Saturday, November 23, 2024
In June of 2004, I got an unexpected call, requesting a meeting, from a woman who had, with her husband, attended a seminar I had given some months before. After that seminar, they decided not to pursue a financial planning engagement with me, which was perfectly fine. Quite frankly, by the time she called, I had forgotten about this couple. Regardless, her call was extremely uncommon. No matter how good we may think we are, financial advisors seldom get a call, from a non-client, asking for a meeting, to discuss a financial planning problem. It happens, but not very often. And her situation—the problem about which she and her husband wanted my advice—was tragic, disorienting, and unfortunately, not at all uncommon.
This couple, let’s call them Mary and John, were in their late fifties and had been married for over thirty years. They had a couple of kids who were grown, gone, on their own, and doing well. Both were blue-collar, hard-working and they had some modest savings and a home they owned free and clear. Mary began our discussion by sheepishly stating that she had been married once before. When she was very young. She told me that she and her ex had worked together at a plant in town where she still worked.
Her ex had also worked there until he died, prematurely and unexpectedly, about three months earlier.
Her ex had also remarried and at the time of his death, had a wife and three teenage children. He had also moved up into plant management during the course of his career and apparently was earning an excellent living when he died.
When Mary and her ex had gotten married almost forty years earlier, they had filled out all the forms to name each other beneficiaries of each other’s group life insurance and each other’s 401(k) plan.
The tragedy was that when they divorced, Mary’s ex had never bothered to change his beneficiaries, and Mary, this honest, hard-working, salt-of-the-earth woman, then proceeded to hand me two checks, the proceeds of his life insurance, and 401(k), totaling almost one-half of one million dollars.
At this point in our meeting, John, clearly angry and humiliated, stood up, after having said not one word, and walked out of my office.
That’s not all. What was worse? Mary had never bothered to change her beneficiaries either. Her company-sponsored life insurance and her retirement plan still named her ex-husband as her beneficiary.
During my financial planning career, there has been a recurring theme: almost everyone has at least one incorrect beneficiary designation. As we have seen, this seemingly minor oversight can have significant consequences on the distribution of assets upon an individual's death. In this article, we'll discuss the importance of proper beneficiary designations and develop a plan for you to get them right.
Almost everyone has various accounts where they can name a beneficiary, including life insurance policies, retirement accounts (such as 401(k) plans, IRAs, and Roth IRAs), annuities, and payable-on-death (POD) bank accounts.
When a person dies, assets with named beneficiaries pass by "operation of law." This is an important concept in estate planning. It means these assets are transferred directly to the designated beneficiaries without going through probate. This process is essential as it allows for a faster and more efficient transfer of assets, bypassing potential delays and expenses associated with probate. Ensuring that beneficiary designations are accurate and up-to-date is crucial to prevent unintended consequences and disputes among heirs.
I had a situation in my own family many years ago. In the early 70s my aunt, my father’s sister, died at a young age, after a brief illness. My father was named as the executor of her estate. In her will, which was a holographic will—one she had written out by hand in the months preceding her death—she stated that the proceeds of her life insurance policy should go to my father “to take care of Mom.” My grandmother, who at the time was elderly and infirm, was living with us.
There was no mention of any details regarding this life insurance policy, the insurance carrier, the policy number, not even the physical location of the policy.
My father investigated and eventually found the policy. It had been issued about a decade earlier and did not name my father as the beneficiary. Instead, my aunt had named a neighbor, again, with the instruction, written right on the policy application, “to take care of Mom.”
Clearly, my aunt’s intentions were for the policy proceeds to be used to take care of my grandmother. That, of course, was not what happened. The death benefit passed, by operation of law, to the long-ago neighbor. By the time my father even knew his sister had a life insurance policy, a check had been cut and cashed by a family friend who was no longer involved in any of our lives. My aunt’s wishes--and her will—were irrelevant.
But even if the neighbor still lived next door to my grandmother, he would have been under no obligation to use those proceeds to take care of her. The not insubstantial proceeds were his, his alone, to do with as he pleased.
I wish I could say these were the only two tragic stories. They’re not. I’ll share one more from my professional experience a little later in this article.
But you must make sure this problem, which happens every single day, does not happen to you and your family. You must pledge today, not to rely on your memory or what you think you did but instead verify every single account for which you can name a beneficiary. This will take some of your time. It is time well spent.
1. Types of Accounts with Beneficiary Designations: Most people have various accounts where they can name a beneficiary, including life insurance policies, retirement accounts (such as 401(k) plans, IRAs, and Roth IRAs), annuities, and payable-on-death (POD) bank accounts. On the other hand, assets such as real estate, personal property, and non-POD bank accounts typically do not allow for direct beneficiary designations and are transferred through a will or a trust.
2. Operation of Law and Its Importance in Beneficiary Designations: When a person dies, assets with named beneficiaries pass by "operation of law," meaning these assets are transferred directly to the designated beneficiaries without going through probate. This process is essential as it allows for a faster and more efficient transfer of assets, bypassing potential delays and expenses associated with probate. Ensuring that beneficiary designations are accurate and up-to-date is crucial to prevent unintended consequences and disputes among heirs.
3. Contingent Beneficiaries and the Risks of Naming Minors: A contingent beneficiary is an individual who inherits assets if the primary beneficiary predeceases the account holder or is unable to inherit the assets. It's important to note that minor children cannot directly inherit assets and should not be named as contingent beneficiaries. Instead, consider establishing a trust or naming a legal guardian to manage the assets on the child's behalf. Naming a trusted family member or friend as a beneficiary rather than the child can pose risks, as there is no guarantee that the person will use the assets for the intended purpose.
Never name a minor as a beneficiary. Another client, a widower, struggled financially for over fifteen years because his deceased wife, who was sophisticated enough to know better, wrote the beneficiary designation on her $250,000 company-sponsored life insurance policy as “My husband and my children to share equally.” Unfortunately, her children were all very young and none of those funds were available to replace their mother’s financial contribution to the family—and mom was the primary breadwinner. To make matters worse her children all received those funds, without restrictions, on their eighteenth birthdays. Perhaps not the best time in one’s life to come into substantial assets.
4. Per Stirpes vs. Per Capita in Beneficiary Designations: When naming multiple beneficiaries, it's essential to understand the concepts of per stirpes and per capita. Per stirpes means that if a beneficiary predeceases the account holder, their share will pass to their descendants (children or grandchildren). In contrast, per capita means that the deceased beneficiary's share is divided equally among the surviving beneficiaries. Understanding these distinctions can help you ensure that your assets are distributed according to your wishes.
5. Naming a Disabled Child as a Beneficiary and Special Needs Trusts: Naming a disabled child as a beneficiary can have unintended consequences, such as disqualifying them from receiving government benefits like Supplemental Security Income (SSI) or Medicaid. To avoid this issue, consider establishing a Special Needs Trust, which allows the disabled child to benefit from the assets without affecting their eligibility for government assistance.
6. When to Consult a Lawyer for Beneficiary Designations: In certain cases, it's advisable to consult a lawyer when naming beneficiaries, such as:
Employer-Sponsored Retirement Account: If you have a job, you probably have some kind of retirement plan; a 401 (k), a pension plan, or one of any number of qualified retirement plans. Right now! Immediately! Contact your employer’s Human Resources (HR) department or the benefits administrator. These individuals are typically responsible for managing employee benefits, including retirement accounts, and can guide you through the process of verifying or updating your beneficiary information. Alternatively, you may also contact the financial institution or plan provider directly for assistance with their beneficiary designations. Both of these methods will work.
Employer-Sponsored Life Insurance: Same thing. Most employers sponsor some kind of group health insurance and some go above and beyond. In the same email to HR you can inquire about your life insurance beneficiary.
Your Personal Life Insurance: Make that agent earn his commission! Call or email. In this case, ask for a statement from the insurance carrier. Don’t take his word for it. His memory may be as bad as yours. Also, ask if the policy includes coverage on your spouse and children. Ask him to include the necessary forms to make changes along with the statement from the company. He may say, “Why don’t you look at the policy?” Don’t. The policy does not decide. The last beneficiary change form file is the only thing that matters. Your agent may also ask about why you’re making changes, maybe he should come out for a meeting, etc., etc. This is unnecessary but might not be a bad idea. The objective is to make certain the beneficiary designation is correct.
Your Banking Relationships: Check with any banks you use as well as any credit card accounts you maintain. In some states, bank accounts are, or can be, Transfer on Death (TOD) accounts. If you have a TOD account, there’s a beneficiary. Ask about it and ask for the form.
Many credit cards and, less often, other credit arrangements offer some life insurance or accidental death insurance when you sign up. In many cases, there is a small fee, but not always. Give them a call. Get the form. Get it right.
Finally, it might be worth it to check in with your auto insurance agent. Sometimes they include some accidental death insurance with their policies. Most don’t but it’s worth an email.
Former employers: One of the biggest problems is retirement accounts with former employers. Hopefully, when you’ve changed employers in the past—and certainly if you do in the future, you “roll over” any retirement plan balance to the new employer’s plan or to an IRA account. But Zombie 401(k)s are a real thing and you’re taking tme now to focus on this so let’s make sure.
If you even just suspect you have a retirement plan at a former employer, you should take the following steps to verify its existence and update your beneficiary designation:
Please pledge to undertake this plan today. Or Monday, if you’re reading on a weekend. None of the people, I speak about here, whose deaths caused such turmoil and heartache, thought they were going to die. Their deaths were premature and came at a young age. None of these people were ignorant of financial matters. Indeed, all had achieved some measure of career success. All, no doubt took their financial responsibilities seriously. Just like you do.
Yet all made devastating errors. You, now, have no excuse to make such an error. You know the stakes and you have the fix. It’s easy.
Do it.
