Tips for planning a successful prenuptial agreement
Prenuptial agreements are one of those things in life that can be uncomfortable no matter how you address it. For families, mentioning the subject creates anxiety, and if not managed properly can quickly ruin a blossoming relationship. But the process can be less stressful if you acknowledge potential sensitivity to the topic upfront and follow a few proven steps for success.
Why a prenuptial agreement?
In its simplest form, a prenuptial agreement is a written contract between a soon-to-be married couple that lists each spouse’s premarital assets and liabilities, identifies assets and liabilities that will remain outside of the marital estate, and describes the financial understandings and commitments of the couple during the marriage and when it ends either by death or divorce.
Whether a prenuptial agreement is needed depends on each couple’s specific circumstances. For example, a prenuptial agreement is often used to safeguard a family business against the risk — however remote — that it could be disrupted. Or perhaps to help protect a family’s wealth management plan that’s been in place for generations. Prenuptial agreements are also used to help preserve an individual’s wealth when entering into a marriage, often for the benefit of children of a previous relationship.
Whether a prenuptial agreement is needed depends on each couple’s specific circumstances.
Starting the conversation about prenuptial agreements
Families that have had wealth for a long time often have a precedent in place around prenuptial agreements, and expectations are communicated to family members early so they’re known well in advance of a developing serious relationship. In other situations, a family may experience a liquidity event that brings in new wealth. In many instances, these families haven’t historically used prenuptial agreements and it’s not a conversation they grew up having.
In all of these situations, bringing up the subject of a prenuptial agreement can be a challenge, but there are a few things you can do to manage the discomfort.
- Plan early: If the marriage relates to the next generation, it’s helpful if the conversation about prenuptial agreements takes place well before your children meet their future spouse — preferably years before. It will make it less personal and not specifically about the individual joining the family; your kids will see it as a foregone conclusion that the family will seek a prenuptial agreement no matter who they’re marrying. If the agreement relates to your own pending marriage, it’s important to share enough in advance to give your soon-to-be spouse time to prepare and digest. Whatever the situation, the more time the participants have to address both the technical and emotional aspects of a prenuptial agreement, the higher the likelihood of a successful outcome. It helps keep relationships intact and can even strengthen them through the process.
- Don’t ignore the elephant in the room: It’s best to acknowledge the potential emotions of the situation and then share and help the intended new family member understand the perspective of why a prenuptial agreement is meaningful to those expecting it and to those being asked to participate. It’s important not to avoid or minimize this discussion. Be conscious of the tone and expectations that are being set. Depending on one’s experience in communicating sensitive matters, it can come across as either insulting or commonplace, so it’s important to understand this context and be sensitive to it. Often, a professionally facilitated discussion is beneficial.
- Be open and honest: Emotionally, a prenuptial agreement can seem like a cold, contractual document that can dampen the excitement of an engagement. But from a practical standpoint, it’s just another planning document not unlike wills, trusts, or other estate planning documents. An open and honest conversation regarding important assets and financial plans for the entire family can save much heartache later.
Once the parties have agreed to proceed with a prenuptial agreement, it’s time to get it on paper. The agreement is typically created, executed, and maintained in three distinct phases.
Phase 1: Outline the prenuptial agreement
The first phase establishes the details of the three key components to the prenuptial agreement. This is often the most difficult part of the process.
- Core financial disclosures: Here, the parties disclose their assets and liabilities, identify the items that will be considered separate from the marital estate, including family business interests, interests in irrevocable trusts established by relatives, and important family assets such as vacation properties, land, artwork, etc.
- Key understandings: The couple agrees to the treatment of future potential gifts or inheritances received by a spouse.
- Commitments of the couple: The couple outlines any responsibilities to provide inheritances for one another.
Prenuptial agreements are controlled by state law, and it’s a best practice for each party in the engagement to be represented by their own attorney. This ensures both parties are fairly represented, assets and debts are properly disclosed, terms are adequately negotiated, and the agreement meets all execution requirements of the state. Some states have rules regarding the timing of when a prenuptial agreement can be executed, so it’s important to seek state-specific guidance early in the planning process.
Phase 2: Formalize the terms
The next step is to gather detailed information on assets and liabilities and prepare the specific terms of the agreement.
Most states require each party to disclose all assets and liabilities and their values. These requirements can extend to include beneficial interests created in irrevocable trusts for the benefit of the parties.
The disclosures are shared and incorporated into the agreement. Once disclosed, the parties then work through how each asset (or debt) should be treated in the event of divorce or death.
Each prenuptial agreement is unique to the couple; however, here are some common clauses that many couples choose to address. These include:
- Use and benefit from joint assets like bank or investment accounts.
- Rights in separate property, like gifts or inheritances, or treatment of family business interest.
- Death benefits on retirement accounts or life insurance.
- Provisions for children from previous relationships.
- Schooling for either spouse.
- A determination to use arbitration or mediation in the event of a dispute.
Note that couples can’t address child support or child custody in a prenuptial agreement.
States are divided on whether future spousal support can be determined using a prenuptial agreement with some allowing alimony clauses while others prohibiting them.
Once the details are agreed upon, the final step is to formally execute the agreement. Both parties need to sign the agreement freely and voluntarily, without fraud, mental incapacity, or undue influence, and the financial circumstances of the parties can’t change materially from the time of disclosure to the time of signature.
Phase 3: Maintain the commitments
During the marriage, it’s important that commitments made in the prenuptial agreement are maintained as couples consider asset titling, beneficiary designations, and estate planning. Many couples choose to set up revocable trusts in their estate plans, and when assets are “funded” (or otherwise titled) into the trust, it’s important to ensure the plans are consistent with the prenuptial agreement.
In instances where couples agree to provide an inheritance for a surviving spouse, life insurance can be a simple solution to create that inheritance without encumbering any of the agreed-upon separate property.
In situations where a couple is married without a valid prenuptial agreement, but later decide they would like an agreement in place, there may be alternatives available. Some states allow postnuptial agreements among spouses. These are almost the same as prenuptial agreements, just executed after the marriage has begun. Alternatively, additional estate planning or business planning could address some concerns related to specific assets and debts.
If handled correctly, prenuptial agreements can be the catalyst to a wider discussion about wealth — whether it’s telling the kids about the volume of the family’s wealth and your opinion about prenuptial agreements before they’re in a serious relationship — or having a discussion with an intended spouse. If handled well, the process can help provide for a healthier financial future because the couple has gone through an important process based on candor and trust and have removed any ambiguity about wealth.
Considering whether a prenuptial agreement is in your future is just the start of the process. Depending on the size and complexity of the estate, you might need a reasonable timeline to engage professionals, gather documents, and prepare and execute the agreement.
If you have any questions about how a prenuptial agreement fits into your wealth management plan, give us a call.