Avoid This Estate Planning Mistake

Estate Planning, Investing, IRA
Avoid This Estate Planning Mistake

By Larry Weiss CFP, CPA

Learn more about Larry on NerdWallet’s Ask an Advisor

You’ve worked hard your whole life to provide for your family, save for retirement, and leave a legacy for your children and grandchildren. Now that you’re getting older, you’ve decided it’s time to put your estate in order.

So you sit down with your estate planning attorney and set up a will and living trust. You want to ensure that your hard-earned assets will benefit your loved ones — and that they won’t have to go through the expensive and time-consuming process of probate.

You think that everything is in order and you can relax. But not so fast: If you haven’t checked the beneficiaries of your accounts, you still have some work to do.

The consequences of not updating beneficiaries

Many assets have their own beneficiary designations, including retirement plans — such as 401(k)s, 403(b)s, pensions and IRAs — annuities and life insurance plans. Most people don’t check them, believing that their will or living trust controls their distribution. This is a huge mistake.

Here’s a memorable example: A few years back, a woman came to me for help with settling her deceased husband’s estate. They had been married for more than 15 years, and it was a second marriage for both of them.

We worked through many accounts, and it was generally smooth sailing. But her deceased husband had one large IRA containing more than $500,000 that still remained at a very large mutual fund family. So we gathered the important paperwork associated with this account, the quarterly IRA statements and their living trust, which established her as the beneficiary of all his assets. Then we called the mutual fund to discuss our options.

When we described the situation, there was a long pause. Then the customer service representative told us that, unfortunately, my client wasn’t listed as the beneficiary of the IRA. Instead, the beneficiary was her husband’s first wife, who he had designated 25 years ago when he established the account. The surviving spouse would receive none of the funds associated with his IRA.

Everyone agreed that this was contrary to his intention. Furthermore, the living trust indicated that all his assets and investment accounts were to be left to his current spouse. But because he’d never changed his beneficiary, his spouse would lose out on $500,000.

The limits of a will

How can this be, you might ask? Under the law, assets like IRAs aren’t subject to probate. They pass using the beneficiary designation and aren’t controlled by a will. The only time a will controls a nonprobate asset is if there’s no designated beneficiary or the beneficiary is the estate.

The Supreme Court has ruled that your beneficiary designations on insurance policies, IRAs and other retirement accounts will override the beneficiaries of your will in case of differences between the two.

How to protect your beneficiaries

What lessons can we learn from this case? The updating of beneficiaries should be included on your financial planning checklist:

1) Review the beneficiaries of your nonprobate assets every few years. Life changes and, over time, so might your beneficiaries.

2) Make sure the beneficiaries of your will and living trust are still appropriate. These documents will help your heirs avoid probate and allow you to establish beneficiaries for assets that don’t have specific beneficiary designations.

You’ve worked hard to create a legacy for your family. By taking these steps, you can avoid a simple but costly mistake that could damage that legacy.

Larry Weiss is a San Francisco fee-based financial planner affiliated with NEXT Financial Group Inc.