Beneficiary designations are a crucial part of estate planning, yet they are often overlooked. Once you have signed your estate planning documents, you need to make sure your beneficiary designations are consistent with the rest of your estate plan. I have seen many situations where the intent of an individual’s will and trust were overridden by beneficiary designations that were not carefully chosen.
Some people feel that choosing a beneficiary should be a simple task and they try to do it themselves. Others do not want to bother their lawyer with what seems like a straightforward question. I have also seen instances where a well-intentioned advisor filled out the change of beneficiary form incorrectly.
Beneficiary designations are often used for life insurance and retirement benefits. However, more and more frequently, they are being used for brokerage and bank accounts as well. People trying to avoid probate may name a “payable on death” beneficiary of an account. However, they do not realize that doing so may undermine their existing estate plan.
The best course of action is to consult with all your advisors – your lawyer, your financial advisor and your insurance specialist – to make sure that your named beneficiaries are consistent with your estate planning documents.
Here are seven issues you need to consider when making your beneficiary designations.
Cash is king. If your will leaves cash gifts to various people or charities, you need to make sure that enough money comes into your estate so that your executor can pay the gifts.
Cover your estate tax liability. If assets do pass outside your estate to a named beneficiary, make sure there will be enough money in your estate and trust to pay your estate tax lability. If all your assets pass by beneficiary designation, your executor may not have enough cash to pay the estate taxes that will be due on your passing.
Protect your tax savings. If you have created trusts for estate tax purposes, you want to make sure enough assets flow into your trusts to maximize the estate tax savings. Naming individuals as beneficiaries instead of your trusts may defeat the purpose of your estate tax planning. If there are not enough assets in your trust, the estate tax provisions may not work and your heirs may eventually end up paying more in taxes.
Precision matters. Make sure the information you include on the change of beneficiary form is correct. This is particularly important if the beneficiary is a trust. The trust name, trustee information and tax identification number all need to be accurate. Don’t guess – if you do not know whether your trust is revocable or irrevocable, ask your lawyer.
Spouses as beneficiaries can be a no-no. It is common for people to want to name their spouse as the primary beneficiary of their life insurance policy, followed by their trust as the secondary beneficiary. However, this may defeat your estate planning, particularly if you have children from a first marriage, or if you do not want your spouse to control the assets. If your trust provides for your surviving spouse on your death, he or she will be taken care of from the trust.
Avoid last minute changes. I have seen people alter beneficiary designations at the last minute because they are nervous about assets flowing into a trust. The husband may be seriously ill in the hospital and the wife becomes nervous about not having enough assets to live on. She has him change his beneficiary designations leaving all assets outright to her. She may feel better, but that may not be what he ultimately wanted. Plus, it could lead to increased estate tax payments and litigation from heirs who were cut out.
Be careful with qualified accounts. Do not name a trust as the beneficiary of a qualified accounts like an IRA without consulting with your attorney first. Trusts that receive such qualified money need to contain special provisions for income tax purposes.
You have worked hard to create your estate plan. Make sure that your beneficiary designations work with your planning and not against it.