Traditionally, life insurance policies and retirement accounts provide for owners to designate specific beneficiaries at death. When completed correctly, these allow the insurance proceeds or accounts to pass directly to the named beneficiaries without delay. Recently, investment advisors have encouraged clients to name beneficiaries for their standard investment accounts. In some cases, the advisors imply that the failure to do so is a ‘gap’ in the client’s planning. Is it?
It all depends on the client’s particular estate plan. If he or she has only one heir, the designation of the investment account can be a simple way to convey the asset. However, if the plan’s intent is to pass inheritance to several children or others, the use of designations for an investment account can cause problems. Assume a client wishes to leave all assets to children in equal shares. The designation could state the names and percentages desired. What if a child dies prematurely? Would that share pass to any grandchildren? If so, what if some are minors? Who would control that portion of the investment account? If the plan calls for a child’s share to be held in trust, naming the trust can be difficult because in most cases the terms of the trust are set forth in the client’s Will. The investment advisor will need to have certainty as to what Will applies. If the Will is later updated but the designation is not, a dispute can arise as to which Will should govern that portion of the investment account.
If all accounts and assets are beneficiary designated such that the estate has no funds, paying final bills and taxes becomes a problem because no funds are available to do so.
Some clients may name one child for one account and another for a different account. Depending on the investment returns and uses of the accounts, the values of each account may diverge over time, thereby causing the children to receive unequal shares.
Generally, it is preferred to allow investment accounts to pass into the estate. The Will can then cover all aspects of ‘what ifs’ such as how to handle funds for a minor, or unexpected deaths of beneficiaries. The one exception are retirement accounts which should have individuals, or certain qualified trusts, designed for them, as beneficiaries. Naming an estate for retirement accounts is largely not recommended due to the applicable income tax laws.
Comprehensive estate planning includes specific recommendations for how to complete beneficiary designations; they are an essential part of the individual’s estate plan and need to be carefully considered. Using beneficiary designations without coordination with the plan can disrupt the individual’s overall goals.