While your beneficiary designations need not be reviewed every year, they should be reviewed as often as you review or update your last will and testament—which is a process that should be done at least every few years. At a minimum, review and update beneficiaries following life-changing events, such as a marriage, divorce, birth, or death.
Avoid Probate
Unlike other property and assets, funds held in a 401(k) or another employer-sponsored retirement plan with a beneficiary designation are treated similarly to transfer-upon-death (TOD) assets, such as securities held in non-retirement accounts that allow for TOD registration. Under 401(k) beneficiary designation rules, that ownership of the 401(k) assets is transferred to the designated beneficiaries upon your death rather than being divided as stated in your will or determined by a probate court if you don’t have a will. This means that 401(k) plan assets are generally allowed to pass to the surviving beneficiary outside the probate estate, enabling the designated beneficiaries to avoid the time and expense of the probate process. The downside is that if the deceased’s wishes for those assets have changed, but the beneficiaries have not been updated accordingly, there is little that survivors can do. Additionally, if all of the designated beneficiaries predecease the account owner but the beneficiaries were never updated, then those assets will be subject to the time and expense of probate.
Ensure Your Wishes Are Upheld
While treating your beneficiary designation form as a one-and-done exercise might work out, often times it can cause problems. Let’s say that you first named your spouse as a primary beneficiary and later get divorced. Years after that, you remarry. You update your will so that your new spouse will inherit your home and other assets upon your death. Being thorough, you also contact your life insurance agent and provide them the necessary updates. But you don’t change your retirement account beneficiaries. Years later, you die. Your home will pass to your new spouse, following the terms of your will. Life insurance proceeds will also go to your new spouse, thanks to that call you made to your life insurance agent. The 401(k) beneficiary designation form is the guiding document, which is a disadvantage in this case. Your 401(k) plan may go to your former spouse because you never updated the 401(k) beneficiary designation form. In order to avoid similar scenarios, make sure that you regularly review those 401(k) beneficiary designation forms, especially if you’ve had any major family changes since you set up the plan. You and your loved ones will be grateful that you did.
Designating 401(k) Plan Beneficiaries
When you first set up your 401(k) or IRA, you will be given the opportunity to designate beneficiaries online or on a beneficiary form provided by the plan provider. On this form, you must indicate a primary beneficiary and a contingent, or secondary, beneficiary for your 401(k) plan.
Primary and Secondary Beneficiaries
A primary beneficiary is the first to receive your account balance in the event of your death. A contingent beneficiary or beneficiaries, in contrast, is designated in the event that the primary beneficiary of your 401(k) dies before you. Since a dead person can’t inherit assets, your 401(k) account balance would go to the contingent beneficiary you identified only if your primary beneficiary is no longer alive. When deciding who to name as a 401(k) primary or contingent beneficiary, keep in mind that under the beneficiary rules for most defined-contribution plans such as 401(k) plans, your surviving spouse will be the first to receive your retirement benefits by default. The beneficiary designation rules of the plan may require you to get their formal consent through a waiver if you want to choose a different beneficiary. If you’re single, you’re generally free to name any beneficiary.
Using the ‘Per Stirpes’ Option
Typically, the summary plan description provided by the administrator of the retirement plan will establish the amount and form of the death benefit, along with whether rollovers of the benefits into other accounts are permitted and how they are handled. But the beneficiary designation form will also give you the option to designate the percentage of account assets to go to the beneficiaries. Let’s say, for example, that you are married and have two children. You may choose to make your spouse your primary beneficiary at 100%, meaning that if you pass, your spouse will inherit the entire account value. In case your spouse predeceases you, you can also select what is known as the “per stirpes” option, which would allow you to allocate his or her 100% benefit to your children in equal portions. Should your spouse pass before or at the same time as you do, each of your two children would receive 50% of the account value.
Final Thoughts On 401(k) Beneficiary Designations
Most people hesitate to consider their eventual death, particularly when enrolling in a 401(k) plan for an exciting new job and making decisions about contributions and investments. But because the transfer of your 401(k) account assets does not follow the terms of a will like your other assets, neglecting to name beneficiaries may unwittingly subject your loved ones to the emotional toll of the probate process. There’s also the financial toll it can take on your loved ones to not receive assets in a timely fashion. Planning for the worst now by naming beneficiaries for your 401(k) plan assets can ensure a smooth transition of assets to the people who need them when you’re gone.
