John and Phyllis have children by prior marriages. Five years ago, they set up a trust that is revocable while both of them are living. When one of them dies, the first-to-die’s portion of the assets pass to an irrevocable trust which gives the surviving spouse the income for life but which provides that these assets pass to the first-spouse-to-die’s children when the surviving spouse dies. When the surviving spouse dies, the surviving spouse’s revocable trust passes to the surviving spouse’s children.
When John and Phyllis sold their home which had been titled in their trust, they bought a new home, but titled it ‘husband and wife as joint tenants.’ When John bought a new insurance policy, he named Phyllis as the sole primary beneficiary. When Phyllis set up her IRA, she named John as the sole primary beneficiary.
This couple has now destroyed the main benefit of their trust, that of protecting the first-spouse-to-die’s children. They have re-titled their assets and re-done their beneficiary designations so that the surviving spouse inherits everything, with no duty to give anything to the first-spouse-to-die’s children.
If an advisor had asked John and Phyllis whether their new home was titled in the trust and whether the trust was the beneficiary of the life insurance and IRA, they would probably have said either ‘I don’t know’ or ‘I guess so.’ These answers are a poor substitute for verifying that the trust has been correctly funded, but advisors need to alert their clients to uncover these problems while there is still time to take corrective action, ie while both clients are alive and competent.