Inheritances: Providing Incentives for Children

Worried about how your children or grandchildren will handle an inheritance? While a large inheritance can alleviate financial concerns for your heirs, you probably don’t want to remove the incentive to work hard or to lead a productive life. You also don’t want your heirs to spend the money irresponsibly, obtaining no long-term benefits from the inheritance.

Lifetime Gifts

If you want to try to assess how heirs will handle an inheritance, consider making lifetime gifts to them. Every year, you can make tax-free gifts – up to $14,000 or $28,000 in 2017 (unchanged from 2016) if the gift is split with your spouse – to any individual. You can then assess how well those gifts are handled. Do they waste the money on extravagant purchases or set it aside in savings? Are they appreciative of the gifts or feel it is their right to receive them? Their actions can help you decide whether you need to control the distribution of their inheritance.

Incentive Trust

If you do want to control distributions, you can set up a trust, often called an incentive trust, that attaches conditions to distributions. Those conditions could include:

Spreading distributions over many years or decades.

You don’t have to turn your entire estate over to your children immediately. You may want to distribute pre-determined percentages of your estate when they reach certain ages, perhaps one-third of your estate at ages 25, 30, and 35. Or you can distribute only income from the trust until your children reach a certain age, then distribute the remaining assets.

Making distributions contingent on achieving certain goals.

You can designate that certain distributions be made when your child finishes college, gets a job, or has children. You can also base distributions on the income your child earns. For instance, you could allow your child to take 50 cents from the trust for every $1 he or she earns. Or you may wish to supplement the incomes of heirs who choose careers in government, educational institutions, or charitable organizations. These types of distributions can help encourage behavior you feel is important.

Designating some funds for health problems, education funding, or other emergencies.

That way, a child who is confronted with serious health problems or other emergencies will have financial resources to help deal with those problems. The trustee can make decisions regarding when funds should be distributed.

While you can’t totally control how heirs spend their inheritance, you can control when and how they receive it. By doing so, you can hopefully teach them how to handle their inheritance responsibly.