Why Review Beneficiary Designations Annually
Retirement planning is a long process. When you first start trying to secure your retirement, your life may be entirely different than it is today. One topic that we’re passionate about is the need to review beneficiary designations annually.
Backtracking a little bit, we decided to discuss this topic in-depth with you after reading an article on MarketWatch.
The story begins with a man who has a market account worth around $80,000. Suddenly, this man passes away, and the beneficiary of his account is his prior wife. However, his prior wife was deceased.
What Happens if the Beneficiary of an Account is Deceased?
In the scenario above, the man’s prior wife is deceased already. When he passes on, the account then goes to his estate. His account must then go through probate and into the estate, too.
However, in this man’s case, he had a daughter who was meant to inherit the account. Her stepmother even sent the daughter a text message stating that her father wanted her to have the money in the account.
Fast forward a bit, the stepmother becomes the executor of the estate after the account goes through probate and says, “She thinks the girl’s father changed his mind and that the money is meant to go to her, the stepmother.”
The daughter feels like the stepmother betrayed her father.
Unfortunately, a text message isn’t enough legal grounds for the daughter to fight back against her stepmom.
This is an example of someone who didn’t review beneficiary designations annually. Instead of the father’s wishes being upheld, someone else decided what they thought was best for the funds in the account.
Key Takeaways from this Example
Beneficiary designations are very important. We don’t know what the father wanted to happen to the funds in his account, nor do we know what may have been written in his estate plan. What we do know is that the daughter does have a message from her stepmother stating that the funds were meant for her, but something changed along the way.
We can speculate that perhaps the stepmom found estate documents mentioning that she received the estate, or maybe she fell on hard times financially and wanted to keep the funds.
In all cases, this could have been avoided by:
- Reviewing beneficiaries annually
- Updating beneficiaries when major life changes occur
Many accounts that you have often allow you to add beneficiaries, even if you don’t know that you can. For example, you can add beneficiaries to IRA, 401(k) and life insurance. You can even add beneficiaries to checking accounts.
We recommend that you:
- Gather all of the accounts that have money in them
- Inquire with all of these accounts if you can add a beneficiary
Probate and state law can vary from state to state dramatically. The daughter in the case above wanted to know if she could use the text message as evidence and file a lawsuit.
Contesting Probate 101
We don’t know the logistics of the case the daughter has or if a text message will mean anything in her scenario. Likely, the text will not hold up in court. What we are certain of is that contesting probate is:
- Lengthy and can be very difficult to do
Avoiding any probate contestation is always in your best interest. The father in the example above may have been able to add a contingent beneficiary to his account. What this does is say, “If the first person is no longer living, the next beneficiary should be this person.”
Contingent designations would have helped this family avoid probate court and animosity between the daughter and stepmom.
7 Steps to Manage Your Beneficiaries Throughout Your Life
1. Review Your Beneficiaries Annually
For our clients, we do a beneficiary review each year. We show them who is listed on their accounts as a beneficiary, including:
- Beneficiary name
- Percentage to each beneficiary
If you’re not a client of ours, you can easily do this review on your own. Reach out to all of your account holders and ask them who you have listed on your account as a beneficiary. It is possible that you sent in a form to change a beneficiary and it was never filed.
It’s so important to verify your beneficiaries annually, even if you have a form sitting in front of you naming the beneficiary, because you just want that peace of mind that everything has been filed properly.
2. Consider Tax Implications
When you leave accounts behind, they may have certain tax implications that you need to worry about. For example, an IRA is taxed one way and a Roth IRA is taxed another way. It’s important to know the implication of each account to make it easier to understand who best to leave the account to when you pass.
If you leave an account to a high-income earner, they may take the money out of the account and pay the tax burden. Then, they may decide to give the money to your grandkids.
However, there are ways that you can set up these accounts to avoid this high tax burden and leave the funds to your grandkids directly. You can do what is known as “disclaiming,” which would allow your son or daughter to divide the money how they see fit with fewer potential taxes.
3. Understand the Impact on Your Overall Estate Plan
Let’s assume that you’re leaving $1 million behind with most of it in an IRA or 401(k) and have beneficiaries attached to it. The remaining part will go through the estate plan. In this case, you may be disinheriting a child if:
- In one area, you split the funds 50/50
- Another area you split the funds 80/20
When going through a beneficiary review, it’s important to look at the dollar amounts that are given to each child. You may decide to leave $500,000 to one child and $1 million to another child.
In this scenario, one child would need to receive the house and an additional $250,000 and the other $750,000 to split the inheritance evenly. Of course, you can divide your estate up however you see fit, even if that means one child receives far less than the other.
4. Consider Beneficiary Needs
Beneficiaries may have different needs. If one beneficiary is a high-income earner and the other is not, the high-income earner may not need as much money. You may even want to allow the high-income earner to disclaim the inheritance to give to their kids without the high tax burden.
If you have a special needs child, you also need to consider how the inheritance may impact their benefits. In this case, you may want to consider a trust account so that the child still receives their benefits and the help they need.
Another common scenario is that:
- Your child is not good with money
- The child may spend all of their money at once
In this case, a trust and a discussion with an attorney can empower you to leave money behind and dictate how it is used with greater control.
5. Be Specific
For example, your intent is to leave 25% of the money to your grandchildren. It’s better to name the grandkids as primary beneficiaries. The reason for this is that people may forget how you want the money divided, and being very specific in your documentation can help clear any potential confusion.
6. Consult with an Attorney
An attorney is a second set of eyes who will look through all of your beneficiaries and estate plans with you. We know quite a few attorneys who are highly skilled and still hire others to review their documents with them in case they overlook something.
If you need a trust, the attorney can also assist with that.
Legally drafted documents will hold up far better in court than you writing a will on a piece of paper.
7. Consider Contingencies
In our story of the daughter and stepmother above, a contingent would have been immensely helpful. The reason why adding a contingent is so important is that if, for some reason, you get sick and do not check your beneficiaries, you already have a contingency in place.
The father could have listed the mom as the primary and the daughter as a contingent, which would have helped those he left behind avoid arguments and disagreements along the way.
What if the father set the contingent so long ago that both the primary and contingent are no longer living at the time of his death?
He could have left the funds to his grandkids if the institution allowed him to mention “per stirpes,” which means if the primary is not alive, the funds will go down the line to the person’s descendants equally.
Per stirpes is a powerful designation because you don’t even need to know the names of the person(s) to whom you’re leaving the funds.
Annual beneficiary reviews and putting contingencies in place are powerful tools that we firmly believe are worth using. You can help your family avoid grief and any potential arguments if you spend the time going through your accounts and putting all these measures in place.
Are you curious about retirement and want to gain more insight into the process? Click here to browse through books we’ve authored on the topic.