IRAs, 401(k)s, and life insurance generally avoid probate in Massachusetts when they have an effective beneficiary designation directing payment to someone other than the estate. The beneficiary usually works directly with the financial institution, retirement plan, or insurance company to receive the asset.
That can make the transfer easier for your family, but it depends on what the paperwork actually says. Having a retirement account or insurance policy doesn’t automatically mean the beneficiary information is complete, current, or coordinated with the rest of your estate plan.
A Will Does Not Override a Beneficiary Designation
A will generally doesn’t override a valid beneficiary designation. If your will leaves your estate equally to your three children, but your IRA names only your oldest child, you shouldn’t assume the IRA will be divided three ways. Subject to applicable law and the account’s terms, the beneficiary designation generally controls that account. This is why reviewing the will without reviewing the accounts can leave a substantial gap between the plan you think you have and the inheritance your family will actually receive. See the Massachusetts guidance on probate and nonprobate property.
When There Is No Beneficiary, or the Beneficiary Has Died
The issue becomes more complicated when there is no beneficiary, the named beneficiary has died, or the designation directs payment to the estate. Naming your estate generally brings the proceeds into the estate administration process. A missing or deceased beneficiary, however, doesn’t always produce the same result. The account or policy may identify default beneficiaries, and applicable law may affect who receives the money. We need to review those provisions before concluding that probate is required or that a particular relative is entitled to payment.
An Example: The Backup Nobody Named
For example, suppose a father names his wife as the primary beneficiary of his IRA and his children as contingent beneficiaries. If his wife dies before him, the contingent designations may allow the account to pass directly to the children. If he never named contingent beneficiaries, the answer depends on the account agreement and applicable rules. Naming a backup beneficiary gives the plan somewhere to go when the first person you selected can’t receive the asset, which is easy to overlook when everyone is healthy.
Employer Plans Have Rules of Their Own
Employer retirement plans also have rules that can limit your choices. In many 401(k) plans, a surviving spouse has protected beneficiary rights, and naming someone else requires properly documented spousal consent. You can’t assume that writing a different name on a form or changing your will will accomplish the transfer you want. Marriage, divorce, and remarriage are particularly good reasons to review the actual plan documents and beneficiary records. See the U.S. Department of Labor guidance on retirement plans and spousal rights.
Avoiding Probate Is Not the Same as Avoiding Taxes
Avoiding probate also doesn’t mean an inherited retirement account is free of taxes or withdrawal requirements. Distributions from a traditional IRA or 401(k) are generally taxable to the extent they represent untaxed funds, and beneficiaries have rules governing when money must come out. Those rules depend on factors including the beneficiary’s relationship to the owner and the circumstances of the owner’s death. Before cashing out an inherited account, it is worth understanding the available options and the income tax consequences of taking a large distribution at once. See the IRS guidance for retirement account beneficiaries.
Life Insurance: Income Tax and Estate Tax Are Different Questions
Life insurance death benefits are generally excluded from the beneficiary’s federal gross income, although interest paid on the proceeds can be taxable. Estate tax is a separate question, and property that passes outside probate can still be included when determining estate tax obligations. The fact that an insurance company can pay a beneficiary directly doesn’t settle every tax issue associated with the policy. See the IRS guidance on life insurance proceeds.
Where to Start
A useful review starts with current beneficiary confirmations for every retirement account and policy, including any contingent beneficiaries. From there, we can compare those designations with your will, trust, and intentions for your family. The goal is to make sure the person receiving each asset is the person you intended, with a workable plan if circumstances change before the money passes.
Not sure your beneficiary designations match the plan you think you have?
Book a free 15-minute consult call with our Lead Intake Coordinator, Nicole Ott, or give us a call at 978-657-7437. There is no charge and no pressure. The goal is simply to work out what your family actually needs to do next.
You can also download our free report, The Foundational 4 of Estate Planning.
