Beneficiary Designation Horror Story

Regardless of your income or net worth, there’s one estate planning task you should do right now: check the beneficiary designations for your life insurance policies, bank accounts, brokerage firm accounts, and retirement accounts. You should update these forms as necessary. If you don’t, the consequences can be dire.

MarketWatch’s recent article, “Make this estate planning move right now: Check your beneficiary designations, explains how the Fifth Circuit Court of Appeals reversed the trial court by finding that a pension plan administrator didn’t abuse her discretion in determining that a deceased plan participant’s stepsons weren’t considered his “children” under the terms of the plan. As a result, the deceased participant’s siblings, not his stepsons, were entitled to inherit the plan benefits in Herring v. Campbell (5th Circuit 2012).

Halloween-1746354_640In that case, John Hunter died in 2005. He had retired from Marathon Oil, where he was a participant in the company pension plan, which let him name a primary and secondary beneficiary. Hunter designated his wife as the primary beneficiary but didn’t designate any secondary or “contingent” beneficiary. After his wife died, he didn’t update the document to add a new primary beneficiary. Under the plan’s terms, when a participant died without designating a valid beneficiary, the deceased participant’s benefits were distributed in the following order of priority: (1) surviving spouse, (2) surviving children, (3) surviving parents, (4) surviving brothers and sisters (siblings), and finally (5) participant’s estate.

After he died, the plan administrator rejected the claim that Hunter’s two stepsons would qualify as “children” who’d be entitled to all the benefits. Instead, the plan administrator distributed the benefits of more than $300,000 to Hunter’s six siblings.

The stepsons sued for the benefits, claiming that they were, in fact, Hunter’s children because, by his actions, he’d “equitably adopted” them. The evidence seemed to indicate that he probably did mean to leave his benefits to the stepsons, so the trial court concluded that the plan administrator abused her discretion by failing to consider the stepsons’ equitable adoption claim. But the plan administrator appealed to the Fifth Circuit.

The Fifth Circuit agreed with the administrator’s interpretation that the term “children,” and for purposes of the plan, it meant biological or legally adopted children as opposed to un-adopted stepchildren. The District Court’s decision was reversed, and Hunter’s pension benefits went to his six siblings.

Typically, whoever’s named on the most-recent beneficiary form will get the money automatically, if you die. This brings up another advantage of designating individual beneficiaries—it can help you avoid probate, because the money goes directly to the named beneficiaries by “operation of law.”

Doing a beneficiary checkup and making any needed changes will take just a few minutes. Don’t wait, or it could be too late, like it was for Mr. Hunter’s stepsons.

If you would like to discover more about taking the very important next step in the estate planning process, consider joining us for a free educational workshop.  You can reserve your spot by clicking here now.  Grab a seat today as space is limited.

Reference: MarketWatch (June 30, 2017) “Make this estate planning move right now: Check your beneficiary designations”



A Trusteed IRA May be a Wise Solution

Definition of trustFinancial Planning’s article, “When you should establish an IRA as a trust,” advises that the answer depends on several factors, like the amount of control you want beneficiaries to have.

Tax laws say that an IRA can be established as a trust or custodial account. With a trusteed IRA, a financial organization adds trust terms and language to the plan, so the IRA itself becomes a trust. The financial organization acts as the trustee. The account is administered under the trust provisions both before and after the IRA owner’s death. The owner typically has greater control and provides less control for beneficiaries.

A trusteed IRA is effectively a conduit trust where the trustee must pay out the annual required minimum distributions to the beneficiaries. In order to ensure the stretch IRA for beneficiaries, some trusteed IRAs also allow distributions beyond the RMDs for health, education, and other support.  However, trusteed IRAs are standardized documents, so there will likely be some limits on the post-death control options.

Those who have large IRAs and other extensive assets, already may be using trusts as part of their overall estate planning strategy. For those individuals, costs are not a concern and they’d likely be best-served by naming a trust as their IRA beneficiary. For others, whose IRA is their largest asset, a trusteed IRA may make sense. A trusteed IRA usually costs less than a trust to create.

An advantage of a trusteed IRA is: if the IRA owner becomes incapacitated, trusteed IRAs often have a provision that lets the trustee take the RMD on their behalf. Some trusteed IRAs also allow distributions beyond the required minimum distributions for health, education, and other support. This wouldn’t be possible with a trust or an individual named on the IRA’s beneficiary designation form. The trustee can also make lifetime investment decisions and pay any IRA-related fees or expenses.

A trusteed IRA may be a good strategy for those whose primary concern is preserving the stretch for their beneficiaries, because it can limit yearly distributions to the amount of the RMD and preserve the stretch IRA.  However, if a trust is named as the beneficiary of an IRA, and it meets the look-through rules, the beneficiary of the trust can use the stretch and take RMDs over the life expectancy of the oldest trust beneficiary.

When an IRA owner names a beneficiary outright, the owner has no say in what happens to the funds after the death of the beneficiary. But a trusteed IRA gives the IRA owner the ability to name successor beneficiaries, which can be useful in second-marriages, where the IRA owner wants to provide for a spouse during his or her lifetime but then ensure that the IRA funds go to children from a prior marriage.

A trusteed IRA offers a higher level of protection from creditors than leaving assets outright to a beneficiary. However, this is somewhat tempered by the fact that the trusteed IRA must to pay out the RMDs each year to the beneficiary, and there’s no way to protect the RMD funds.

 It is possible to name a trust as the IRA beneficiary to gain a higher level of protection. A trust could be created to give the trustee the discretion to keep the RMDs in the trust, instead of paying them out to the beneficiaries. The downside to using a trust to protect the RMDs from creditors is the tax at trust tax rates of up to the top 39.6% income tax bracket. A Roth IRA left to a trust could avoid this issue.

Those considering trusts often want to appoint an individual as a trustee. Sometimes, it’s an individual as co-trustee with a financial organization. This won’t work with a trusteed IRA, because the trustee will be the financial organization offering the trusteed IRA. The tax code doesn’t permit an individual to be a trustee of an IRA.

A drawback to trusteed IRAs is the lack of ability to move the inherited IRA assets. There’s no reason why a trusteed IRA couldn’t allow the movement of inherited IRA funds after the death of the IRA owner, but these documents are usually drafted so that it’s either prohibited or not guaranteed.

Trusteed IRAs may not be the solution for everyone.  Therefore, you should think about just designating a beneficiary directly on the IRA beneficiary form or naming a trust that’s been created by a trust attorney.

Reference: Financial Planning (May 31, 2017) “When you should establish an IRA as a trust”


Answers to 401(k) Questions

401k eggAs you develop your financial and estate plans, you should consider integrating 401(k) accounts into an overall retirement strategy. It’s an important part of the process, says Kiplinger in its recent article, “6 Answers to Your 401(k) Questions.”

401(k) s are the largest source of funds that most individuals set aside for retirement. Here are some thoughts on questions you should consider.

How do I enroll? If your employer has a retirement plan,  such as a 401(k) or a 403b, your Human Resources department should talk about enrolling when you’re hired. If you’ve been there a while, most companies will hold a group meeting with HR and a representative from the plan sponsor. They will go through the highlights of the plan and help you to enroll. There are a couple of things to bear in mind: figure out the company match and take advantage of it; and if there’s no company match, you may want to look at a personal Roth IRA and IRA contributions, before going with your employer’s retirement plan.

Which one: Roth or Traditional IRA? Some employer retirement plans are offering Roth options, so choosing between traditional or Roth to save for retirement is important. In a traditional 401(k), you’re not getting a tax deduction for your pre-tax contributions, but instead are getting a tax deferral. You’ll eventually pay taxes on the money in these accounts funded with pre-tax dollars, when you take withdrawals in retirement. You’ll pay tax on the pre-tax contributions and all of the gains.

For a Roth, you invest post-tax dollars going into the account and won’t be taxed again. Withdrawals in retirement are tax-free for your contributions and your growth. Therefore, do you want to pay the taxes now (on a Roth) or pay taxes during retirement (with a traditional IRA)? If your plan offers a Roth 401(k), it’s wise to put your contributions there because the money will be tax-free after you retire.  It also shields your retirement assets from possible future income-tax rate increases.

How much do I contribute? Look at the current IRS contribution limits and the additional contribution limits of your specific company plan. Try to contribute up to the company match in order to max out your employer’s contributions to your retirement savings. You also should consider how much you can afford to contribute based on your monthly budget and cash flow. Once you’ve contributed up to the match, if you’re able to save more for retirement, review your Roth IRA and other tax-free options.

How should I invest? There are many factors to consider. Each person’s situation is different. Consider your age, risk tolerance, investment timeline, other available retirement assets, fees, taxes, and the amount you’re able to contribute, among other factors.

When do I change my investments? Most employer sponsored retirement plan participants never make changes to their investment choices after they enroll! Broad exposure to low-cost index funds and ETFs across multiple asset classes typically work for most investors to withstand market swings.  However, you shouldn’t disregard your account for years or decades until retirement. Your specific factors, as well as the available investments within your plan, may change with time. Major life events may also necessitate changes in your investment strategy. Get financial advice and think about making annual adjustments to rebalance your allocations, as needed.

When you save for retirement, start early, be consistent, max out your Roth options first whenever possible and don’t be afraid to ask for help.

Reference: Kiplinger (June 2017) “6 Answers to Your 401(k) Questions”


Review These Retirement Planning Criteria

401k piggy bankStock Investor’s recent article, “6 Retirement Estate Planning Criteria You Must Address,” says every retiree’s investment objective should address these six criteria:

  1. Minimum required yield. This is the first factor when looking for reliable long term income. It is calculated based on household income requirements and investable assets—typically IRAs, taxable brokerage accounts and other savings that are planned for retirement income. When the required percent of investment (portfolio yield) increases, so does the income risk. When the yield is too high to be practical, traditional thought says to liquidate some of your principal by gradually drawing down your investment portfolio over retirement years or by using an insurance product like a single premium immediate annuity.
  2. Income Reliability. This means the income, just like a paycheck, will be there regularly and will have a low risk of fluctuation—and an even lower risk of being reduced or eliminated.
  3. Income growth that keeps up with inflation. This can come from the investments organically growing their dividends over the years or from the excess income the actual investments produce that are accumulated and used to supplement future household income with inflation.
  4. Liquidity. This is the ease with which investment securities can be converted into cash. This will be a high priority, if you think a need could arise that would require an unplanned tap into the principal of the investment portfolio.
  5. Future capital preservation of the investment principal. Conventional wisdom says that retirement savings will be consumed and the savings will decumulate. Capital preservation is a priority, if you want to maintain the investment capital to meet future possible household major expenses—like assisted living costs or creating a testamentary special needs trust (a trust created at your death in your estate) to provide for a disabled child or grandchild, to provide for a grandchild’s college expenses or to donate a favorite charity.
  6. Simple transfer to the surviving spouse. In many instances, a spousal retirement account has just one person who builds, monitors, and manages the portfolio. Therefore, it’s important to have an easy transition for the surviving spouse to continue the management of the income portfolio.

Reference: Stock Investor (May 24, 2017) “6 Retirement Estate Planning Criteria You Must Address”


Check on Your Beneficiaries…Today!

Fortune cookie inheritanceWhen you pass away, what you leave to your loved ones is important, but so too is how you leave those assets. Making certain that you leave the right assets to the right beneficiaries, is a critical element of effective estate planning.

Forbes’ recent article, “Pass On Your Assets Wisely: How To Choose The Right Beneficiaries,” examines several common asset types and considerations to be taken when naming beneficiaries.

Life insurance. These proceeds can be paid to the beneficiaries quickly. After proof of death is established, the funds are paid. Think about heirs who may need ready access to funds after you pass. That’s usually not a minor child. However, if you do name a child, you must designate a guardian or place the proceeds in trust. Otherwise, the state may take control and assign a stranger to manage the money on your child’s behalf.

Assets in a Will. When you pass away, your will is going to be probated, and the assets can’t be distributed until the probate process is complete. Because of this, be sure the beneficiary of any property or assets specified in the will is in a position to wait. You can also create a revocable living trust to hold those assets, so a trustee can distribute assets directly to beneficiaries without waiting to go through probate.

Retirement plans. When you select the beneficiaries for retirement plans, remember that it can result in tax implications. The younger the recipient, the longer their life expectancy, and the more time they will have to withdraw funds from the plans. That means the account can continue to grow tax-deferred. You can also name a trust as the beneficiary of a retirement plan, and the assets in the trust will be protected from creditors. A retirement plan inherited outside of a trust may not enjoy this protection. In addition, if a beneficiary is young, the trustee can make distributions under conditions that you state when you create the trust.

Last, be certain the beneficiaries named in your retirement and other financial accounts are consistent with your estate plan. A beneficiary designation of your 401(k) plan supersedes anything in your will.

Reference: Forbes (May 30, 2017) “Pass On Your Assets Wisely: How To Choose The Right Beneficiaries”

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