#32 | Having a Will is Not a Complete Estate Plan

Jon “Jag” Gay: Welcome to the Protecting and Preserving Wealth Podcast with your host, Bruce Hosler. I am Jon Jag Gay. On our show today, Bruce, I see our topic here. We’re talking about how having a will is not a complete estate plan. Why this topic today?

Bruce Hosler: Jon, I had a friend send me an article out of the Wall Street Journal this last week talking about the importance of beneficiary forms and making sure that they’re filled out correctly.

Jon: Okay, we touched on this a little bit in a previous episode, but as a refresher for our audience, Bruce, what kinds of accounts use beneficiary forms?

Bruce: Jon, there are all kinds of accounts that require beneficiary forms. Let’s just start with the basics. Your 401(k), pension plan, IRAs, annuities, life insurance that pays on death accounts at banks or transfer on death accounts at brokerage accounts. All of these types of accounts use a beneficiary form. What’s most important about that to our listeners that they need to understand is that a beneficiary form will actually trump your will or your trust if you have one.

Jon: That is an important point. I didn’t know that. You mean to tell me that if I have a will or trust and it leaves all the money to, say, my kids from my IRA, the beneficiary form would control where that money goes instead of my will if that beneficiary form is designated to somebody else?

Bruce: Jon, that’s exactly right. That’s what I’m trying to say. The beneficiary form works by operation of law, which is a legal term, meaning that it is a contractual obligation that is in control and trumps whatever wishes are written down on your will or your trust.

Jon: In that sense, Bruce, what you’re saying is a beneficiary form is more powerful than a will or a trust.

Bruce: Yes, it is, and that’s the beauty of it, because without having to spend any money on attorney’s fees to amend your will or your trust, you can make changes on who you want your beneficiaries to be. Additionally, I love beneficiary forms because we can use cascading beneficiaries. I imagine that a lot of our listeners have never heard anything like that, but let me explain. When we set up a beneficiary form, we can create a primary beneficiary and then a contingent or secondary beneficiary. We can also name a tertiary or beneficiary standing in the third position in line.

Jon: I want to make sure I have this right, Bruce. We have the primary beneficiary, number one, the secondary beneficiary, number two, the tertiary beneficiary, number three. That’s interesting. Why would you use a tertiary beneficiary?

Bruce: Let’s just say that I have a large IRA. I could name my wife as the primary beneficiary. I could name my children as the contingent beneficiaries, and I could name a trust or a UTMA, that means Uniform Trust to Minors Act account, as the beneficiary of my grandchildren as the tertiary beneficiary. Now, the way this could work is upon my death, if my wife didn’t need the money, she could disclaim. If my children didn’t need or want the money or specifically they wanted to leave it to the grandchildren, they could disclaim as well as contingent beneficiaries. Then in that case, the funds could be left to my grandchildren without my wife or my children having a taxable event.

Jon: That sounds like some pretty powerful planning. I’d imagine some people though could have problems if they don’t keep these forms up to date. Imagine someone having a spouse die or going through a divorce. I’d imagine there are problems you see all the time in this area, Bruce.

Bruce: There are tons of problems in this area, Jon. The first one is if you are married, most retirement plans and IRA accounts will defer to the current spouse as the primary beneficiary. Perhaps even if you have named someone else as the primary beneficiary instead of your spouse. In many cases, the only way to name someone other than your spouse as the primary beneficiary of a retirement account for an IRA is to have the authorized disclaimer signed by your spouse after you are married. This cannot be a prenuptial disclaimer because your spouse is not yet your spouse before you’re married. They cannot have the ability to disclaim their rights as a spouse until after you’re married.

Jon: I imagine the logical question here is this is a big deal for families that are second marriages, right?

Bruce: Oh, it can be. Usually, though, it just requires some planning to make it a lot cleaner. Let me give you an example. Let’s say there’s someone on a second marriage and they want to leave some of their money to their children by the first marriage and they want to leave the other money to their new spouse. The best way to take care of this split is to take the IRA account and split it into two accounts and name the spouse as the primary beneficiary on one account and to name the children from the first marriage as the primary beneficiaries on the second account with the disclaimer of the spouse on that second account.

Jon: Got it. In the last few years, there have been a lot of mergers and acquisitions in the financial institution space and I’ve heard a lot of people who’ve had their beneficiary forms lost in all these mergers. How can our listeners make sure that they have their beneficiary forms secured and assured that they have the correct forms in place with the current financial institution?

Bruce: One of the important jobs that we have as financial advisors is to check with our clients every year and update their beneficiary designations as changes happen in life. A new grandbaby is born. A son or daughter gets married. A client loses a spouse. Someone goes through a divorce or needs to update all of their estate planning paperwork. We maintain updated copies of the beneficiary forms and for many of our accounts, the clients can see online who the named beneficiary is as well. This is where a primary financial advisor becomes very helpful for clients as they age, helping them make sure that they keep all their estate planning documents current and up to date.

Jon: Should our listeners keep a copy of their beneficiary forms they’re assigned to?

Bruce: Yes, they should. Even more importantly, they should verify that the financial institution has the same copy of the beneficiary form. Yes, an easy way to make sure that this happens is to update the beneficiary form with a new one and send it to the financial institution and then verify that they have in fact received it. There’s no cost or downside to sending an updated beneficiary form to your financial institution.

Jon: Okay, question, Bruce. What happens if a client has put their wishes in a will differently than they are in the beneficiary forms? Who receives the benefits of the account?

Bruce: Jon, this can lead to a very sad story. There are many court cases, especially regarding IRA accounts, and in every case, the beneficiary form trumps the will or the trust. It can even seem very unfair when it may name an ex-spouse on a pension form or perhaps it names a current spouse rather than the children of a previous marriage. In almost every case I’ve seen, the beneficiary form will trump what the will or the trust say. It doesn’t matter how much money they spend fighting it out in the courts. The courts have always sided with the beneficiary form.

Jon: Wow. All right, what about people that have failed to name beneficiaries on the account? Where do those funds go?

Bruce: Generally, the financial institutions that is holding the account will have default rules and regulations that will address who will be treated as the beneficiary of that account. Sometimes it’s a current spouse. Sometimes it may be blood relatives. This is why you need to make sure that you always name beneficiaries on your accounts, folks, so that you have a beneficiary designation form properly filled out.

Jon: Yes, I can’t imagine you just want to leave it to the chance of whatever their internal rules are. That’s a scary thought.

Bruce: Yes.

Jon: Bruce, just so our listeners don’t miss this because this is so critically important, let’s go through that list again of some of the forms they need to be aware of that are going to have these beneficiary designations we’re talking about today.

Bruce: Okay, so let’s start first with all kinds of retirement accounts. Pensions, 401(k)s, IRAs, Roth IRAs, Roth 401(k)s, 403B plans, 457 plans, SEP, and simple IRA accounts, deferred compensation plans, defined benefit plans, and any other type of retirement account will generally have a beneficiary form. Now let’s consider the insurance products, life insurance, annuities, both IRA and tax-deferred annuities, long-term care policies, disability policies to name the primary insurance accounts that would have a beneficiary designated form. Let’s not forget 529 college savings plans and health savings accounts. Additionally, we need to consider bank accounts that will use a POD or a pay on death, and those on individual or joint brokerage accounts also. You remember our brokerage accounts that are individual joint, they could have a TOD or a transfer on death designation. Both POD and TOD accounts use beneficiary forms and transfer the balances upon the death of the account owner via operation of law.

Jon: If these forms are so important, where should our clients keep a copy of these beneficiary forms?

Bruce: Just like with a will or a trust, it’s a good idea to keep a copy of your beneficiary forms with your other estate planning and legal documents altogether.

Jon: Okay, here’s another question for you, Bruce. Do listeners have to use the financial institution’s beneficiary forms to name a new beneficiary or can they just send a letter?

Bruce: Some financial institutions may accept a letter of instruction, but I would recommend against that. Those institutions really like to use their own beneficiary forms.

There’s no cost or delay or hassle in changing beneficiaries using their forms, so it’s always the best practice to use the beneficiary forms by the sponsor financial institution, whether that be an IRA custodian, an insurance company, or any other sponsor of a beneficiary type account.

Jon: How often should listeners check on their beneficiary forms with their financial institutions?

Bruce: We recommend reviewing them at least annually to make sure that their wishes are still current with what’s on the forms. They don’t need to necessarily submit a new form every year, but this is where working with your financial advisor to review what is on file and then updating that if you’ve had any changes in your life that makes it very important to make a change.

Jon: Speaking of that, how do listeners make sure that their beneficiary forms work in sync with their other estate planning documents?

Bruce: This is where working with your financial advisor and your estate planning attorney become very important. Certainly, by using different accounts and different beneficiaries between your will, your trust, and your beneficiary forms, it needs to be coordinated so they’re achieving the goals that you’ve set out as far as your estate and legacy planning wishes. Now, there are some very neat opportunities that can give you the flexibility that you seek if you work these together and coordinate the different accounts and ownership that you have, whether it be illiquid assets like real estate and your liquid accounts like bank accounts, retirement accounts, and the proceeds from life insurance. The other issue that we like to make our clients aware of is different accounts have different tax consequences.

Jon: That last sentence sounds like an entire podcast episode in and of itself, but in brief, what do you mean by that?

Bruce: Absolutely, we’ll have to talk about that in the future, Jon. If you leave your traditional IRA to one child and then leave the tax-free proceeds of a life insurance policy to another child, assuming that the two amounts were equal, the net result is anything but equal or even fair, period. Now perhaps one child doesn’t have much income and doesn’t need the tax shelter and you’re doing that on purpose. As long as you’re coordinating that together and it accomplishes your wishes consciously, then that’s fine. But if there are unintended tax consequences, you should be aware of those as well.

Jon: My big takeaway here, Bruce, is changing these forms and updating their forms doesn’t have a cost associated with them in most cases, but the cost associated with not updating these forms is really immeasurable.

Bruce: It could be significant and absolutely the way we help our clients with this is we call it our second opinion service and this is an opportunity for us to consult with prospective clients about their estate planning and legacy wishes and alert them to any potential problems that they may have with their current beneficiary planning and estate planning documents.

Jon: I know this is an area that you do a lot of work with at Hosler Wealth Management, Bruce. If our listeners want to get a hold of you or your team to set up that second opinion service appointment, what are the best ways for them to reach you?

Bruce: Certainly they can reach us on the web at our website at www.hoslerwm.com. They can call us in Scottsdale at 480-994-7342 or in our Prescott office at 928-778-7666.

Jon: Again, my big takeaways here are estate planning, these are mistakes you can’t undo because if it’s a mistake, you’re gone. So you got to take care of it before and not after. Thanks as always, Bruce. Really great information today.

Bruce: I hope people will call us and let us give them a second opinion. I think it can benefit a lot of families. Thanks, Jon. [music]

Jon: Securities and advisory services offered through Commonwealth Financial Network, member of FINRA/SIPC, a registered investment advisor. Forward-looking commentary should not be misconstrued as investment or financial advice. The advisor associated with this podcast is not monitored for comments and any comments should be given directly to the office at the contact information specified.

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