Individuals with high net worth, such as many medical professionals, tend to have significant retirement accounts and insurance policies with large death benefits. Anyone who owns a retirement account or insurance policy should be aware of the distinction between assets that pass under a Will and assets that pass outside of a Will.
One major category of assets that pass outside of a Will include those assets that pass to designated beneficiaries under a contract. Common examples are life insurance proceeds and retirement accounts, such as a 401(k), 403(b), traditional IRA or Roth IRA. Unless the designated beneficiary is the owner’s estate, the distribution of those assets is not governed by the Will.
In most cases when the estate is the beneficiary, proper advance planning was not done and the estate is consequently the beneficiary by default. While there are rare situations when the estate is the optimal beneficiary, that is usually not the case and negative financial effects often result.
Although insurance proceeds and retirement accounts pass outside a person’s Will, the related beneficiary designations should nonetheless be coordinated with the owner’s Will and overall estate plan.
For example, when a beneficiary shouldn’t receive funds outright due to age or disability, a common solution is for the beneficiary designation to direct the funds to a trust created for such beneficiary under the owner’s Will. Tax concerns or issues with creditors are other common reasons for directing funds to a trust.
Beneficiary designations are effective once they are recorded with the applicable insurance carrier or financial institution. Companies require submission of their own beneficiary designation forms. The degree of customization that will be accepted varies from company to company. Keep in mind that simply executing a Will does not address how benefits flow from an insurance policy or retirement account.
Moreover, while the Will does not govern the distribution of assets passing by beneficiary designation, the Will may direct how the death taxes attributable to property passing by beneficiary designation are paid. If the beneficiaries under the Will are not identical to the beneficiaries receiving assets outside the Will, unintended tax consequences could result if this issue is not addressed properly in the Will.
In the end, when you plan your estate, take into account the potential impacts on the beneficiaries of your assets passing outside the Will and explore proper means to minimize financial costs while ensuring clarity so that your wishes are implemented.