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May 09, 2024 at 02:34 PM
What You Need to Know
- Clients might assume their retirement accounts will simply pass to the heirs named in their will. Big mistake.
- A recent court case found that an ex-girlfriend named as a 401(k) beneficiary in 1987 could inherit the account's $754,000 balance.
- Advisors should work with clients to keep named beneficiaries current on a regular basis.
Beneficiary designations are often overlooked and neglected during the estate planning process.
Clients may execute a will or create a trust and simply assume that their retirement accounts will pass to the heirs named in the will or to their trust beneficiaries. In reality, retirement accounts, including 401(k)s and IRAs, are governed by their own set of rules.
In almost every case, the beneficiary listed on the account is the individual who will inherit the account, regardless of any outside facts. A recent case put this issue in the spotlight when a U.S. district court refused to invalidate a decades-old beneficiary designation and similarly refused to decide that the plan sponsor had violated its fiduciary obligations by allowing the designation to remain in place.
Advisors should review the case as a warning and a reminder about the importance of updating retirement account beneficiary designations on a regular basis.
401(k) Beneficiary Designations: The Basics
When opening a 401(k), plan participants can designate one or more beneficiaries to inherit the account. If they fail to do so, the account balance will generally be inherited by a surviving spouse. If the participant isn’t married, the estate will receive the funds, which will eventually be distributed according to will or intestate succession laws.
Sometimes, that will happen only after the funds have passed through the probate process.
Of course, these are only the most common inheritance rules when the participant fails to designate a beneficiary. What will happen also depends on the terms of the 401(k) plan documents.
When the participant names a designated beneficiary, that beneficiary will likely receive the funds regardless of any intervening facts. One of the most common mistakes that participants make is failing to change their beneficiary after going through a divorce or ending a relationship.
