Choose Beneficiaries Wisely

Whom do you want to receive your worldly assets after you die? That's a question most of us don't think about in the course of our daily lives. In fact, it's human nature to avoid thinking about it at all.

The ultimate child-care choice

But then we buy a life insurance policy. Or we get a new job with a 401(k) plan. And someone plunks down papers in front of us that have blank lines for filling in beneficiaries' names. Many people just leave them blank, for whatever reason.

"Sometimes it's because you're happy to have that new job, and you go through so many things in the first week of employment," points out Robert Tull, a certified financial planner in Chesapeake, Va. "Then they give you a pile of paperwork, and you just don't bother to fill in the beneficiaries" for a company retirement or life insurance plan.

But financial experts say there are many compelling reasons for naming beneficiaries. And it shouldn't be a decision you make in haste to clear away the paperwork. "This is one of those areas that's so simple to do right," says Marcee Yager, a certified financial planner in San Mateo, Calif., "and so simple to do wrong."

To help you do the former rather than the latter, consider these frequently asked questions about choosing beneficiaries.

Why bother to name beneficiaries?
When you name beneficiaries for your life insurance policy, 401(k), or other retirement plan, the money goes directly to those individuals after your death. If you name no beneficiaries, the money probably goes to your estate, and a probate court distributes your assets according to a will. Probate can be costly and time-consuming. Plus, depending on estate size, your heirs may have to pay estate taxes, which could devour up to 50% of the estate's assets.

Won't my will take care of this?
Your will takes a back seat to beneficiary designations. Thus, if you name someone as the beneficiary of your life insurance policy, that person gets the money no matter what your will says. In other words, don't assume your will can "fix" any old beneficiary designations you've either forgotten about or no longer want in place.

Are there legal requirements about whom I can choose?
A beneficiary can be either a person or an entity, such as a charitable organization. Federal law mandates, however, that you name a spouse as beneficiary of a qualified retirement plan, such as a 401(k), unless the spouse signs a waiver relinquishing rights to the inheritance. No such rules exist for individual retirement accounts (IRAs); you can choose any beneficiaries you wish. (See the Home & Family Finance Resource Center article about new rules regarding IRA beneficiary designations.)

A will takes a back seat to beneficiary designations on your life insurance policy and retirement plans.

Is a primary beneficiary enough?
No. Also name contingent beneficiaries, who would inherit the money if something happens to the primary beneficiary. You'd want to be sure, for example, that your surviving children receive your assets in case both you and your spouse, the primary beneficiary, die in an accident.

Is there a limit to how many beneficiaries I can name?
Often people see two lines for contingent beneficiaries on their life insurance or retirement plan forms, and assume they're allowed to name only two. "If you have three kids and two spaces," Yager explains, "just write the three names down. Fill out a separate sheet of paper and attach it. You can have any number you want." Likewise, you may have as many primary beneficiaries as you wish.

What if my children are minors?
If you name children as beneficiaries, someone must be named to manage the assets for them. Some experts say it's better to set up a trust and name the trust as a beneficiary. You also can choose an adult to act as trustee, and you can spell out in detail when and for what purpose the trustee is to withdraw funds. "I have mine set up so that my children get a third of the money at age 21," Tull says, "another third at 25, and the balance at 30 ... You can make it as restrictive as you want. I've seen some, for example, that require an adult child to bring in a W-2 to prove employment in order to get a payout every year." (See "The Ultimate Child-Care Choice.")

What happens when I remarry?
It's time to update your beneficiaries. But people often don't, experts say. Thus, even years after remarriage, a first spouse still may be listed as a beneficiary for life insurance or a pension plan. "People are happy about their second marriage," Tull notes, "and they just don't want to bother with making the changes. They figure they'll get to it later."

"This is one of those areas that's so simple to do right, and so simple to do wrong."

Another mistake is overlooking children from a previous marriage. If you leave everything to your new spouse and he or she dies, everything will go through the spouse's estate. Children from your first marriage may be left out entirely. The only way to avoid that is through proper planning on your part while you're alive.

Are there special precautions if a beneficiary is receiving government benefits?
Leaving money to people receiving disability benefits or living in a nursing home under Medicaid could cause them to lose benefits. The extra income might make them ineligible. Much depends on individual circumstances. See an attorney to devise a solution.

Once I pick the names, I'm done, right?
Nope. Regular review is imperative. "Whenever something significant changes in your life," Yager advises, "take some time to go through your papers. See what's affected by this major change, whether it's losing your job, or getting married or divorced, or whatever." To make this task easier, or even possible, you'll need to keep copies of the documents on which you listed beneficiaries. Some experts recommend creating one master list, so you can see at a glance what you have decided to leave to whom—and where any changes may be necessary.

Published October 8, 2001