There are some different approaches for keeping your estate out of probate and, under some circumstances, these approaches may be worth considering.
First, there is the possibility of gifting your assets during your lifetime, so that the estate is comprised of less than $150,000 worth of assets at the time of your death; with an estate that size, the assets can be passed without the need for probate. There is, however, an obvious drawback to gifting away most of what you have and that is that you no longer have it.
There is another, less obvious, problem that has to do with taxable income tax repercussions. If you bought your home, some years ago, for $100,000 and it is now worth $500,000, there would be income tax payable on the gain between 100,000 and 500,000, if the property was sold. The $100,000 is called the tax basis. If you give that property to your child, for example, and he or she sells the property, they would be incurring that income tax obligation. On the other hand, if you pass the property to your heirs and the time of your death, they would get a new tax basis equal to the value of the property at time of your death. Therefore, in our example, if the property sold for $500,000 there would be no income tax payable. Because of that concept, the income tax issue has to be considered whenever appreciated property is gifted.
Next, many people put their property into joint tenancy so that at their death, the property will pass directly to their heirs, without going through probate. There is a tax issue with joint tenancy taxation similar to that concerning gifted properties. In joint tenancy property, there is an adjusted basis, only added to the portion owned by the person who dies, so that if you have a one-half interest in the property and the other joint tenant has a one-half interest in the property, there will be a stepped-up basis for only fifty percent of the property, which, in our example again, would lead to a step-up from $50,000 to $250,000 for half of the property, while the other half of the property value would remain at $100,000, making its total basis of $350,000 and still requiring payment of income tax on the $150,000 gain.
Another problem with joint tenancy property is that your property could end up being liable for the other joint tenant. Also, the other tenant could die first; if you put your child’s name on your property as joint tenant and they die before you do, then the property is back totally in your estate.
The next area is the possibility of creating payable-on-death accounts. You can create an account in a bank which would go directly to whoever you name, thus avoiding probate. The problem with this kind of account is that there is a lack of flexibility in being able to cover contingencies, in case the person named dies first or becomes incapacitated in some way; this is however, a method that is often used, especially in smaller estates.
Until recently, you could not create the same kind of transfer for real property, but now, in California, you can record a transfer on death deed, naming someone to take your property at the time of your death. Recording that document does not deprive you of any current rights to deal with the property, including cancelling the deed. It also keeps in place the step-up basis for the property at the time of your death. Again, however there is little flexibility available for this kind of deed; you cannot, for example, make a deed out saying you’re leaving the property to John, but if John doesn’t survive, then you want it to go to Joe, and if he doesn’t survive, you want it to go to Joe’s children.
I have used this kind of deed once or twice, in very specific circumstances. The circumstances are that the remaining tenant is not expected to live long, and there is only one child. I suspect this approach could also be considered if there were more than one child, but the more people you put into the equation, the more chance there is for change and the result that wasn’t desired.
Finally, if you have an asset that by terms is payable to a specific person or people, that asset does not have to go through probate. Examples of such assets are retirement accounts in which beneficiaries are named and life insurance.