Estate planning for second marriages is difficult. There is a constant tension between ensuring the continued support of the surviving spouse and ensuring that the decedent’s children are not disinherited. Here are some options and recommendations. (In the interest of brevity, I will use “husband” to refer to the first spouse to die, and “wife” to refer to the surviving spouse.)
1. Using Trusts. The textbook solution is to allocate some or all of the husband’s wealth (at his death) to a trust for the wife. For the rest of her life, the wife is entitled to income and principal from the trust as needed for her support. She may or may not be required to spend her own resources first before invading the trust. At the wife’s death, the remaining trust assets are divided equally among the children from both marriages. This sounds like a perfect solution, but it isn’t. Issues include the following:
● Checks and Balances. If the wife is sole trustee, the husband’s children are often “kept in the dark” about trust transactions until the wife’s death, when it may be too late to take corrective action. This can be avoided by naming one of the husband’s children as a co-trustee, but the wife will probably resent having to get permission from him or her prior to spending trust funds. The Oregon Uniform Trust Code (at ORS 130.710(3)) requires the trustee to provide accountings to the husband’s children, but they may have to hire a lawyer or make threats to coax the wife to follow through. If the wife provides accountings, the husband’s children will often contend that her lifestyle is too lavish or that she has unnecessarily invaded the trust when sufficient personal assets are available. Thus, checks and balances usually create friction.
● The Long Wait. Even if the “trust solution” works to perfection, the husband’s children will not receive anything until the wife dies. They will not be pleased that the wife is holding “their money” for years or decades. This is especially true if the wife is not much older than they are.
● Administrative Burdens. If a trust is used, separate Oregon and federal income tax returns must be filed each year. Income tax rules for trusts are complicated. In general, the income of the trust is taxed to the wife to the extent distributions are made to her. IRC 662. But if trust income exceeds distributions, the excess is taxed to the trust at high marginal rates. All trust receipts and disbursements must be separately accounted for. Even the definition of “income” is complicated. For example, one-half of certain expenses (including trustee fees, investment advisor fees and fees to prepare annual reports to beneficiaries) are allocable to principal, and capital gains are generally considered principal. ORS 129.400(1) and (2). The trust approach is especially cumbersome if the husband’s assets include IRAs or 401(k)s.
2. Options Other than Trusts. A common alternative to a trust is a “moral agreement” between the spouses that the survivor will cause all wealth to be split evenly among all of the children at the survivor’s death. Some spouses prefer a written agreement, although this can be complicated and expensive. It must not only cover disposition of the survivor’s assets at death, but permissible transactions (gifts?) during life. And even if the agreement is airtight, no one will know if the survivor circumvents the agreement by making lifetime gifts or impermissible transactions, which become progressively harder to trace as time goes on. The children may have to file a claim against the survivor’s estate to determine whether there was a breach of the agreement.
Another approach is to create a plan in which the husband’s children receive “something” at his death even if the wife survives. If the husband is relatively young, the gift might be implemented by designating his children as beneficiaries of his group term life insurance policy, or perhaps purchasing a modest policy of term life insurance. Or the husband might name his children as beneficiaries of a payable on death account. Or perhaps he might designate them as beneficiaries of a share of his IRA or 401(k). Having said that, these alternatives are less viable if the couple’s resources are small, since the wife will probably need all of the husband’s wealth for support.
In conclusion, it is usually challenging to make ample provisions for the wife while still ensuring that the husband’s children ultimately inherit their fair share. It is critical that the couple thoroughly understand the problems and imperfect solutions, and do not pass on misinformation to children or created flawed expectations. The judgment of a skilled estate planning attorney is needed to thoroughly educate the clients and identify the best alternatives.