When meeting with clients who are parents to discuss cottage law and succession planning with respect to their family cottage, I always begin with two basic questions: “Do your children want the cottage?” And, if the answer is “Yes,” “Can they afford it?”
The question to whether the children “want the cottage” may seem unnecessary, but given the priorities and expenses incurred by today’s younger generations, one cannot always assume acquiring ownership of the family cottage after Mom and Dad die is a priority for every child. Children have careers and get married. Those and other factors may take them to other locations around the country and even around the world. These logistical changes can have a big impact on whether the children will have either the time or the inclination to use the family cottage. So it is indeed practical to ask these questions. That being said, there are still parents who proceed with planning regardless of their children’s situations, and simply move forward with the provision that, if the children don’t want the cottage in the future, sale by the consent of the children will result in plan termination. For these parents, the importance of having the plan outweighs the children’s ultimate decision that the plan can be changed by an appropriate consent or vote of the child(ren) who want to discontinue ownership.
As far as the second question, “Can they afford it?” there are several matters to consider. First, the parents’ current expenses to maintain the cottage are probably much lower than the future cost of doing so by the children. When considering the financial issues, certain assumptions should be made for future costs, including: increase in property taxes, payment for third-party services (e.g., grass-cutting/snow removal/maintenance and upkeep) currently being provided by a parent, etc. Only after considering a realistic annual budget to maintain the cottage, which would include annual contributions to a “rainy-day fund” to handle other than routine expenses, should a determination be made regarding the children’s ability to afford the cottage. Analyzing their ability should not focus entirely on their discretionary income. Rather, attention should also be given to other benefits or assets the children may receive after Mom and Dad’s death. Obviously, distributions of other estate/trust assets could enable children to afford later what may be unaffordable now.
In many cases, the family cottage is the most significant asset that Mom and Dad passes on to their children. Absent the children’s ability to pay future expenses on their own, there are certain planning strategies they can possibly work to provide a “nest egg” at Mom and Dad’s death – one of which being life insurance. Certain life insurance products, such as “second-to-die” policies, are typically used to mitigate estate taxes, which in the context of cottage planning, provide certain solutions for the funding /payment of future family cottage expenses. A second-to-die policy provides death benefits only after both Mom and Dad’s death. This makes the premiums much lower, and oftentimes more affordable, even for retired individuals. It is also important to note that these types of policies may provide a solution where Mom and Dad leave the family cottage to one child/sibling who wants the cottage and the insurance proceeds as an offset to that child’s benefit to a sibling who elects not to be an owner of the cottage. By purchasing insurance, oftentimes using annual exclusion gifts from Mom and Dad, the insurance allows significant leveraging of these gift dollars and provides more benefit than simply leaving the dollars to the children.
Finally, another consideration in the financial aspects of the cottage succession planning is the possible use of an “endowment,” in which Mom and Dad leave funds in their estate plans specifically earmarked to fund an endowment fund in a family LLC or trust for purposes of providing financial basis to pay for future cottage expenses. For some families, the legacy of the family cottage is important enough that creating an endowment, and restricting other assets, preserves the family cottage for all. For other families, establishing an endowment avoids the necessity of perhaps two of the three children in a family always having to pursue the payment of annual expenses from a third sibling who is habitually poor with respect to handling his/her finances. By having a lump-sum endowment fund, the siblings who are not financially wise are not in control of his/her share of the endowment funding; therefore, the other two siblings can manage the fund to create the appropriate income to pay for the third sibling’s share of the expenses.
Although succession planning for the family cottage can be complex in relation to many issues, starting from a baseline position of whether or not children are actually interested in owning the family cottage and, if so, whether they will be able to afford it, are considerations that should be given appropriate attention before embarking on any succession plan.