Dave Kennon, Kennon Financial
A tremendous amount of confusion and misinformation surrounds your beneficiary and leaving moo-lah to your heirs.
It’s time for: Dave’s Quick and Easy (and Important) Guide to Understanding Beneficiary Arrangements.
It is essential that your beneficiary arrangements match your desires, and today I am going to dispel some common misconceptions. Get ready to learn.
On any sort of retirement account (IRA, 401k, Roth IRA, etc.), you are able to name primary and contingent beneficiaries.
IRA Account Holder: Joey Jenkins
Primary Beneficiary: 100% Joan Jenkins (wife)
Contingent Beneficiaries: 50% Johnny Jenkins (son)
50% Jackie Jenkins (daughter)
If Joey (husband) were to die, Joan (wife) would take possession of the retirement account assets and roll over the money to her own retirement account. There is no taxation on this kind of transaction.
If Joey and Joan were to die in an accident, then Johnny (son) and Jackie (daughter) would each receive half of Joey’s retirement account. Johnny and Jackie then have two options:
Option #1– Take the money in cash. With this option, Johnny and Jackie would be required to pay taxes on their full share of the inheritance. So if Johnny (the son) were to receive his portion of $300,000, he would then be required to claim all of that money as income on his tax return for that year. He very well could pay $100,000 to Uncle Sam in federal income tax.
Option #2- Roll the money over into an Inherited IRA. This option would allow Joey to pay no taxes for now. As he pulls money out from the account over time, he would have to pay income taxes on whatever amount he withdraws. An Inherited IRA is a great way to stretch out the tax liability. Also, remember that the 10% tax penalty does not apply to an Inherited IRA (you do not have to wait until 59 ½ to take money out of an Inherited IRA).
1. You can change primary and contingent beneficiaries at any time.
2. If you have a 401k, by law, your spouse must be the primary beneficiary (unless they sign a waiver). This is not the case with IRA’s.
3. Beneficiary arrangements on retirement accounts supersede your will. This is essential to understand. If your will instructs your IRA to go to your son, and your account names your daughter as beneficiary- the daughter gets the money. It doesn’t matter what the will says. The beneficiary designation trumps the will.
Now let’s move on to non-retirement assets. These would include cash, savings, brokerage accounts, stocks, bonds or anything else you possess outside of your 401k or IRA. Your home and other properties would also fall under this category.
These assets fall under completely different rules.
For these accounts, you are able to set up a Transfer Upon Death designation (commonly referred to as a TOD). So if Joey Jenkins has a savings account titled in his name, and his desire is for the account to transfer to his wife upon his death, the account would look like:
Owner: Joey Jenkins TOD Jackie Jenkins.
1. A TOD designation avoids probate. The money transfers to the beneficiary immediately upon your death.
2. You can name more than one person on your TOD instructions. You can split up the beneficiaries just like a retirement account.
3. In Florida, you cannot place a TOD on your home or other real estate.
4. Setting up a trust can also accomplish the same thing, but I have found that TOD arrangements are simpler, cheaper, and work just as well. If you have substantial real estate holdings, a trust might be a good option.
5. Annuities held outside of retirement accounts require you to name a beneficiary. Therefore annuities operate in a very similar fashion to retirement accounts.
6. Life insurance also operates under beneficiary rules similar to retirement accounts.
Wow! That was some technical (and important) information. Throughout my career, I’ve seen outdated beneficiary instructions create messy situations. I’ve even seen spouses forget to take their ex-spouse off of their accounts! Don’t let your ex get your 401k!
Dave Kennon, Kennon Financial
There is no certainty that any investment strategy will be profitable or successful in achieving your investment objectives. An index is a portfolio of specific securities. Indexes are unmanaged and investors cannot invest directly in an index. Index returns are “total returns” with dividends reinvested, which means the return is not only the change in price for securities but any income generated by those securities. The performance of an unmanaged index is not indicative of the performance of any particular investment. Investments offering the potential for a higher rate of return also involve a higher degree of risk. Past performance is no guarantee of future results. Actual results will vary.