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Preparing your children for their inheritance

Key takeaways

  • Families may be able to avoid complications through an open and honest dialogue about values.
  • Financial professionals can help parents establish a framework for these conversations.
  • Education and estate planning also help accomplish intergenerational wealth transfer goals.

As a parent, it’s never too soon to begin thinking about how to prepare your children for a potential inheritance. Certainly, it’s a challenging topic for people to address for several reasons, not least of which is that it requires you to acknowledge and discuss your own mortality. Many parents are also often reluctant to address the topic because they fear giving up control of their wealth or are uncomfortable discussing financial matters with their children.

However, parents must realize that establishing and maintaining open lines of communication between generations is crucial to help sustain family wealth. When parents facilitate an open and honest dialogue with their children it may reduce complications when the time comes to transfer wealth, potentially precluding or minimizing financial penalties such as unnecessary taxes and costly settlement fees, and obviating potential family discord.

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Establishing a family-friendly framework

To facilitate an intergenerational dialogue, parents may want to enlist the services of financial professionals, who can help provide a framework for people to share their thoughts regarding the passage of wealth. For instance, a parent or grandparent might want to define the values they hope to pass along or identify skills they believe a member of the younger generation might need to uphold those values. Members of the younger generation may be more interested in expressing personal interests and passions through wealth and estate management.

The most important thing is that families work toward developing a comprehensive plan that promotes a sense of shared decision-making. While every family is different and should search for a framework that suits them best, there are certain elements that can help guide this planning. Communication comes first, but there is also a need for education and a comprehension of the legal structures that can be tailored to help ensure that the goals of intergenerational wealth transfer are met.

A starting point for communication

The most efficient estate planning begins with communication. According to the Fidelity Center for Family Engagement, it's rare for families to openly discuss plans to pass along assets, despite the fact that wealth is most commonly transferred at death. This only increases the likelihood of generating conflicts, especially given today’s modern family, where divorce and remarrying are more common.

To begin the process, parents should set expectations with their children with respect to their assets, says Scott Kerr, vice president of advanced planning at Fidelity Investments, and discuss what plans are in place for the assets and why they have set things up that way. By establishing a rapport around finances when your children are young, you can lay the groundwork for discussing their inheritance as they grow and become more mature. A parent is the best judge on what details to disclose to children and how to frame such a conversation, says Kerr. But the goal is to avoid surprises when that wealth is ultimately passed down.

Financial education is a must

Education is critical to helping your children develop the skills necessary to be responsible stewards of family wealth. You can begin to teach your children the value of money by giving them an allowance and setting up checking and savings accounts for them. The proliferation of financial apps also presents an opportunity to discuss financial fraud and the importance of protecting your identity and wealth. Children can also learn a lot about money by getting a part-time job when they become teenagers.

These financial lessons can help your children gain a sense of personal responsibility, which is key to helping them develop a healthy sense of ambition even as they learn more about the money they stand to inherit. As your children grow older, you can begin to consider establishing some structure around your family estate planning. For example, some families collaborate to create a mission statement that establishes goals for an estate, such as supporting charities.

While communication and education are critical, it’s common for parents to still be concerned about the chances a family’s hard-earned wealth is squandered after it is passed down. To help ensure that doesn’t happen while still providing for your children’s needs, parents can explore the different legal structures that are available. For instance, establishing a trust can enable a family to set rules and guidelines around the management and distribution of assets. Or you can explore a living trust that enables you to distribute assets to beneficiaries before you die.

Trusts can have great utility because they are flexible. They can be tailored to help enhance tax efficiency while meeting other specific goals around distribution and protection. Some examples include:

  • Generation-skipping trusts, which enable the distribution of assets to grandchildren generally without incurring estate taxes or other penalties.
  • Silent trusts, which allow trustees to withhold information from beneficiaries for a certain period; for instance while they’re still quite young.
  • Charitable lead trusts, which enable some benefits to go to a charity while the rest goes to heirs.

There are other provisions that can be embedded in these legal arrangements to accomplish certain goals. For instance, a spendthrift clause can serve to prevent a beneficiary from using future distributions to secure credit. The HEMS standard ("health, education, maintenance, and support") is used to guide a trustee to help ensure assets are available to pay specifically for essential expenses.

The more assets in an estate, the more likely parents will opt to use a trust, says Kerr. For instance, many wealthy parents will use a trust to regulate the amount of income or principal regularly paying out of an estate to avoid creating disincentives for their heirs to work. People will also often insert provisions to help protect assets in the event of a divorce to try to ensure that wealth remains within an immediate family.

However, it’s important to keep in mind that the most efficient structure is one that is developed within a framework that promotes communication and education. There are numerous provisions that can be embedded in trust documents, but they should reflect an understanding within a family about the value of creating the estate. To the extent these comprehensive plans are developed with open lines of communication, and are built on a foundation of financial education, they can help preclude family discord, unnecessary taxes, and costly settlement fees while helping to sustain intergenerational wealth, which is the goal.

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This information is intended to be educational and is not tailored to the investment needs of any specific investor.

Views expressed are as of the date indicated, based on the information available at that time, and may change based on market or other conditions. Unless otherwise noted, the opinions provided are those of the speaker or author and not necessarily those of Fidelity Investments or its affiliates. Fidelity does not assume any duty to update any of the information.

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Services from the Fidelity Center for Family Engagement are currently available on a limited basis.

The Fidelity Center for Family Engagement is an affiliated business unit of FMR, LLC and operates externally from Fidelity Brokerage Services LLC.

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