Stories of children who squander the wealth their parents carefully set aside for them are all too common. If you have built up a large estate and are eager to share your wealth with your children, you may worry about their ability to handle it. There are steps you can take to help ensure that they will not blow through their inheritance.
Build Incentives and Flexibility into a Trust
An incentive trust rewards children for doing things that they might not otherwise do. Typical incentives include: obtaining a college degree, entering a profession or abstaining from drugs. Incentive trusts can be effective estate planning tools, but a trust that’s too restrictive may incite rebellion or invite lawsuits.
Incentives can be valuable if the trust is flexible enough to allow a child to chart his or her own course. Some incentive trusts give the trustee discretion to make distributions based on certain guiding principles or values without limiting beneficiaries to narrowly defined goals. But no matter how carefully designed, an incentive trust won’t teach your children critical money skills.
Teach Your Children About Money Management
There is no one “right” way to teach your children about money. The best way depends on your circumstances, their personalities and your comfort level.
If your children are old enough, consider sending them to a money management class. For younger children, you might start by giving them an allowance in exchange for doing household chores. This helps teach them the value of work. If they spend the money too quickly and do not have anything left for something they really want, they learn the value of saving. Opening a savings or certificate of deposit (CD) account or buying bonds can help teach kids about investing and the power of compounding.
A private foundation can be a great vehicle for teaching children about the joys of giving and the impact wealth can make beyond one’s own family. For this strategy to be effective, children should have input into the foundation’s activities. When the time comes, this can also be a great way to get your grandchildren involved in charitable giving at a young age.
Consider Distribution Amounts and Timing
Many parents take an all-or-nothing approach to the timing and amounts of distributions to their children, either transferring substantial amounts all at once or making gifts that are too small to provide meaningful lessons. Consider making distributions large enough so your children have something significant to lose, but not so large their entire inheritance is at risk.
Perhaps you want to encourage financial success by making matching gifts equal to the amount of income your children earn each year. Be careful, though, not to dissuade your beneficiaries from pursuing other worthwhile, though potentially less financially rewarding, endeavors.
Spell Out Your Plans
An estate plan can be a powerful teaching tool, but only if your children or other beneficiaries understand the lessons you are attempting to impart. To avoid hurt feelings — or even litigation — it is important to discuss your plans with your family. If you set up an incentive trust for your children, help them understand your motivations and the values you are trying to reinforce. If you limit your children’s inheritance so they can make their own way and only provide a financial safety net, explain your reasoning to them.
Whatever approach you choose, ensure that everyone in the family is on the same page. Consider having an informal discussion, writing a letter explaining your intentions, having a structured family meeting or developing a family mission statement.
Make Your Legacy Last
If you plan on leaving a large amount of your estate to your children, find the best way to make the money last. Consider incentive trusts, educating your children on money management and being smart with financial distributions. Perhaps most importantly, communicate with your children about the reasons behind your decisions. These steps will increase the chances there will be money left to pass on to your grandchildren.
Fifth Third Bank does not provide tax or legal advice. Please consult your tax adviser or attorney before making any decisions or taking any action based on this information. This information is provided for educational purposes only and does not constitute the rendering of tax or legal advice.
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