Estate planning provides a way to provide for your loved ones, both financially and emotionally, after your death. If you plan properly, you can minimize the financial burden left behind for your family to handle. In order to ensure this purpose is realized, you need to build sufficient liquidity into your estate plan. This means, having sufficient financial resources to cover estate settlement costs and estate taxes.
What does “liquidity” mean?
The term “liquidity” refers to the ability to convert assets to cash. Cash is a liquid asset because it can be used immediately. Assets, such as savings accounts, life insurance proceeds, and stocks and bonds, can be converted into cash rather easily. However, assets such as certificates of deposit are not as liquid, because of the penalty that is usually charged for converting them to cash before they have matured.
Why is estate liquidity important?
When someone dies, there are various expenses that need to be paid within a short period of time. This includes funeral expenses, medical bills, unpaid debts, probate costs and estate taxes. Therefore, it is important for there to be sufficient cash available to cover these costs. Unfortunately, when an estate is made up of mostly real estate, there may not be sufficient liquidity.
If there are large debts and estate taxes, the executor may be required to sell assets in order to reduce them to cash. If this happens, inheritances will likely be affected. More importantly, family businesses may not remain intact. If you want your family business to be passed on to the next generation, it is imperative that you plan for the liquidity of your estate.
Using life insurance policies as a source of liquidity
Life insurance policies are one of the most effective ways to provide estate liquidity. In fact, life insurance policies can be included in an estate plan solely for paying creditors’ claims, taxes and other expenses. Life insurance proceeds can also provide funds for federal estate taxes. One advantage of this method is that the proceeds from the insurance policy are immediately available. Another benefit is that insurance proceeds are not subject to federal income tax.
What happens if there isn’t sufficient liquidity?
The risk of not having sufficient liquidity incorporated into your estate plan, is that your heirs will likely be forced to sell assets, such as property or motor vehicles, in order to pay the expenses. This would be disastrous for your family. Your heirs may, in fact, be required borrow money to pay the debts owed. However, a proper estate plan can prevent this from happening.
If you have questions regarding estate liquidity, or any other estate planning needs, please contact the Schomer Law Group either online or by calling us at (310) 337-7696.