The Dangers of a Missing Beneficiary Designation

Transcript of Podcast Episode 100

Hello, this is Bill Rainaldi with another edition of Security Mutual’s “SML Planning Minute.” In today’s episode, what are the consequences of having an incomplete or inaccurate beneficiary form?

Many people are under the mistaken impression that when they die, their will is going to dictate where all their assets go. Not necessarily. Certain types of assets, such as a pension plan or life insurance, are normally allocated based upon the beneficiary designation when you set up the plan. As we’ve discussed in previous episodes, the will is unlikely to have any impact on those types of assets.

Let’s say you set up a 401(k) plan. So, what would happen if you failed to designate a beneficiary when you set up the plan? If you’re married, federal law says the spouse is automatically the beneficiary. But if the account owner is not married, the 401(k) plan will point the money to your estate, and the assets thus become subject to probate.

This means that following death, once all documentation has been sent to the Probate Registry, the probate officer will process the claim and send a letter of determination to all financial institutions, ordering the decedent’s assets go to whom the officer determines is the rightful heir. If you don’t make the designation yourself, someone else will do it for you. And it might not be what you want. Thus, when setting up a 401(k), it makes sense to complete the beneficiary form with the spouse’s name for the plan’s record.

The probate process can be completed in as little as 3-6 weeks. But it can also take years in a contested situation. Unlike your home and other investments, account values in a 401(k) or other employer-sponsored retirement plan with a beneficiary designation are treated similarly to what are known as “transfer-upon-death” assets. Under 401(k) beneficiary designation rules, that ownership of the plan assets is transferred to the designated beneficiaries upon the death of the individual account owner, rather than being divided as stated in your will or determined by a probate court if you don’t have a will.

The good news is that because of this, 401(k) plan assets are most often allowed to pass through to the designated beneficiary without probate, allowing the beneficiaries to avoid the time and expense of that process. The bad news is that if the deceased participant’s intent for those assets has changed, but the beneficiaries have not been updated accordingly, there is little that can be done to counteract the written designation. Additionally, if, for example, the designated beneficiary is now deceased, then those assets will then be subject to the time and expense of the probate process.

Imagine this situation: a happily married employee in your company, a proud parent of several children with his second wife, dies unexpectedly. His retirement plan beneficiary information reveals that the primary, 100 percent beneficiary of his 401(k) is actually his first wife. This is due primarily to his ignoring the importance of changing the information following a life event. Under ERISA, the federal statute governing pension plans, the first wife would be the rightful owner of the retirement benefits, and the second wife would have to take some sort of court action to potentially gain some of that money.

Another issue may occur if someone names a minor child as a beneficiary. Most plans will not transfer money directly to a minor and will thus necessitate the court to appoint a trustee or guardian to receive the money—potentially a costly and time-consuming process. To avoid this issue, the account owner might wish to establish a trust or name a custodian.

These situations occur more often than you might think. But they can be easily avoided by maintaining an up-to-date beneficiary form. When you enroll in a company 401(k) retirement plan, you receive a beneficiary form that asks for both the primary and the contingent beneficiary/beneficiaries. If you die with that 401(k) still undesignated, it will end up in probate court—not a good place to leave grieving loved ones.

Participants must name a primary beneficiary and at least one contingent beneficiary (to whom assets will pass if the primary beneficiary has already passed away). Once the assets have become the property of the primary beneficiary, the backup beneficiary loses all claim.

Who gets to inherit an asset like a 401(k) is often a momentous decision—and a critical detail often handled once and then forgotten. All of us need to realize the importance of those names on the dotted line and remember to inspect them at least once a year.

Contact your local Security Mutual life insurance advisor today. As part of the planning process, they will coordinate with your other advisors as needed to assist in helping you to achieve your financial goals and objectives.

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This podcast is brought to you by Security Mutual Life Insurance Company of New York, The Company That Cares^®. This podcast is designed to provide general information regarding the subject matter covered and is believed to be current as of the date of publication. It is not intended to serve as legal, tax or other financial advice related to individual situations, because each person’s legal, tax and financial situation is different. Specific advice needs to be tailored to your particular situation. Security Mutual and its agents may not give legal or tax advice. Therefore, please consult with your own attorney, tax professional and/or other advisors regarding your specific situation.