The great American generational wealth transfer is underway, requiring more thought, planning, and strategy than ever before.
According to Forbes, “Baby Boomers born between 1946 and 1964 are the wealthiest generation on the planet” – and are poised to transition that wealth over the next decade and beyond.
Fifty to 80 years ago, the average American’s wealth was comparatively simple. Pensions, historically the mainstay of retirement, ceased paying out when the original recipient or eventually their spouse died. Upon death, one might leave a house, car, personal property, savings accounts and maybe some stocks or bonds to heirs via a will. Typically, the oldest child became executor and worked with a local attorney and banker to finalize the estate.
Today, settling an estate can be far more complex. Pensions, a relic of the past, were replaced by 401(k) and Individual Retirement Accounts (IRAs). Responsibility for retirement saving shifted from companies to individuals. These new saving vehicles led to the rise of the use of designated beneficiaries – individuals named on accounts to receive funds directly upon death.
Beneficiary designations can be an effective estate planning tool, but they sometimes complicate estate administration, particularly in Washington State. Most people don’t realize that designating beneficiaries on accounts supplant wills and trusts every time. Unless accounts with a transfer on death directive and a will are aligned or carefully calibrated, naming designated beneficiaries can lead to unintended consequences.
Washington is among 17 states that require an estate tax filing. The threshold for filing in Washington is and taxes must be paid before distribution to heirs. Reportable assets include personal and real property, IRAs, life insurance proceeds, bank and brokerage accounts including accounts designated directly to beneficiaries. With the high value of real estate in Washington, the exemption threshold is often reached.
Unintended Consequences of Beneficiary Designations
- If, to avoid probate, all assets, including real estate, are designated to beneficiaries, and those assets exceed $2,193,000, a significant problem arises. With no probate, an executor of the will is not appointed. Who, then, will oversee filing the estate return and payment of taxes? It is exceedingly difficult to request money back from beneficiaries to pay taxes.
- If beneficiaries are named on all liquid assets but not real property and other liquid assets (i.e., a closely held business), the executor might have to advance money to cover funeral costs, final income tax filings, home repairs or business expenses prior to selling or transferring these assets.
- If beneficiary designations are not reviewed and updated regularly, funds could be paid to someone for whom they were no longer intended.
- Failure to inform beneficiaries they have been named can significantly delay distribution, or the accounts could languish and revert to the state as unclaimed property.
- Outright transfer on death accounts can jeopardize disability benefits, put money directly into the hands of someone who struggles to manage it or leave a trust unfunded, counter to the wishes of the decedent.
How to Avoid Unintended Consequences
- When working with your estate attorney, apprise them of ALL assets and all current designated beneficiaries. Only you know your total picture and net worth.
- Simplify accounts. Multiple checking, IRAs and brokerage accounts does not equal a diversified portfolio. Having assets in less accounts will make estate administration much easier!
- Review named beneficiaries frequently to ensure they are still appropriate.
- Inform beneficiaries in advance, you have designated them. Upon your passing, this information will ensure their ability to claim the inheritance.
- If you have real property or a business, provide liquidity to the estate for ease of management and transition. A life insurance policy, bank or brokerage account that does not transfer on death works.
- If your estate is nearing the Washington estate tax reporting threshold, have a plan to ensure your executor can pay taxes.
- Connect your attorney, financial planner, and accountant throughout the estate planning process. Many highly educated, successful people do not fully understand their own assets. Investing upfront by having key advisors plan together, allows you to avoid conflicting advice along with assumptions about how things will unfold upon death.
With varied options to save, invest and pass a legacy to future generations, designating beneficiaries on accounts is not always the right thing to do. It can potentially handicap your executor and derail your plan. As you and your trusted estate professionals craft an estate plan, use named beneficiaries to your advantage, ensuring your legacy will be passed to heirs as intended.
Original article was authored by Amy Egtvet and published in Puget Sound Business Journal, March 2024.