People often ask “What best way to pass oil and gas minerals interests to a son, daughter, spouse or grandchild.” When discussing an inheritance, there is confusion over whether a Last Will, Trust of a Transfer on Death Deed is the best answer. Some want to know whether granting a deed or a life estate is a better solution. However, there is no “best” method. Much depends upon the situation facing your family. Therefore, the best answer is to review the different options and discuss with an experienced estate planning attorney.
Mineral Inheritance and Family Legacy
Mineral ownership is unique in that ownership tends to pass from generation to generation. In Oklahoma it is not uncommon that ownership of the minerals can be traced to a land run or homestead deed. Sometimes the surface interest is sold, and mineral interests are retained. Many owners fleeing the dust bowl kept their homesteading dreams alive by retaining their mineral rights. The key for the current mineral owner is to honor this tradition by passing along the oil and gas rights on to the next in line. This article discusses the common ways this occurs and discusses strategies to avoid probate. This discussion presumes that the owner will want a child to inherit and is written in this tone, however, the discussion is generally true if a spouse or another individual is the intended beneficiary.
Probate Process and Minerals
In Oklahoma probate is a judicial proceeding to wind up an estate of a decedent. This occurs if there is a Will or the individual died without a will (intestate) and the property does not transfer by a non-probate plan. Notice is given to those interested in the estate. This includes heirs (those entitled to inherit) and creditors. A personal representative is appointed, and various notices must be mailed and published. After payment of creditors and taxes, the personal representative distributes the property. If the decedent had a Last Will and Testament, then the instructions contained therein are followed. If there is no Will, then the property is passed by the intestacy statute to the family. A probate tends to be a headache and adds to the cost of transferring property. It will eventually get the title to the property straightened out and get royalties into pay status.
Deeds for Mineral Interests
Another way to pass property is through a deed. These can be one of many forms.
Outright Mineral Deed: A parent can deed property directly to a child by a quit claim mineral deed. Once done that child owns the property outright and is entitled to all the income. Aside from losing control there may be other negative consequences. Those may include issues if the parent applies for nursing home assistance through the state or as a veteran’s benefit. Also, if the child sells the property, then there may be capital gains that could have otherwise been avoided. The minerals could also become subject to child’s creditors, bankruptcy or claims by a divorcing spouse.
Joint Tenancy Mineral Deed: A joint tenancy deed places ownership of the property into the names of two or more individuals. The deed will have the following language: To A & B as “joint tenants with rights of survivorship and not tenancy in common”. Usually, deeds to married couples have this language. When the first named owner dies, then the property is “vested” in the name of the survivor or survivors. All that is required is the filing of an affidavit by the survivors. Again, this interest may become subject to the child’s creditors, bankruptcy or divorcing spouse. More about Joint Tenant Deed Here.
Mineral Life Estate: With this type of deed one or more individuals, called “life tenants”, enjoys the royalties during their lifetime. An owner could deed the minerals to his/her children but retain a life interest. This is known as the life estate. Then when the life tenant dies the remaindermen (those who will take after death) file an affidavit and the property becomes theirs. While simple in concept, there are difficulties that arise. This is because the life tenant cannot commit “waste” that impairs the value for the remaindermen. This may prevent the life tenant from signing a lease or making an election under a pooling order without consent of all of the remaindermen. While there are drafting techniques that may avoid these problems, the cost of creating one outweighs the benefit of using a trust. More about Life Estates Here.
Transfer on Death Mineral Deed: This is a document signed, witnessed and filed with the land records. The owner designates beneficiaries to receive the property after his/her death. Until then the owner retains complete control. He can lease, rent, sell or gift away the property without the beneficiaries’ knowledge or consent. The owner can also change or revoke the beneficiaries. Once the owner dies, the beneficiary files an affidavit and thereby becomes the owner property. The downside is that the beneficiary must accept the property by filing the affidavit within 9 months of the owner’s death. If this deadline is missed the property becomes part of the probate estate. Also, the Oklahoma statute does not provide for contingent beneficiaries. If a named beneficiary predeceases the owner, then that beneficiary’s inheritance lapses. In other words, a provision that said “to my son, but if my son does not survive me then to his children” would likely be ineffective. More about Transfer on Death Deeds Here.
Trusts for Oil and Gas Interests
A trust is a manner of holding title to property so that it avoids probate. A trust document is created. It names trustees who will hold title to the property. It also names successor trustees to take over in the event of the death or disability of the initial trustees. The trust also names beneficiaries who will receive the property or the benefits therefrom. Until the owner dies, he or she maintains complete control of the assets. Therefore, the trustee can lease, sell and make pooling order elections. Apart from avoiding probate, a trust can have many contingencies built in. Examples include provisions to pass the property to others (such as grandchildren) in the event that a beneficiary predeceases the owner. It can also protect the property from claims of a beneficiary’s creditors, bankruptcy or divorcing spouse. Child support and tax claims are exceptions to this protection. A simple probate avoiding trust is less expensive than a probate.
While the owner is living there is no requirement for a separate tax return.
A trust can be very simple by requiring the trustee to issue mineral deeds to the beneficiaries, or it can be created to manage the assets. There is a rule that requires the minerals to vest free of the trust within a certain time so it cannot last forever.
Anybody with a family member with disability, on SSI or Medicaid should consider a Special Needs Trust. This is because these individuals tend to be vulnerable or are in a needs-based program. A Special Needs Trust can protect the individual and the inheritance. It can also insure that they remain eligible for certain programs such as SSI disability payments, housing programs and Medicaid. More about Trusts Here.
Limited Liability Company for Mineral Interests:
A Limited Liability Company (LLC) can own minerals. A LLC requires filing with the Secretary of State where the property is located. If minerals are owned in different states then it needs to be registered in each state where minerals are located. States require annual reports or fees to keep the LLC current. Also, a registered office must be maintained with a street address (no P.O. Box) in each state. Units (similar to stocks) are issued to the owners. A manager retains the ability to operate the business. LLCs can have different classes of owners such as voting and non-voting. For high-net-worth individuals there may be some tax advantages by using annual gifting to shift ownership to the next generation. However, there still must be a mechanism at the death of the owner to pass the property to the intended heirs. Therefore, LLCs are commonly used in conjunction with a trust. Generally, this is not a useful tool unless a high-net-worth is at play. Also, individuals unaccustomed with operating a formal organization may prefer a trust which is simpler and does not have tax and reporting requirements.
Last Will and Testament and Oil and Gas
A Last Will and Testament can pass property to certain individuals. With the exception of a spouse, a testator is free to disinherit anyone. A Will must meet all the statutory requirements. There is no such thing as an “Oral Will”. It does not matter how clear the intentions were, even if written unless the document qualifies as a Will. A Will can make a specific gift of the minerals to a certain person or persons. Otherwise, the Will can give the remainder in to beneficiaries in some formula. Remember, a Last Will and Testament requires probate. More about Last Will and Testament Here.
Power of Attorney and Minerals Interests:
A Power of Attorney (POA) is also an important document. It authorizes another trusted individual, called an agent, to take actions on behalf of the principal (the person who creates the POA). The authority granted by a POA ends when the principal dies. Therefore, it is not useful for distributing property after death. However, it is very useful if the owner becomes mentally or physically unable to manage his or her affairs. Without one in place there may be nobody with authority to sign a lease or make a pooling order election if the owner becomes incapacitated. In which case, a cumbersome court administer guardianship may become necessary.
Beware of Online Forms:
Today one can find an example of any type of legal document online for free or for a modest fee. Often, I am asked to review forms and discover one or more problems, 1) the wrong form was chosen, 2) the form was incorrectly completed, 3) the form was not witnessed properly, and/or 4) the form was not properly filed. Often it is impossible to correct a mistake if the individual becomes incapacitated or dies.
There is no best way to pass along minerals or other property to others. Every situation requires some thought and planning to meet the needs of the owner, needs and abilities of the beneficiaries, and budget. This article was merely meant to scratch the surface of the topic of estate planning. This is not nor should it be relied upon as legal or tax advice. A competent attorney who practices in estate planning and probate should be consulted before making any decisions or completing any estate planning documents.