Introduction

Like many Americans, you make contributions to a 401K plan with the idea that you will get to reap the benefits when you retire. However, if you were to pass away prior to that time, do you have a plan? Do you know who you’d like your money to go to? This is your beneficiary. They would become the legal owner of your 401K assets. While the thought of life after your passing may feel uncomfortable, it is important to have a plan. In this article, we will go over the most basic information you will need in order to begin the process of naming your beneficiary. We will also go through the beneficiary rules for 401K as well as the options your beneficiary will have when they receive your assets.

Type of Beneficiaries

There are two types of beneficiaries. Not only will you need to designate a primary beneficiary but you will also name a contingent beneficiary in case something were to happen to your primary.

Primary Beneficiary: A primary beneficiary is the designated person or entity that will receive the assets of a 401K plan upon the account holder’s death. If you are married, your primary beneficiary is presumed to be your spouse unless you specify otherwise and your spouse agrees in writing.

Contingent beneficiary: A contingent beneficiary is the designated person or entity that will receive the benefits of a 401K plan in the event that the primary beneficiary dies before the benefits are paid out.

Important Note

You can specify more than one person in each category, dividing your inheritance, for example, between your spouse and children. The inheritance doesn’t have to be split equally between each beneficiary however it does need to add up to 100% of the amount.

It is important to ensure you have a plan for your beneficiaries in the unfortunate event that something does happen to you. If you do not designate one or more beneficiaries, then your 401K will go to probate court. Probate court is a process where the court will have to decide how to distribute your assets. This is a process that is usually long and drawn out. It can also be a painful process for your loved ones and therefore it is strongly recommended to name beneficiaries in your 401K plan.

Beneficiary Rules for your 401K

When your spouse passes away, inheriting a 401K is different from inheriting other kinds of assets. The IRS has special beneficiary rules for 401Ks. For example, a named beneficiary, such as a spouse, must go by when deciding how to handle an inherited 401K and how much tax to pay after receiving retirement assets. It is important to ensure you follow all IRS regulations for assuming ownership of an inherited 401K. When a spouse inherits a deceased spouse’s 401K assets, they are given more flexibility than other designated heirs. They have the option to leave the money in the spouse’s retirement account, roll over the money into an IRA, rollover the money into an inherited IRA, or even withdraw all the inherited 401K money.

Generally speaking, the inheritor of your 401K assets will need to contact the plan administrator. They will be able to tell your inheritor what their options are. In some detail however, these are the three main options the beneficiary can choose from:

The Three Options

Leave the money in the plan: The inherited money can be kept in the spouse’s retirement account. Without incurring the 10% early withdrawal penalty tax, you can withdraw money from the inherited 401K. However, you will be required to pay taxes on the withdrawal. You must continue making distributions if your spouse was already taking the required minimum distributions (RMDs) as well.

Rollover to an inherited IRA: The objective of an inherited IRA is to hold transferred funds from an inherited 401K. Without paying an early withdrawal penalty, you can move the inherited 401K funds to an inherited IRA and begin drawing distributions. The inherited IRA’s RMDs may start based on the single life expectancy table. Additionally, you must select beneficiaries for this account.

Rollover to your IRA account: If you have an IRA, you could rollover the 401K into the IRA without having to worry about any tax implications. Remember, once you transfer the funds into your IRA account and make a withdrawal, the transaction will be considered a regular distribution and you will owe taxes, in addition to a 10% early withdrawal penalty.

Other than your spouse, who else can you name as a primary beneficiary?

Another option is naming your children as beneficiaries. They can either be contingent or primary beneficiaries. If you do make them a primary beneficiary, you will need to note that they will not be able to withdraw any assets if they are still minors; instead a guardian must be provided to oversee the use of the funds. Alternatively, the court can appoint one for them.

What if you don’t have anyone you can name as the beneficiary of your estate?

So do you not have anyone you can name as the beneficiary of your 401K? When this happens, the money in the account will be distributed to your estate upon your death. Alternatively, you can donate your 401K instead of naming a beneficiary if the 401K plan allows for this type of donation. There are a few reasons why it is a good idea to name a charity as the beneficiary of your 401K account.

First, if you name a charity as the beneficiary of your 401K, the account will not be subject to probate. This means that the account will not have to go through the lengthy and expensive process of probate before the charity can receive the money. Secondly, if you name a charity as the beneficiary, the account will not be subject to estate taxes. This means that the charity will receive the full amount of the account, without any taxes being deducted. Finally, if you name a charity as the beneficiary of your 401K account, the account will not be subject to any creditors’ claims. This means that the charity will receive the full amount of the account, even if you have creditors who are trying to collect on your debt.

Donating to a Charity

There are steps you will want to take to name the charity of your choice as the beneficiary of your 401K account.

  1. First, check with your 401K plan administrator to see if they allow for beneficiary designation.
  2. If so, obtain the necessary paperwork from the plan administrator.
  3. Fill out the paperwork according to the instructions provided.
  4. Make sure to include the name and contact information for the charity you have chosen as well as their tax identification number so that you can include this information on the beneficiary designation form. This will help ensure that the proper organization benefits from your gift.
  5. Lastly, submit the paperwork to the plan administrator.

The Bottom Line

Reviewing your beneficiary selection for your 401K yearly is a good idea. This is because the beneficiary designation form is on file with the plan administrator. Changes to it will not be processed promptly. In addition, if your designated beneficiary dies, the form on file with the plan administrator will not update automatically. Life circumstances change and you may need to update your beneficiary information.

So, who will inherit the assets of your 401K? This is a significant question that you need to be thinking about. Recognize the significance of the names written on the contract, and keep in mind to check them annually. Consult an estate-planning specialist or tax expert to learn how different beneficiaries’ circumstances may impact designation choices.