It’s Not Just About Death and Taxes: The Essential Legal Documents You Need for Incapacity Planning

Comprehensive estate planning is about more than your legacy after death, avoiding probate, and saving on taxes. It must also be about having a plan in place to manage your affairs if you become mentally incapacitated during your life. 

 What Happens Without an Incapacity Plan?

Without a comprehensive incapacity plan in place, a judge can appoint a guardian or conservator to take control of your assets and health care decisions.  This guardian or conservator will make all personal and medical decisions on your behalf as part of a court-supervised guardianship or conservatorship.  Until you regain capacity or die, you and your loved ones will be faced with an expensive and time-consuming guardianship or conservatorship proceeding.

What Happens to Your Finances During Incapacity?

If you are legally incapacitated, you are legally unable to make financial, investment, or tax decisions for yourself. Of course, bills still need to be paid, tax returns still need to be filed, and an investment strategy still needs to be managed.

So, you must have these two essential legal documents for managing finances in place prior to becoming incapacitated:

1. Financial Power of Attorney.  This legal document gives your agent the authority to pay bills, make financial decisions, manage investments, file tax returns, mortgage and sell real estate, and address other financial matters that are described in the document.  

Financial Powers of Attorney come in two forms:  “Durable” and “Springing.”  A Durable Power of Attorney goes into effect as soon as it is signed, while a Springing Power of Attorney only goes into effect after you have been declared mentally incapacitated.

2. Revocable Living Trust.  This legal document has three parties to it:  The person who creates the trust (you might see this written as “Trustmaker” or “Grantor” or “Settlor” – they all mean the same thing); the person who manages the assets transferred into the trust (the “Trustee”); and the person who benefits from the assets transferred into the trust (the “Beneficiary”).  In the typical situation you will be the Trustmaker, the Trustee, and the Beneficiary of your own revocable living trust, but if you ever become incapacitated, then your designated Successor Trustee will step in to manage the trust assets for your benefit.

Health Care Decisions Must Be Made Too

If you become legally incapacitated, you won’t be able to make health care decisions for yourself. Because of patient privacy laws, your loved ones may even be denied access to medical information during a crisis situation and end up in court fighting over what medical treatment you should, or should not, receive (like Terri Schiavo’s husband and parents did, for 15 years). 

So, you should have these three essential legal documents for making health care decisions in place prior to becoming incapacitated:

1. Medical Power of Attorney.  This legal document, also called an Advance Directive or Medical or Health Care Proxy, gives your agent the authority to make health care decisions if you become incapacitated.

2. Living Will.  This legal document gives your agent the authority to make life sustaining or life ending decisions if you become incapacitated.

3. HIPAA Authorization.  Federal and state laws dictate who can receive medical information without the written consent of the patient.  This legal document gives your doctor authority to disclose medical information to an agent selected by you.

Is Your Incapacity Plan Up to Date?

Once you get all of these legal documents for your incapacity plan in place, you cannot simply stick them in a drawer and forget about them.  Instead, your incapacity plan must be reviewed and updated periodically and if certain life events occur - such as moving to a new state or going through a divorce. If you keep your incapacity plan up to date, it should work the way you expect it to if it’s ever needed.

To comply with the U.S. Treasury regulations, we must inform you that (i) any U.S. federal tax advice contained in  this newsletter  was not intended or written to be used, and cannot be used, by any person for the purpose of avoiding U.S. federal tax  penalties that may  be imposed on such person and (ii) each taxpayer should seek advice from their tax adviser based on the taxpayer’s  particular circumstances.