Fundamentals - Probate v Nonprobate Property

Law Office of Jonathan Ackerman, LLC Newsletter - Volume 6.2 (2020)

BY JONATHAN D. ACKERMAN, ESQUIRE

Understanding the difference between probate and nonprobate property can be the determining factor in assuring that a deceased person's (decedent) estate planning goals are fulfilled.

Please understand that I am only providing an overview in this article and am painting with a broad brush to provide perspective on this issue and its implications.

What is Probate Property?

Maryland law broadly defines "property" to include both real and personal property and any right or interest therein. More specifically under Maryland law, "property" refers to (1) all real and personal property of a decedent, and (2) any right or interest therein, which does not pass, at the time of the decedent's death, to another person by the terms of the instrument under which it is held, or by operation of law.

Maryland law further provides that all "property" of a decedent shall be subject to the estates of decedents law, and as such, upon the person's death, shall pass directly to the personal representative, who shall hold the legal title for administration and distribution, without distinction, preference or priority as between real and personal property. Thus, this "property" would be defined as 'probate property'.

As you might suspect, there are many different types of rights and interests in real and personal property that constitute 'probate property'. However, here's a list of a few common items that will be included in that definition: (i) any property titled in the decedent's individual name, (ii) any right, claim or cause of action which is personal to the decedent, (iii) life insurance proceeds which are made payable to the decedent's estate or to the personal representative of the decedent's estate, (iv) property held by the decedent in a joint tenancy or a tenancy by the entirety, if the decedent is the last surviving tenant, and (v) the fractional interest of any property held by the decedent as a tenant in common.

It is also important to note that a probate process must be followed before 'probate property' can be distributed to the intended beneficiaries under the decedent's Will. For instance, a Maryland Estate must be opened in the Register of Will's Office in the County (or Baltimore City) in which the decedent was domiciled at the time of his or her death, and a personal representative of the Estate must be appointed. In addition, once opened, the Estate must make certain filings with the applicable Register of Wills Office, administer the estate properly, and ultimately close the Estate and make all distributions of the probate property in accordance with the dispositive desires expressed in the decedent's Will (or pursuant to the Maryland laws of intestacy, if no Will exists).

What is Nonprobate Property?

As described above, 'nonprobate property' can be defined as property that passes at the time of death to another person (i) by the terms of the instrument under which it is held or (ii) by operation of law.

Here's a list of a few common items of property that constitute 'nonprobate property': (i) property held as tenants by the entireties where one spouse survives the deceased spouse, See Firm Newsletter Vol. 6.1 for a discussion of this type of property ownership, (ii) property held as joint tenants with a right of survivorship where one joint tenant survives the deceased tenant, (iii) retirement plan benefits, such as a 401(k) or IRA, where the designated beneficiary is not the decedent's Estate or personal representative, (iv) life insurance proceeds where the beneficiary is not the decedent's Estate or personal representative, (v) property held in a trust where the beneficiary of the trust is not the decedent's Estate or personal representative, (vi) fee simple real property located outside of Maryland, and (vii) multiple-party bank accounts (not designated as convenience accounts), which include joint accounts, and POD (Payable On Death) accounts.

Why Does it Matter?

Here are a few consequences of understanding and planning for the difference between probate and nonprobate property.

First, nonprobate property passes by operation of law or by the terms of the instrument under which it is held, whereas probate property must be passed through the probate process by a duly appointed personal representative of the decedent's Estate. Thus, in general, nonprobate property will be available to the intended recipient immediately upon (or shortly after) the death of the decedent. For instance, a named beneficiary of a life insurance policy will be entitled to the proceeds from that policy immediately upon notifying the insurance company and providing it with the requested documentation, or similarly with a payable on death (POD) (or transfer on death (TOD)) designation of a bank or investment account.

Second, a decedent's desired recipients may be disinherited. For instance, let's assume that (i) an individual desires to avoid the probate process, so all of his or her property is titled either jointly with a right of survivorship, or passes through a beneficiary designation of an IRA, or a POD or TOD on an investment or bank account, and (ii) the individual has provided in his or her Will for a specific bequest of $10,000 to either a charity, a niece, a caregiver, etc. Let's further assume that the charity, niece or caregiver, etc., are not beneficiaries under any of the property dispositions mentioned (i) above – as normally a surviving spouse or children will receive that property.

Even though the probate process will be avoided in that fact pattern, the intended recipients in (ii) above will be disinherited, because the Estate contains no probate property to fulfill that desired $10,000 bequest. Though this example may sound somewhat contrived, it is a common occurrence (and problem) when reviewing an estate plan.

Third, probate property may be necessary to plan for certain state or federal estate taxes (such as the funding and creation of a tax planning trust). If all of the property constitutes nonprobate property, then under certain circumstances, the anticipated tax advantages of such planning may be lost. In the same vein, if the decedent was planning on creating a trust under his or her Will for the benefit of a minor or disabled child, the creation and funding of the trust may fail if the decedent had no probate property to fund such trust.

These types of issues may also apply, or be especially heightened where the decedent has children from a previous marriage and desires to provide for such children. As you may note, some of the consequences apply to any size estate (i.e., disinheritance), while other consequences may only apply to a large estate (i.e., estate tax).

The key takeaway is to carefully review all of the decedent's property (before he or she becomes incapacitated or a decedent) and determine what is 'probate property' and what is 'nonprobate property', and then determine how, and to whom, all of that property will pass, whether pursuant to his or her Will or by operation of law. In that way, the decedent's dispositive estate planning wishes and needs can be assured of being fulfilled.

What is a Decedent’s Gross Estate?

Some people may have heard of the term "gross estate" and may get confused about the definitions discussed above.

Though answering this question is beyond the scope of this article, in the big picture, a decedent's gross estate is generally defined as the property that will be subject to a state or federal estate tax, See Firm Newsletter, Vol 5.1 for an analysis of these taxes and exemption amounts (as continued in this Volume 6.2 – The Shoe Keeps Dropping on the D.C. Estate 'Zero Bracket Amount') for more perspective on this complex issue.

It is also important to note in the context of this article that the 'gross estate' generally includes both the probate and nonprobate property of the decedent.

Estate planning presents sophisticated and multi-faceted issues, and professional counsel should be consulted to fully analyze these issues in the context of a particular set of circumstances.