By FPA member John F. McAvoy, CFP®
Last Updated: November 21, 2011
As the year-end approaches, there are many things on one’s financial to do list. One that is often overlooked is reviewing the beneficiary designations on your 401(k), Individual Retirement Account (IRA) and life insurance policies. For many Americans, much of their wealth is held in these accounts. The rules can be complicated especially for those who have remarried.
Designating a beneficiary for these accounts allows for the assets to avoid probate and go directly to the named beneficiary. There are some important points to keep in mind.
401(k) plans are governed by federal law which states that the primary beneficiary of a married person is their spouse. If a married person dies, their spouse is entitled to 50 percent of the account balance unless the surviving spouse has signed a Spousal Waiver.
These rules can cause complications if not understood. For example, an owner of a 401(k) divorces and changes the beneficiary designation to her children. She remarries and soon thereafter dies. Despite her children being named beneficiaries, her new husband is entitled to half of the account balance under the law even though he was not named as a beneficiary.
IRAs are governed by state law and spouses are not automatically entitled to half of the account. There is much more flexibility in naming a beneficiary. In fact, the owner of an IRA can name anyone a beneficiary. However, there are cases in which a long divorced spouse forgot to change the beneficiary designation removing his ex-spouse before he died. The result was that the assets passed directly to the ex-spouse. Once the owner of a retirement account dies, the designation is written in stone and cannot be changed. In fact, many people mistakenly think that their will supersedes a beneficiary designation. However, this is not true. Beneficiary designations trump the instructions left in one’s will.
As we head into year-end:
- Check your beneficiary designations and update them as needed.
- Use the proper forms issued by the custodian of the account so there are no mistakes or misunderstandings.
- Consult with a financial planner, tax professional or attorney to see how these rules may apply to your situation.
FPA member John F. McAvoy, CFP®, is a principal with Waterstone Retirement Services in Canton, MA. Securities offered through Investors Capital Corporation, Member FINRA/SIPC.