Beneficiary Designation Forms Are Not One-Time Documents
When setting up your 401(k) plan, you are asked to choose pre-tax or post-tax deductions, investment options, and plan beneficiaries. These are the individuals or entities you wish to designate to receive the assets from your retirement plan in the event of your death. Most people are only concerned about adjusting the first two options for a high savings rate with salary increases or better investment options based on performance or risk level, neglecting to designate beneficiaries.
Avoid Probate
Unlike other properties and assets, the money held in a 401(k) plan or any other employer-sponsored retirement plan is handled according to beneficiary designation rules similarly to transfer-on-death assets, such as securities held in non-retirement accounts that allow for registration at death. Under the beneficiary designation rules of a 401(k) plan, ownership of 401(k) plan assets is transferred to the designated beneficiaries upon your death rather than being divided as specified in your will or determined by a probate court if you do not have a will.
Ensure Your Wishes Are Honored
Although treating your beneficiary designation form as a one-time exercise may work sometimes, it can often cause issues. For example, suppose you initially named your spouse as the primary beneficiary and then divorced. Years later, you remarried. You updated your will to ensure your new spouse inherits your home and other assets upon your death. You were certain and also called your life insurance agent to provide them with the necessary updates. But you did not change the beneficiaries on your retirement account.
Years later, you passed away. Your home will pass to your new spouse according to the terms of your will. Your life insurance proceeds will also go to your new spouse, thanks to the call you made to the life insurance agent. The 401(k) beneficiary designation form is the controlling document, which is a flaw in this case. Your 401(k) plan may go to your ex-spouse because you did not update the 401(k) beneficiary designation form.
To avoid similar scenarios, make sure to review your 401(k) beneficiary designations regularly, especially if you have had any major family changes since setting up the plan. You and your loved ones will be grateful for it.
Designating 401(k) Beneficiaries
When setting up your 401(k) or IRA plan for the first time, you will have the opportunity to designate beneficiaries online or on a beneficiary form provided by the plan provider. In this form, you should specify a primary beneficiary and a contingent beneficiary for your 401(k) plan.
Primary and Contingent Beneficiaries
A primary beneficiary is the first person who will receive your account balance in the event of your death. While contingent beneficiaries are designated in case the primary beneficiary of your 401(k) plan passes away before you do. Since deceased individuals cannot inherit assets, your 401(k) account balance will only be transferred to the contingent beneficiary you designated if the primary beneficiary is no longer alive.
When deciding who to designate as a primary or contingent beneficiary for your 401(k) plan, keep in mind that under the beneficiary rules for most defined contribution plans like 401(k) plans, your retirement benefits will be delivered to your surviving spouse by default. The plan’s beneficiary designation rules may require obtaining their formal consent through a waiver if you wish to choose a different beneficiary. If you are single, you are generally free to designate any beneficiary.
Using the “Per Stirpes” Option
Typically
The description of the retirement plan provided by the retirement plan administrator specifies the amount and form of death benefit, as well as whether the benefits can be transferred to other accounts and how to handle them. However, the beneficiary designation form will also give you the option to specify the percentage of account assets that will go to the beneficiaries.
For example, let’s say you are married and have two children. You might choose to make your spouse the primary beneficiary at 100%, meaning that if you pass away, your spouse will inherit the entire value of the account.
If your spouse predeceases you, you can also choose what is known as the “per stirpes” option, which allows you to allocate your spouse’s benefit at 100% to your children in equal parts. If your spouse dies before you or at the same time as you, each of your children will receive 50% of the account’s value.
Choosing “per stirpes” allows you to shift assets that would go to the beneficiary to the beneficiary’s descendants if you survive the beneficiary. If you do not choose this option, any percentage you designate to a beneficiary who survives them will be divided equally among other primary or contingent beneficiaries.
Final Thoughts on Beneficiary Designations for a 401(k) Plan
Most people hesitate to think about their potential death, especially when joining a new job’s 401(k) plan and making decisions about contributions and investments.
However, because the transfer of your 401(k) account assets does not follow the terms of your will like your other assets, your loved ones may unknowingly bear the emotional cost of probate. There is also the financial burden that your loved ones may incur by not receiving the assets in a timely manner.
By planning for the worst-case scenarios now by designating beneficiaries for your 401(k) plan assets, you can ensure a smooth transition of assets to the people who need them when you are no longer present.
Source: https://www.thebalancemoney.com/review-401-k-plan-beneficiary-designations-2894174
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