When you meet with a professional estate planning attorney very careful attention is given to the wording of your Will, Trust and Powers of Attorney, and appropriately so! However, for many “boomers” the estate provisions for a majority of their assets are now controlled by beneficiary designations. Remember such designations in a 401k, IRA, Annuity, Life Insurance Policy are contractual and usually prevail over the instructions in a Will or Trust.
Here are some common beneficiary mistakes you should look out for:
MISTAKE 1: THE INSURED’S ESTATE HAS BEEN NAMED BENEFICIARY
Very few account applications explicitly name “estate of the insured” as the beneficiary of the death benefit. However, most contracts default to the insured’s estate when no specific beneficiary is listed. If the estate is the beneficiary, the access of the heirs to any money associated with the financial product is delayed because the money must go through probate. Even worst, if the funds involved are “qualified” (retirement type accounts) most likely the entire account balance will be taxed in one year before being dispersed. This is only a sampling of the problems this mistake causes.
MISTAKE 2: THE POLICY HAS NO NAMED CONTINGENT BENEFICIARIES
A substantial percentage of account applications have had no named contingent beneficiary or beneficiaries. Why is that a problem? If no contingent beneficiary is named, and if the primary beneficiary has predeceased the insured, in most cases the insured’s estate will be the default beneficiary. That leads to all the drawbacks described in mistake one. To be blunt – this mistake is often made when an insurance agent or broker simply don’t take the time to be thorough in the account opening paperwork.
MISTAKE 3: NAMING MINORS OR OTHER IMPAIRED PERSONS AS BENEFICIARIES
In most such cases a court-supervised guardianship or conservatorship will need to be created for the benefit of the minor. The process of creating a guardianship or conservatorship usually requires a legally responsible adult to file a petition with the court to seek permission to act. If family members are not in agreement with regard to who should act, the court proceeding could be contested. Once selected by the judge, the guardian or conservator will have numerous duties and responsibilities with regard to taking care of all of the minor’s needs. The fiduciary will likely have to seek the court’s prior approval for many actions, increasing costs and creating delays. In the case of impaired persons, directly receiving such assets could unnecessarily disqualify them from assistance they are already receiving.
MISTAKE 4: LEAVING THE WRONG ASSETS TO THE WRONG PEOPLE OR CHARITIES
You will likely have both “taxed favored” and “tax cursed” assets left at your death. Too often Charitable interests are provided for in a Will or Trust while children are named on taxable retirement accounts. This causes the IRS to become one of your primary beneficiaries – unnecessarily!
MISTAKE 5: THE BENEFICIARY LANGUAGE IS WRONG OR UNCLEAR
Let’s say that Ann Romano names her adult daughters, Barbara and Julie, each 50 percent beneficiaries of Ann’s life insurance policy. Where will the policy proceeds go if Barbara passes before Ann, then Ann dies before making any adjustment to the beneficiary designation? Most contracts automatically send the death proceeds to the sole surviving beneficiary— in this case it would be Julie. But is that what Ann would have intended? What if Barbara left two children—Ann’s grandchildren—as survivors? Will Barbara’s children (Ann’s beloved grandchildren) be cut out?
MISTAKE 6: BENEFICIARY DESIGNATIONS HAVE NOT BEEN REVIEWED FOR YEARS
Imagine that Paul names his wife Nancy as the primary beneficiary of his 401k account. Move forward ten years and find out that Paul and Nancy have divorced, with Paul now remarried to Kathryn. Would it be a problem if Nancy is still named the beneficiary of Paul’s 401k at Paul’s death? Yes!
Now imagine that Paul was very thorough and did file a beneficiary change form to designate Kathryn his primary beneficiary. His children were already the contingent beneficiaries so he left that portion blank on the change form. Problem? Yes, the new beneficiary form completely replaces his original. His kids are no longer the contingent.
Let’s not pick on Paul. He is very thorough on the beneficiary change form. But prior to his death the 401k administrator is changed. In the electronic transfer of account information his change form is lost and only his original application is on record. Rare? Not at all!
MISTAKE 7: NAMING A REVOCALE LIVING TRUST AS BENEFICARY OF AN IRA
This is a variation of mistake number four. Tax qualified accounts (401k, IRA, Pension) have many requirements that are determined by the age of the beneficiary. A “trust” does not have an “age!” Typically if a trust is named as a beneficiary of a retirement account the full account balance will be taxed immediately(at trust rates!). If your attorney disagrees with this and tells you not to worry – get that in writing! The attorney may believe that the proceeds will “flow through the trust” to the ultimate trust beneficiaries and be able to be “stretched” by them. Such a trust must qualify as a “look through trust” and most do not! Sending retirement money to a trust requires very specific and quite sophisticated IRA trust language. There are such trusts available if you will be leaving significant qualified funds to people and want to leave some restrictions on those distributions.