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The Critical Function of Naming Beneficiaries

February 26, 2024

Blog: The Critical Function of Naming Beneficiaries

 

Sometimes the most mundane aspects of financial services are the most critical, and naming beneficiaries is one that I consider to be crucial.  In fact, one of the most common errors I come across with new clients is how their beneficiaries were previously listed.  Failing to establish proper beneficiaries can lead to unnecessary tax consequences, legal proceedings, and, in many cases, your money ending up with people you had no intention of leaving it to.

In this blog, we’ll walk through some of the important things to consider when setting up beneficiaries.

First, what is a beneficiary?  Simply put, a beneficiary is someone (or an entity) who inherits assets from someone who has died.  When you open a qualified (retirement) account, a life insurance policy, or when you set up your will, you’re prompted to name a beneficiary.  In some cases, you might have several beneficiaries.

In most cases, people leave their assets to their surviving spouse or children.  But, even though that’s a simple solution, there are more things to consider. 

First, clarity is important so that you name the person and the relationship to you.  Instead of listing “children,” for example, it’s better to list each child by name.

Next, you need to consider whether the beneficiary has the legal capacity to accept the assets.  A child under the age of 18 may need a guardian or a trust to accept the assets.  This is a common situation in life insurance cases, when the insured (often a parent) names small children as beneficiaries.  This can lead to unintended court cases and legal fees.

Contingent beneficiaries, which are beneficiaries that would inherit assets if the primary beneficiaries were to pass before the assets were distributed, should also be named whenever possible.

Also, do any of the beneficiaries have special needs?  If so, even if they are over 18, establishing a trust for the beneficiary might be more appropriate than leaving the assets directly to them.

Another important consideration is naming beneficiaries in a blended marriage.  When someone enters into a marriage already having children, more consideration needs to be given to naming beneficiaries.  The lack of attention to this situation can lead to losing assets you had intended for your children.  Let me give you a hypothetical scenario:

Steve, who has two children, Michael and Emily, enters into marriage with Mary, who has one child, Robert.  Neither signs a prenuptial agreement or has a will establishing their beneficiaries.  Both Steve and Mary enter the marriage with $500,000 in assets. 

Shortly after the marriage, Steve passes away suddenly.  By law, since there are no documents to show otherwise, Steve’s assets can transfer to Mary instead of his children. 

Should Mary remarry (again, without a prenuptial agreement or a will), her new husband would receive all of her assets if she were to pass.  Steve’s children would have received none of the assets he accumulated.

The items listed above are some of the more obvious issues in estate planning.  There are many other considerations to be made when establishing beneficiaries, which is why I believe the most important takeaway you should have after reading this article is to consult an Estate Planning professional to be sure your beneficiary designations are appropriate for your intentions.

Of course, please don’t hesitate to contact me if you have any questions.

Regards,

Joe

 

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The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual.

Joseph A. Dispenza is neither a tax advisor nor an estate planning attorney.  See a tax advisor or estate planning attorney for specific tax or estate planning advice.