Dos and Don’ts of Beneficiary Designations
Posted October 27, 2011
Who are the named beneficiaries for your retirement accounts? How about your life insurance? When was the last time you checked to make sure that those designations still reflect your wishes and fit into your overall estate plan?
Following are some dos and don’ts that illustrate how important beneficiaries can be in your overall estate plan.
DON’T: Name Your Estate as Beneficiary
If you don’t name specific beneficiaries for your life insurance and retirement accounts, or if you name your estate as beneficiary, chances are those assets will end up in probate court. There are many reasons you don’t want this to happen. Like most courts, probate court is slow, so your heirs will have to wait to receive the asset. Plus, there will be legal fees to pay. Also, if these assets go to your estate, they can be claimed by your creditors or your heirs’ creditors, leaving less for those who you really want to have it. Taxes may even wipe out the benefits of some tax-favored retirement accounts. Only naming individuals or trusts as your beneficiaries avoids most of these complications.
DON’T: Name Minors as Beneficiaries
You want your children to be taken care of when you are gone. But in some states, minors can only inherit limited amounts after they turn either 18 or 21. If you designate a minor, a court will appoint a guardian to manage the funds until the child reaches the right age. If you expect to have heirs who are minors (small grandchildren, for example), set up trusts to handle their money and designate when they get access to all or part of the assets in the trust. Then name the trust your beneficiary. You keep control now and when you’re gone, and the assets are protected from creditors while the beneficiaries are minors.
DON’T: Assume Your Will Overrides Your Beneficiary Designations
Except in the case of your spouse, your beneficiary designations on retirement accounts and insurance always override your will. If you want someone besides your spouse to inherit retirement account or insurance assets, he or she has to sign a written spousal waiver under the ERISA laws. Without the waiver, your non-spouse beneficiary designation will be deemed invalid at your death.
DON’T: Keep Your Plans Secret
If you’re making someone your beneficiary, make sure they know about it. They should also know where to find important original documents and contact information for your advisors. Likewise, make sure advisors know who will be contacting them and that they have copies of important documents.
DO: Double-Check Spelling of Names
Simple mistakes can cause big problems later. Double-check Social Security numbers as well.
DO: Specify Percentages, Not Dollar Amounts
Say you have a retirement account worth $100,000, and you designate $80,000 of that amount for your nephew, with the remainder to his brothers and sisters. What if the account value drops and is only worth $80,000 at your death? The nephew would inherit all of the money and his siblings would get nothing. A better way to make sure no one is left out is to use percentages. For example, you might specify 50 percent for each of two siblings, or 33.4 percent for one and 33.3 percent each for two others. If you wish to favor one individual over another, make it a percentage, such as 65 percent to your sister, 25 percent for your brother and 10 percent for your uncle Joe.
DO: Name Secondary Beneficiaries
If your primary beneficiary has died or is otherwise ineligible, and you haven’t named a new one, the assets would go to your secondary beneficiaries. Without a secondary beneficiary, the assets go to your estate.
DO: Consider Naming a Revocable Trust
Consider a revocable trust for any account except an IRA. Typically, you will want to name a spouse or child as the beneficiary of an IRA, so that person can take advantage of the “stretch” rules to defer taxes over their lifetime. Even if they are beneficiaries of the revocable trust, they may lose those tax benefits if the trust rather than the person is named.
DO: Gather Documents in One Safe Place
A home safe or fireproof box is good. A safe deposit box at a bank is even better. But if this is your plan, make sure that someone besides yourself has a key and is authorized to remove documents.
DO: Review Your Beneficiary Designations
An annual review can help avoid many of the mistakes mentioned above and ensure that your beneficiary designations reflect your wishes. If your insurance and investment companies don’t contact you every year, you should contact them to double-check your beneficiaries of record.
DO: Update Your Beneficiary Designations
If you don’t update your beneficiary designations, you may end up with some unintended consequences. For example, you get divorced but don’t update your beneficiary. Your ex-spouse could end up with your life insurance proceeds, even if he or she is remarried. Situations such as marriage, divorce, death of a spouse, death of a child and other major life changes are trigger events that may make it necessary to update beneficiaries.