The NY Post published an article a number of years ago that was a stark reminder of the importance of checking your beneficiary designations. “A Brooklyn man says he was left destitute when his late wife’s pension, worth nearly $1 million, was awarded to his sister-in-law on a technicality…The Friedmans were happily married for nearly 20 years when Anne, a former city school principal, died suddenly of a massive heart attack…“The annual statement from the retirement system indicated that Anne had not named a beneficiary. He would be the beneficiary by default. However, after she died, the administrator found an old beneficiary form which had been submitted four years before the couple met, indicating that Anne’s mother, uncle and sister (his sister-in-law) were the beneficiaries! Her mother and uncle had already died, so his sister-in-law received the entire account balance—OUCH!!
From my experience, more mistakes are made with company retirement plans (e.g., 401K, 403b, etc.) than with individual IRAs, but the same warning applies—DON’T ASSUME!!
So how should you name your beneficiaries? Most people name their spouse as primary and their children as equal contingent beneficiaries. This accomplishes the goal in most cases, but be sure you haven’t disinherited your grandchildren. If at least one of your children have a child (your grandchild), I recommend that you add the phrase “per stirpes” to your beneficiary designation. Essentially, this means that if one of your children predeceases you (or dies at the same time), that child’s share would go to their “issue” (children or grandchildren). Plus, unless you name them specifically, your child’s spouse (son or daughter-in-law) or step-children are not automatically included as a beneficiary.
No problem, you say, I have them named in my Will or Living Trust. That takes care of this problem, right? WRONG! Any contract (IRA, 401K, Life Insurance policy, etc.) that has a named beneficiary automatically bypasses (ignores) the Will or Trust and goes directly to the named beneficiary.
If you want your Will to direct the proceeds, you will need to name your estate as the beneficiary. Problem solved, right? Wrong again! There are, in the vast majority of cases, no income tax issues with naming your estate as beneficiary of your life insurance policy. However, there are HUGE tax consequences if you name your estate as the beneficiary of your IRA or other retirement plan. Since your estate has no life expectancy, the IRS requires the IRA to be distributed and taxed within 5 years. If an individual(s) is named as beneficiary, he/she has the option of taking distributions over his/her lifetime. Please note that the contingent beneficiaries have to be named specifically as beneficiary to qualify for the “stretch” provision and must begin distributions no later than the year following the year of death. If distributions do not begin by the end of the year following death, the five year rule applies.
There are many other ways to pass assets to your heirs that I haven’t reviewed in this blog. Joint Ownership with Right of Survivorship, Transfer on Death, Payable on Death, or a Living Trust. There are advantages and disadvantages to each of these methods, but one similarity, the Will has NO AUTHORITY over who gets those assets.
Don’t trust your memory, verify that the beneficiary designation will accomplish your wishes!
