable. Revocable means you can switch beneficiaries as you se fit, but the assets are part of your estate and gets taxed accordingly. Irrevocable means the beneficiary has to agree to any changes first, but it's not counted as part of your estate and does not contribute to the estate tax.

You set-up a trust with the help of professionals (talk to a bank or a lawyer). You then place assets into the trust.

The unique benefit of doing this approach is that you can setup conditions before the fund is disbursed (given to your heirs). You also don't need to have passed away for this to take effect.

From my limited understanding, that means:

If you've got an heir you love so much but is a total bum, spends money like they're allergic to having any, or is otherwise irresponsible: you can leave them your hard earned money without too much worry. Simply setup conditions like they need to be employed and you'll match their salary and pay out additional money if they go one month without getting arrested or if they perform community service.

Another upside is that you can make sure the money lasts over generations, if you so wish it.

A downside is that it could be very costly to setup. There maybe cheaper options, but you'd really have to talk to a lawyer or a bank to find out. A consultation with a lawyer maybe costly (unless you are friends with one), but talking to your bank is typically free.

6. Create A Corporation

Yet another interesting option. But be sure to seek legal advice, as this can be a tricky scenario.

In this situation, you essentially create a corporation (with the SEC, accomplishing all permits, documents etc. and complying with all other legalities). You go through that trouble so that you can then transfer your assets to the corporation in exchange for shares of stock. It's a tax free transfer, and you still retain control over the properties through the corporation.

The shares of stock can later be sold to the intended beneficiaries. The tax on the sale would be less than the estate tax, bu I'm not sure if it's the same as the capital gains tax.

A downside to this is the fact that you'd have to comply with SEC regulations. From my limited understanding that could mean researching and understanding at least the basics of corporate law and submitting necessary documents annually.

Another downside it that it could very well be illegal to have a corporation just to avoid estate taxes. From my limited understanding, it should be a legitimate business, possibly with reason to hold those assets you will transfer to it.

Establishing a shell corporation (like a Napoles NGO that does nothing) could very well get you in trouble.

Again, seek professional advice.   

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  1. Ayayay, your last two posts reminded of my late ninong's estate and how the family isn't doing anything about it. I'm scared to remind them because the problem will fall on my lap and I have no idea how to go about it pa. Although, when they're taxed and fined heavily years from now, they will also go to me. So mejo damned if you do, damned if you don't ang drama.

    I really should look into this ASAP.

    1. Hi Jill! Tough problem hehe I think my dad had a similar problem when my grandfather passed away, though I think at the time there was (luckily) some sort of amnesty.

      Hopefully the penalties aren't too stiff.

  2. I got a good information about Estate Planning. Great information.You really did a great job on posting.

  3. What about setting up a charitable or humanitarian foundation that is tax exempt, and channel all your material worth as the seed capital of this foundation.

    Make your children the operators of this foundation, and they will decide how much they should be compensated for, in working for the foundation, plus the use of lands and houses owned by the foundation, and all movable property of the foundation.

    How to make the foundation last forever?

    Find out how religious communities or societies like the Red Cross can last forever, or non-profit making schools, and imitate them, because they are also organized to enjoy tax exempt status in every country, where they are set up to operate to undertake their charitable or humanitarian works.

    That is very attractive and feasible estate planning but no inheritance in strict legal sense, in particular when you see that your kids are already doing all right even without inheritance from you.

    In this way also, you will be remembered with praise by society, that is some kind of earthly immortality.

    1. That is definitely a great way to leave a legacy.

      It would probably be a non-stock, non-profit organization. As such, I believe the employees will be income tax exempt too. Though I'm not sure if there will be a cap on their salary.