This is an essential document in which you can let your family, friends and physician know your wishes about receiving life-sustaining medical treatment if you are terminally ill. It is frequently incorporated into a power of attorney for health care. Note that everyone, regardless of wealth or age, should take the time to think through these issues and create an advance health care directive.

One of the easiest ways to pass on an asset is to designate a beneficiary. You can do this for your retirement account, life insurance policy or annuity simply by providing the name, Social Security number and birth date of the beneficiary; you don't have to bother with probate, an attorney or even a notary. No matter what you've said in your will or trust, these assets will go to whomever is listed as the beneficiary. As a result, it is extremely important that you keep your designations up to date as your life circumstances change. Also realize that if you've neglected to designate a beneficiary for an account, the assets revert to your estate—which means that they will be subjected to probate.

Note that if you designate someone other than your spouse or a charity as your beneficiary, that amount will be included in the value of your estate and can increase your estate-tax liability.

Interestingly, many people don't remember whom they've designated on their beneficiary forms. As a result, it's pretty common for the assets to wind up in the hands of ex-spouses or old girlfriends or boyfriends. Be sure to keep yours up to date!

If you own property in the United States, you're subject to federal estate tax laws. A common misperception is that if you can avoid probate, you also avoid estate taxes. This simply isn't so. With proper estate planning you may be able to avoid probate, but you may still have to pay estate taxes.

Less than 1 percent of the population has an estate large enough to be affected by estate taxes. In 2009 you won't owe estate taxes unless your estate is worth more than $3.5 million (or $7 million for a married couple). Note that your taxable estate includes all of the following:

• Your entire investment portfolio
• Your cash
• The current market value of any property you own
• The total value of all of your IRAs, 401(k)s and pensions
• The value of any life insurance policy you own as long as you have an "incident of ownership," allowing you the right to name a beneficiary or borrow against it

Although the estate tax is scheduled to disappear in 2010, it is almost certain that Congress will pass new legislation extending the tax at a comparable level.

An important part of planning your estate is selecting a trusted person to act as the executor (or personal representative, as it's called in several states) for your estate. The executor has several critical tasks, including overseeing the distribution of your assets, hiring an attorney to handle the legal details, paying the estate taxes, paying any outstanding bills and closing up your house. This role involves significant responsibilities, so think carefully about the choosing the best person.

The gift tax is designed to make sure that you can't avoid estate taxes by simply giving your estate away during your lifetime. There are exceptions, though. In 2009, you can give away up to $1 million during your lifetime without incurring a gift tax. In addition, you can gift up to $13,000 per year to as many individuals as you like (or a married couple splitting gifts can give $26,000 per recipient per year) tax free. Also realize that this only applies to taxable gifts: gifts to your spouse, gifts to a charity, or gifts of tuition or for medical expenses made directly to the institutions are not subject to the gift tax.

Most states (as well as Washington, D.C.) use the common law system derived from English law. In general, in these states property is owned by the person listed on the title or other ownership document.

Ten states (Alaska, Arizona, California, Idaho, Louisiana, Nevada, New Mexico, Texas, Washington and Wisconsin) use a community property system instead, in which all property acquired or earned during a marriage is owned equally by both spouses. Any property that was owned by one spouse prior to marriage (as well as an inheritance) remains separate property unless it is commingled with other marital assets. In community property states, each spouse is free to leave his or her half of the community property to whomever he or she chooses. There is no requirement to leave it to a surviving spouse.

If you are in a committed non-marital relationship, you must have a will or trust if you want to provide for your partner. Most states don't recognize either common-law or same-sex marriages. This means that if you die without a will or trust, your estate will be distributed according to your state's laws, and your partner will get nothing. Similarly, if you want your partner involved in your medical care or financial life if you become incapacitated, you should appoint him or her as your attorney-in-fact. See below for more on powers of attorney.

A pay-on-death bank account does exactly what it says; upon your death, all of the assets will go to the person you designate—without going through probate. Similarly, the assets in a transfer-on-death brokerage account will automatically go to the person you designate.

Because a will doesn't go into effect until you die, it makes no provisions if you become ill or incapacitated. That's where a durable power of attorney for finances and a durable power of attorney for health care come in. These documents give the person you have appointed the right to conduct broad financial and legal affairs on your behalf. A "springing" power of attorney, on the other hand, becomes effective only if and when you become incapacitated.

Probate is the process of wrapping up a person's financial affairs after he or she dies. It is generally required when assets are registered only in the name of the person who has died, and when the only estate planning document is a will (or when there are no documents at all). During probate, your will is submitted to the court for approval, your assets are collected and distributed, and all bills and taxes are paid—all under the supervision of the court.

Although probate can help guarantee that your assets will wind up in the right hands, the process can be both time-consuming and costly. In addition, probate documents are public records, which can compromise privacy. Whenever possible, it is generally desirable to minimize (or even better, avoid) this process. In fact, a good portion of estate planning is about how best to avoid probate.

Property titling is another way to pass on your assets (real estate or other property). Like a beneficiary designation, property titling will prevail over any provisions in your will. While every state allows sole ownership, states differ as to the types of joint or concurrent ownership that are allowed. The following table lists the advantages and disadvantages of the most common forms of property ownership, and indicates which will avoid probate.

A pour-over will is a particular type of will used in conjunction with a trust. This kind of will "pours" any property the deceased still owned at the time of death (that was intentionally or unintentionally left out of the trust) into the trust that the person set up during his or her life.

When you give someone appreciated property during your life, they generally assume your cost basis for income tax purposes. For example, if you give your daughter 100 shares of stock that you purchased for $10/share and that are now worth $20/share, the value of the gift is $2,000. But for her tax purposes, she takes on your cost basis of $1,000. This means, for example, that if she later sells the stock for $3,000, she will owe taxes on the $2,000 difference between her cost basis of $1,000 and the sale value of $3,000.

On the other hand, when you give away appreciated property at your death, the recipient will inherit your cost basis along with the property. In the example above, your daughter would only pay taxes on $1,000 or the difference between $2,000 and the sale value. This is known as a stepped-up basis.

This effect is compounded for spouses in community property states. As an example, let's say that you and your husband purchased a home for $100,000. At his death, forty years later, the home is valued at $1 million. Had you sold the home prior to his death, you would have had to pay taxes on the $900,000 gain (minus the homeowner's exemption if it is your primary residence). Upon his death, however, the basis is "stepped up" to its current value of $1 million, avoiding all capital gains. On the other hand, if you live in a non-community-property state, the stepped-up basis is only applied to the deceased's interest. In this way, married couples in community property states have a distinct advantage over those in common law states.

Depending on your state, you may be liable for state death taxes in addition to federal estate taxes. State death taxes are inheritance taxes, meaning that they are imposed on the people (beneficiaries) who receive property from the deceased. Inheritance tax rates depend not only on the amount being transferred, but also on the relationship between the deceased and the beneficiary. In most states, the closer your relationship, the lower the rate. A spouse will pay the least; a minor child will pay more; an adult child or parent will pay still more; a brother, sister or cousin will pay more yet; and all others (including non-relatives) will pay the most.

Estate taxes, on the other hand, are imposed on the estate; the executor pays the tax out of the estate's funds. The heirs are liable only if the executor fails to pay the tax.

Depending on your circumstances, your attorney may recommend that you set up a trust or combination of trusts to distribute your assets outside of probate.

Speaking in broad terms, trusts can be set up either under the provisions of your will (called a testamentary trust) or as a separate legal entity while you are alive (known as a living trust). Since a testamentary trust isn't created until after you've died, it's irrevocable, meaning that it can't be changed. A living trust, on the other hand, becomes effective the moment you sign the document and fund the trust. As a result, a living trust can be either irrevocable or revocable, which means that you can change or cancel it while you are alive and thereby retain complete control of your assets. Note that the moment you die, a revocable trust usually becomes irrevocable.

A common planning tool to avoid estate taxation of life insurance proceeds is the irrevocable life insurance trust (ILIT). With an ILIT, a trust irrevocably owns the policy, and the proceeds are kept outside of the individual's taxable estate (as long as the trust purchases the policy or the original owner lives at least three years after transferring an existing policy into the trust).

Although a trust costs more and takes more time to set up than a will, it can have several advantages. Not only does a trust avoid probate, but it also provides for your potential incapacity. In addition, depending on how it is structured, it can reduce your estate tax bill. You should always consult with a professional estate planner on all trust matters.

This deduction allows you to transfer unlimited assets to qualified charitable organizations free of estate or gift tax.

According to estate tax law, all spouses who are U.S. citizens can transfer unlimited assets to their spouses, both during their life and at death, free of estate tax. Note that if your spouse is not a U.S. citizen, you can set up what is known as a qualified domestic trust (QDOT), which postpones payment of estate taxes until after your non-citizen spouse dies.

Anyone who has a child–or who doesn't want their state to decide how their assets will be distributed, needs a will. The biggest advantage of wills is that they are usually inexpensive to prepare and can be a straightforward way to state your wishes. Also, in most states a will is the only way to appoint a legal guardian for your minor children. The biggest disadvantage of having only a will is that your estate will likely have to go through probate.

There are many ways to prepare a will, but to make sure that your will is legal and binding, you should have it prepared by an attorney who specializes in trusts and estates.