By Trey Smith, CFP®, CIMA, CPWA, CHFC
Leaving your grown children liquid assets such as stocks and bonds can be a no-brainer. Since securities can be quickly and easily sold by heirs, they can split the cash or buy out fellow siblings on the items they prefer to own. By contrast, illiquid assets like real estate can be difficult to value. Some can eventually be sold and the proceeds divided, however, there’s another type of illiquid assets that defies such simple solutions. This is property that’s hard to value, hard to sell and often carries sentimental family associations.
To keep from creating headaches for your loved ones, and potentially the seeds of sibling ill will, families can plan these bequests to avert potential problems. Here are three hypothetical scenarios of leaving illiquid assets to your children.
The Family Vacation Home
Vacation homes where families have gathered for generations – a beach house or mountain cabin, for example – are special, and they’re often viewed differently than other pieces of real estate. If you want to leave your vacation home to your grown children, one factor to consider may be that some of them do not live close enough to enjoy it. And even if all of them do, different levels of financial wherewithal could thwart your goal of family harmony.
For example, if there are three siblings and one is well-off, one is doing okay and the third is just scraping by, if the beach house they inherit needs costly repairs, conflicts can arise. The well-to-do sibling is all for having this work done, the one who’s doing okay wants to leave the house as-is and the third sibling, who’s financially hurting, can’t even afford the burden of the ongoing expenses (routine maintenance and taxes), much less the needed repairs.
There are ways benefactors can avoid this scenario.
If one heir wants the vacation home and the others don’t, you can plan this within the context of your overall estate by leaving it to that heir and giving other items of equal value to the others. Alternatively, the house could be left to all three and the one who wants it the most could buy the others out with his or her share of the liquid assets (if there are enough).
Another option is to create a trust for the upkeep of and taxes on the vacation home. The trust could specify ownership scenarios where one heir couldn’t force the others to sell. This solution would keep the house in the family and help the less-well-off heirs avoid the financial burden of the bequest.
To prevent problems, you need insights into your heirs’ preferences and their financial situations — not just what they’re spending, but the wealth they actually possess. Candid conversations are the key.
Having such conversations with heirs is even more important when bequeathing a family business. These are often highly illiquid assets, and they can be extremely difficult to value. Also, they may have value tied to the family's reputation.
Sometimes owners leave their businesses to all heirs equally, regardless of the varying degrees to which the heirs may have been involved in the company. More often, owners favor the heirs who work there. When one heir works for the business and the others don’t, this can cause problems, even if there are other substantial other assets in the estate.
For example, if one sibling works in the business and one doesn’t, there can be substantial issues between the siblings over whether one heir deserves the business, or more of it, simply because they work in it. The uninvolved sibling may think of it this way: The other sibling had a job at the business and got paid for it, so they don't deserve more. But the inheritor may view it differently: Their sweat equity added value and helped make the business worth what it is today. They may also believe involvement in the family business meant not seeking a potentially higher income at another company or starting a business of their own.
To prevent this kind conflict, it’s best to get a solid valuation of the business to use in estate planning. If you objectively believe one heir has contributed substantially to the business, you need to discuss that with your other heirs. If the business has substantial value and there are substantial other assets, you could leave the business to all the heirs, then the involved heir could buy out the others using his or her share of liquid assets from the estate.
Whatever you decide, it’s important all siblings understand your thinking and you know theirs before you plan your estate.
Family heirlooms often don’t have much financial value, but their sentimental value can be quite high. As differences between heirs often can’t be resolved by selling heirlooms and dividing the money, the friction-generating issue centers on possession.
Let’s say two sibling heirs develop a bitter conflict over your bequest of a set of decorative figurines they inherit together. If there is an even number of these items, a ready solution might be to divide them equally. If there’s an odd number and the siblings can’t agree on another solution, one remedy might be for the executor to put the odd one up for sale and let the siblings divide the proceeds.
Single, one-of-a-kind heirlooms can present more difficult scenarios, but if there are multiple such items of equal sentimental (but little financial) value, you can assign different items to different heirs in equal quantities. Dividing heirlooms in ways that are satisfactory to heirs can be difficult without having conversations with them about what they truly want and what’s fair. If you discuss the situation ahead of time, you won’t bequeath enmity-producing problems along with personal property.
Whether it's a family vacation home, business or heirlooms, your bequests shouldn’t be a surprise to your heirs. The key is to have candid family conversations while you’re planning your estate to understand everyone’s wishes.
Recent articles by Trey Smith: How to Transfer Financial Values to the Next Gen
This article was originally published on Investopedia.