Choosing a beneficiary: Keeping your accounts in order
Siena Wealth Advisory Group
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Jul 22, 2023
Florida - Southwest
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Choosing a loved one as your beneficiary could be considered an act of kindness for some. Learn more about the basics of beneficiaries, tax implications and other considerations that can help ensure your loved ones receive your assets.
What is a beneficiary and why is it important?
What's the difference between primary and secondary beneficiaries?
Who can you designate as a beneficiary?
Beneficiaries for retirement accounts, annuities, and life insurance policies
Special considerations for IRAs
What is a beneficiary?
A beneficiary is a person or entity, such as a trust or nonprofit, that you designate to receive the assets in your financial accounts when you die. For example, life insurance policies and retirement accounts allow you to designate beneficiaries.
When deciding who you should designate as a beneficiary, consider family members, friends or business entities. Note that the account and subsequent funds are treated differently depending on your relationship with the beneficiary. For example, if you choose your spouse as an IRA beneficiary, they can move the assets into their own IRA account after your death. Non-spouse beneficiaries do not have this option.
The importance of choosing a beneficiary
Choosing a beneficiary is a simple way to indicate who should inherit the funds or assets in your accounts without going through the steps of creating a will or estate document. However, be aware that the beneficiary/beneficiaries you name for each of your retirement plans, annuities, life insurance policies and other assets will receive the proceeds from that account even if your will outlines different instructions. To help ensure everything is in order, you should regularly review all your beneficiary designations with a financial advisor or estate planning attorney.
Primary beneficiaries, secondary beneficiaries, and contingent beneficiaries – what’s the difference?
It’s important to understand the different beneficiary types: primary, secondary and contingent beneficiaries.
- Primary beneficiaries are your first choice to receive your retirement accounts or other benefits. If you’re married, this will typically be your spouse.
- A secondary beneficiary and a contingent beneficiary are essentially the same. These beneficiaries will be named and awarded your retirement benefits and assets if your primary beneficiary doesn’t survive you or disclaims the assets.
Designate both primary and secondary beneficiaries – and take special measures if you’re assigning minors
If your named beneficiary doesn’t survive you, your funds could revert to your estate, resulting in probate court. To help prevent gaps in the beneficiary designation process and properly allocate all of your accounts, you should name both primary and secondary beneficiaries.
Similarly, if you’re designating children as your beneficiaries, your advisor or estate planning attorney can help you create a plan to ensure that your minor beneficiaries receive the funds when they’re supposed to—without unnecessary legal costs in the future.
Who (and what) can you designate as a beneficiary and what are the outcomes?
Your spouse
A spousal beneficiary has more flexibility to delay taxed distributions and move assets to their own account. For 401(k) or pension plans, your spouse must be the primary beneficiary unless spousal consent is given to the naming of another beneficiary.
Your children or other family members (excluding your spouse)
You can assign someone else such as a child or other family member but it will require your spouse to sign away rights to be the primary beneficiary. Keep in mind that assigning a non-spouse as your beneficiary will not come with the same tax benefits and rollover options.
A trust
Designating a trust as beneficiary provides control over how assets are distributed. But there can be tax implications and other considerations. Always seek advice from an experienced tax professional before choosing a trust as a retirement plan or IRA beneficiary.
A charity
Choosing a charity as a beneficiary is a simple process for those wanting to give back after they pass away. However, keep in mind that mixing charity and non-charity beneficiaries may change the options available to the non-charity beneficiaries of a retirement plan if the charity is not paid out in a timely fashion.
Naming multiple beneficiaries
Having a hard time choosing between multiple beneficiaries? Fortunately, you can name more than one. If doing so, you will specify the amounts you want to allocate to each beneficiary. You can also choose to designate different beneficiaries within different accounts.
In addition to naming beneficiaries in a will, it’s important that you record your beneficiary choices in each of your financial accounts. Note that if there is a discrepancy, the beneficiaries you note in those accounts will supersede who you designate in your will.
Naming your estate as a beneficiary
Naming your estate as a beneficiary can feel more straightforward than naming specific beneficiaries for your major assets, but it has significant downsides.
If you name your estate as a beneficiary, the assets in your estate must pass through probate before distribution. This could take a year or longer. Additionally, when an estate is in probate, distribution of the assets can’t occur until creditors’ claims against the estate are resolved.
However, if your named beneficiaries are individuals, trusts or charities, your assets will typically go to them directly, bypassing probate and creditors.
- Choose both primary and secondary beneficiaries
- Keep taxes in mind when choosing beneficiaries
- Don't choose your estate as a beneficiary
- Minors require special considerations
Retirement account, annuities, and life insurance policies
Not all accounts and assets are equal with regard to beneficiary designations. The responsibilities and outcomes for beneficiaries can be very different, depending on the type of account or asset:
Annuities
- Any annuity beneficiary can cash in the remaining funds left in an annuity after the owner passes away.
- Spouses can either cash in an annuity or keep it, with the original contract terms still in force.
- Non-spouse beneficiaries are required to take distributions.
- Annuity beneficiaries must pay income tax on the gains in the annuity—the difference between the principal paid into the annuity and the value of the annuity at the time the owner dies.
Retirement accounts
- Retirement account assets are taxed when distributed from the plan to beneficiaries.*
- Spousal beneficiaries can roll assets over into a new or existing retirement account.
- Non-spouse beneficiaries are required to take distributions.
- Federal law requires that a spouse must be the primary beneficiary of a 401(k) account or pension account unless the spouse waives their right in writing.
Life insurance policies
- Beneficiaries receive the policy proceeds income tax-free.
- In certain states, a spouse may be legally entitled to life insurance benefits.
- Beneficiaries are paid in lump sums or in payments as requested by the account holder.
IRA stretch strategy in estate plans
An IRA stretch strategy allows an IRA beneficiary to take required minimum distributions (RMDs) from an inherited IRA after the owner’s death.
For deaths prior to Jan. 1, 2020, non-spouse beneficiaries such as adult children who inherited retirement accounts can take required minimum distributions over their lifetime.
Prior to the SECURE Act, beneficiaries who inherited retirement accounts (such as a traditional or Roth IRA) could take the RMDs over their lifetime. The SECURE Act changes that financial strategy for most non-spouse beneficiaries who inherit their retirement account on or after Jan. 1, 2020. Now, those beneficiaries must take the account proceeds and pay the corresponding taxes within 10 years of inheriting the account. This can be done with any number of distributions as long as the entire account is distributed by the end of the year that contains the 10th anniversary of the owner’s death.
While the timeframe for using an IRA stretch is now shorter, this strategy can still help you pass substantial assets to your children or other family members. Additionally, some beneficiaries can still stretch their inherited IRAs over their lifetime, including:
- Spouse beneficiaries (spouse beneficiaries usually rollover to their own IRA).
- Non-spouse beneficiaries with disabilities or chronic illnesses.
- Non-spouse beneficiaries who are no more than 10 years younger than the IRA owner.
- Minor children of the IRA owner (up to the age of majority).
A financial advisor can help you with your beneficiary designation
Deciding how to pick beneficiaries for your retirement and other financial accounts is important. Ask an Ameriprise financial advisor to review your accounts and beneficiaries so you can feel more confident about the legacy you’re leaving.
- To view the original version of this article visit www.ameriprise.com/financial-goals-priorities/family-estate/designation-of-beneficiary
- Seniors Blue Book was not involved in the creation of this content.
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