Wealth Management: Ensure sufficient liquidity to settle liabilities, says lawyer

This article first appeared in Personal Wealth, The Edge Malaysia Weekly, on June 18, 2018 - June 24, 2018.
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One of the perils of estate planning is not addressing one’s liabilities, which could eat into the estate following the death of the asset owner. It is important to ensure that there is sufficient liquidity to settle these liabilities — as well as the administration costs and possible estate duty — as they will be passed on to the beneficiaries.

Wai Chong Khuan, a partner at Low & Partners Advocates & Solicitors, told participants of the 2018 Harveston Wealth Management Conference that the three main culprits that could eat into one’s estate are the costs incurred during the administration or distributing of the estate, the liabilities of the assets in the estate such as taxes and loans, as well as any miscellaneous costs such as funeral expenses and legal fees.

On top of that, the possible return of estate duty could add on the cost of “unlocking” the estate. “Before the recent general election, there was speculation that we could see the return of the inheritance tax. But the rumours were put to rest following the outcome of the election,” says Wai.

“However, the collection of the Goods and Services Tax was much higher than the Sales and Services Tax. And since the former has been zero-rated, some speculate that estate duty will be reintroduced to make up for the shortfall.

“Estate duty, which is based on the principal value of the total properties passed on after a person’s death, is not new in Malaysia. It first came into force on May 6, 1941, but was repealed on Nov 1, 1991. The principal value means the price of the property at the time of the decedent’s death, not when the property was purchased.”

Wai was explaining this during his presentation titled “Who moved my wealth?”

The impact of the estate duty includes a reduction of legacies to the beneficiaries and a delay in getting those legacies. “The beneficiaries must pay the estate duty before the court can issue the grant of probate or letter of administration (LOA),” says Wai.

“But what if the beneficiaries do not have sufficient cash to pay the inheritance tax or estate duty? They must force-sell the assets. Remember that many may be asset-rich, but cash-poor.”

He notes that the rate of estate duty had gradually gone down each time it was revised when the law was in place. From 1984 to 1991, before it was repealed, 5% was imposed on every ringgit of a decedent’s estate if it exceeded RM2 million while 10% was imposed on every ringgit if it exceeded RM4 million. In contrast, between 1965 and 1976, 50% was imposed on net assets exceeding RM2 million.

Wai says using the proceeds from the asset owner’s life insurance to pay the liabilities is the most optimal way to ensure that the assets are passed on to the beneficiaries with a lot less headache. That is because when a person dies, his assets — including cash in his bank accounts — are frozen until an executor or next of kin obtains a grant of probate or LOA from the court.

“For example, if your asset value is RM10 million and you pay an insurance premium of RM18,800 per annum, which comes to about RM376,000 in 20 years, the insurance proceeds would be RM700,000,” says Wai.

“Provided that the estate duty is 5% and 10%, then the beneficiary would have to pay RM700,000 in estate duty. But if there is no estate duty, then the money can be used to settle the administration costs and recurring liabilities.

“On top of that, you will have full control of your assets. You can preserve your estate. If you do not use up all that money, then the remaining sum becomes part of the estate as well. While we do not have estate duty yet, it is a good idea to prepare for it.”

The next best solution is to set up a trust as it does not require a grant of probate or LOA for the beneficiary to claim their inheritance. However, the setting-up cost may be higher, says Wai.

“After you pass away, the trustee will distribute the assets according to the trust deed and he or she must be paid every year. For instance, if the trustee fee is RM52,500 per annum, then in 10 years, it will amount to RM195,000, and this is subject to varying rates,” he adds.

“Also, if you have immovable properties, then you will be subject to stamp duty. You may be able to skip the long process of getting an LOA, for example, but it also means you need liquidity to settle all the costs.”