Cohabitation Complexities

     Chances are quite good that you know couples who are living together without the benefit of marriage. The U.S. Census Bureau confirms what you already may suspect: More people are cohabitating in lieu of marriage these days than ever before in our nation's history. In 1930, married couples accounted for 84 percent of American households. In the year 2000, just seventy years later, married couples were barley in the majority at 52 percent. The trend does not seem to have bottomed-out, either. In 2005, married households were the minority at 49.7 percent.*
     At present, the cohabitation of unmarried couples is prohibited by the laws of seven states. But even in the majority of states, where cohabitation is not a violation of state law, unmarried cohabitants face unique estate planning challenges regarding incapacity, inheritance and estate taxation. In this article we will review these challenges and some of the potential problems they can cause.

Incapacity Challenges

     Unlike their married counterparts, unmarried cohabitants may not be able to make fundamental health care and financial decisions for one another in the event of incapacity. Absent prior legal planning or specific statutory authority, they have no legal relationship giving legal standing in court over blood relatives.
     For example, John and Jane are unmarried cohabitants when a severe automobile accident leaves Jane in a coma. If John and Jane's parents square off in a court of law seeking to be her guardian, then the preference will be for Jane's parents. In addition, if Jane's parents do not like John, they may legally bar him from visiting her. Jane's parents would even have the authority to make end-of-life decisions for Jane without John's input.
     Similarly, John would not be able to manage Jane's finances for her either. Her parents likely would be appointed as the conservator of her financial affairs by the court, too. They could pay her bills, make her investment decisions and file her tax return.

Inheritance Challenges

     Absent prior legal planning, state intestate succession laws (i.e., state laws that determine the distribution of the assets of a person who dies without an estate plan) may leave a surviving cohabitant out on the street. For example, Jane and John reside in a home titled in Jane's name alone. If Jane dies, then her parents inherit the home and may force John to leave as a trespasser. If Jane and John had children together, then the children would inherit the home, not Jane's parents. But what if the children are minors?
     As the surviving parent, John would be responsible for maintaining the home for the children or selling it on behalf of the children. When the children reach the age of majority (i.e., age 18 in most states), John may be required to turn the home or the sale proceeds over to the children with no further guidance or control.

Estate Tax Challenges

     The unlimited marital deduction is an unlimited deduction for estate tax purposes, but only for transfers between spouses. For example, Jane's estate includes an IRA worth $4 million and she has designated John as her primary beneficiary. Upon her death, only $2 million of the IRA is sheltered from federal estate taxation. What about the remaining $2 million?
     Jane's estate will pay more than $800,000 in federal estate taxes (plus income taxes on any IRA funds withdrawn to pay the federal estate tax bill) within nine months of Jane's death.
     Contrast this result with Bob and Barbara who are married and make their home in the next cul-de-sac. Assume that they present the same facts. Bob will inherit Barbara's full $4 million IRA without any reduction for estate taxes upon transfer.** This is because the unlimited marital deduction allows spouses to give during life or leave upon death an unlimited amount of assets free of transfer taxation.
     Couples who cohabitate should consider seeking qualified legal counsel to minimize or eliminate these adverse results.

     *Source: U.S. Census Bureau, American Community Survey, 2005
     **Note: This scenario requires significant tax planning beyond the scope of this article.

Postnuptial Protocol

     Whether you have just tied the knot or just celebrated your Golden Anniversary, it is never too soon (nor too late) to get your legal house in order as a couple. In this article we review some fundamental legal tools and techniques that are must-haves for every married couple.

Durable Powers of Attorney

     Many married couples mistakenly believe that upon exchanging vows they are granted blanket legal authority to carry out their mutual pledges to care for one another in sickness and in health. Unfortunately, the law requires further and more specific written legal authority. If one spouse is incapacitated due to an illness or an injury, then this becomes painfully apparent.
     Each individual American is responsible for making his or her own personal, health care and financial decisions. When incapacity strikes, that responsibility does not end. But who will make these decisions? Bottom line: It will either be someone appointed by you in advance, or someone appointed for you by a judge in the probate court. Hint: Hiring an attorney to prepare a durable power of attorney to appoint your spouse as your agent is likely much less expensive than having a judge (plus the two additional attorneys required) involved in the court process ... to eventually appoint your spouse anyway.
     A durable power of attorney may be prepared to cover both financial and health care matters in one document. Alternatively, separate documents may be created with one for financial and the other for health care. While you are at it, remember to prepare a living will or health care treatment directive to provide clear and convincing proof regarding your end-of-life treatment wishes.

Wills & Trusts

     Once you have made arrangements to care for each other in the event of incapacity, make arrangements for the transfer of your assets to one another upon death. These transfers may be outright or in trust. Do not forget to also make arrangements for any eventual inheritance that may be left to your children. Sometimes it is wise to protect an inheritance both from and for your children. Testamentary trusts, whether established under a last will and testament or under a revocable living trust, can provide considerable inheritance protection for your children from potential divorces, lawsuits and bankruptcies.

Estate Tax Savings

     Properly drafted credit shelter trusts can save more than $800,000 in unnecessary federal estate taxes. The emphasis is on the word unnecessary.
     Fortunately, the Internal Revenue Code authorizes each person to exempt up to $2 million from federal estate taxes. However, this tax exemption is not automatic. Many couples fail to protect the full $4 million allowed because they overuse the unlimited marital deduction by leaving everything outright to the surviving spouse. Careful planning is required to fully maximize federal estate tax savings. This is not a do-it-yourself project. Retain appropriate legal counsel regarding your options.