Understanding Plans

Beneficiary Designations and Estate Planning

February 24, 2012
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I’m in the midst of preparing an epic post on FMLA, but an accumulation of events in my personal and professional lives has inspired me to address some basics of estate planning that are tied to benefit plans. A lot of this can be rather depressing – some of the scenarios we talked about in my law school class on wills and estates were pretty heart-wrenching – but these are things that you should think about to make sure your property is distributed the way you want upon your death.

I work in the human resources field and spend a lot of time on benefits administration issues. Sadly, this sometimes includes addressing issues when an employee dies. In most cases, employees leave their affairs in reasonable order, but we’ve had a few cases in the past two years – including a death about a week ago – that have been unnecessarily complicated because of benefit designation problems.

A friend also recently lost her fiancé a few months ago. He was only 30 years old, fell unexpectedly ill, and died after several months of intensive treatment. He owned his house jointly with his mother, has left enormous medical bills, and had no will. So my friend, who had started to combine her household with her fiancé’s, has no legal standing relative to the estate and still doesn’t know if she’ll be able to claim any of her personal possessions from the house. It’s a mess.

I’ll address two specific benefit types – life insurance and retirement plans – as well as touch on issues related to minors and wills. When it comes to these latter two topics, in particular, your best option is to contact an attorney who specializes in estate planning to review your particular situation (and check to see if your employer offers an Employee Assistance Program that can help you prepare a will). Every state has slightly different laws about wills, inheritance, and the handling of funds and guardianship for minors. I’m simply trying to raise awareness about the need to look at these issues.

Life Insurance

One of the benefits of having a life insurance policy is that the funds usually get to the beneficiaries upon your death pretty fast. It avoids probate and is generally not subject to federal taxes. This can be a real boon when your loved ones are faced with funeral expenses and are dealing with a major upheaval in their lives. But you have to have your beneficiaries properly designated to take advantage of these features.

A life insurance policy, whether group or individual, is considered a contract and so is administered under state contract law. There are generally no requirements to name anybody in particular as a beneficiary, but there are also no automatic beneficiaries if you don’t list them.

But let’s address some terminology that I’ve seen trip up our employees:

  • Beneficiary: A person or entity who will get the money from your life insurance if you die. A beneficiary can be an actual person or an organization such as a college or your house of worship.
  • Primary Beneficiary: The person or persons first in line to get the life insurance funds. You can give it all to one individual or you can divvy it up among multiple parties. Most beneficiary designation forms have multiple lines for this purpose where you can enter a percentage. Just make sure it adds up to 100 percent.
  • Contingent Beneficiary: The person or persons who will get the life insurance funds if all primary beneficiaries die before you do. As with the primary, you can split the proceeds among several parties.

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Unless state law or your insurance policy say otherwise, the estate of a primary beneficiary does not inherit the person’s share of your life insurance if they predecease you: that person’s share will be distributed among the surviving primary beneficiaries. So if you list your three sisters as your primary beneficiaries but one of them dies before you do, her children don’t automatically have a right to a one-third share of your life insurance. You would have to change your beneficiary form to add them as primary if you want them to get funds upon your death. If you don’t update your beneficiary designation, your surviving two sisters would share the proceeds.

It’s smart to have a contingent named to account for the worst case scenario. For example, it’s very common for couples to name each other as primary beneficiaries, but should both die within a short period of time (in an accident, for example), the longer surviving party will receive the other’s life insurance proceeds with his/her own policy paying to any named contingent(s). If there is no contingent, the funds will go to the general estate to be distributed through probate.

A big problem can arise, however, if people don’t fill out the primary and contingent sections properly. Maybe a person doesn’t know exactly what the terms mean, or maybe s/he simply doesn’t notice how the sections of the beneficiary form are labeled.  The result can be a beneficiary designation that’s unclear and must be interpreted by the plan administrator or insurance company.

In a recent case at work, the employee put his daughter as primary with his two sons as the contingent beneficiaries. Since they’re all minors (an additional wrinkle I’ll address below), it seems odd that he wouldn’t provide for all of them – and based on his conversation with my assistant at the time he was completing his benefit forms we know he intended to leave the life insurance to all of them equally. He simply completed the beneficiary designation form incorrectly.

Fortunately, the employee completed the “percentage share” field on the form for each child, giving each one third. Without this information, we would have had a much harder time getting the insurance company to agree with our interpretation of equal division: his daughter would have received everything with the sons being left out. This distinction is important in this case since his daughter is from his first marriage (the first wife died from childbirth complications) while the boys are from his current relationship.

The moral of the story? Pay attention to the forms! Every insurance company has a bit different design, but Primary and Contingent should be clearly labeled. Also make updates as your circumstances change. Do you want to split the proceeds among your children? Make sure you complete a new designation form if you have another child.

And all of this applies whether the forms are paper or electronic! If the latter, you have even fewer excuses to keep everything updated.

Retirement Plans

Whether it’s a 401(k), 403(b), or some other retirement savings or income vehicle, this is a benefit that also needs attention in terms of beneficiary designations. With most of these plans, you have the added wrinkle of ERISA, a vast federal law first passed nearly 40 years ago that regulates retirement plans (among other benefits). In most cases, ERISA provisions trump – or overrule – state law with regards to plan administration.

One important thing to remember is your employer might not be able to help monitor your beneficiary designations. Depending on the policies of the company that holds the funds (such as Fidelity or Vanguard), your employer might not be able to see who you have listed. YOU have to take responsibility.

The concepts of Beneficiary, Primary, and Contingent that I discussed above with regards to life insurance also apply to retirement plans. But with an extra twist, of course.

The single biggest consideration when it comes to naming your beneficiaries is that, if you’re married, your spouse is automatically entitled to 50%. If you want to leave the funds in such a way that your spouse would get less than 50%, he or she must sign a waiver of their rights to that 50% share.

Note that this requirement is not yet fully explored in a legal sense in the context of same sex marriage. Since the Defense of Marriage Act (DOMA) is still in place as of this writing, the federal government does not officially recognize same sex marriages, even though they are perfectly legitimate under state law in places such as Massachusetts and Iowa. Make sure your beneficiary designations are complete and clear to ensure your spouse receives the funds you intend.

We have a situation at work that is one of the messier I’ve encountered and that demonstrates how important it is to pay attention to the details. Failure to properly update his beneficiaries on his retirement plan will potentially cost the children of one employee thousands of dollars in legal fees to straighten out the mess.

We had two long-term (and highly paid) employees who were married to each other. As we learned shortly before the husband’s death, he had been previously married and divorced over 30 years ago. The man and his second wife – also our employee – had two children. Over the years, they separated but never divorced and cooperated well in raising their children who are now young adults.

Roughly 10 years ago the wife was diagnosed with cancer, and she passed away a few years later. The husband had no need for the funds in her retirement account, so, as part of her estate planning, he had waived all rights to the money. Their children shared the proceeds equally upon her death.

Sadly, a few years ago he was also diagnosed with cancer and passed away less than a year later. He had always been notoriously bad with his paperwork over the years, and, as we learned upon his death, that carried over to his beneficiary designations on his retirement plan. Despite his knowing he should make sure everything was in order – his late wife was the one who was meticulous with this sort of thing – he never quite got around to it. He had even mentioned to one of his kids that he should make sure his beneficiaries were right.

Well, we discovered that the first wife from all those decades ago had been named as his beneficiary on his initial election forms, and he never changed it. Now his children have to work out with the lawyers and the plan vendor who exactly is entitled to this pretty significant pot of money (nearly a million dollars if I recall correctly). They don’t know if this woman is even still alive, what her current name might be, and what the terms of the divorce were. Clearly their mother would have had a claim on at least 50% of the account were she still alive, but their own direct claim is less certain.

I still don’t know how this case will turn out. As far as I know the children are still working on it.

Lesson? Check your beneficiaries!


The issue of naming minors as beneficiaries or in a will deserves a quick mention. PLEASE check with an attorney about exactly what the best options are since so many of the details vary from state to state.

Minors – children under age 18 – cannot independently manage money or enter into contracts. A parent or guardian must, at least on paper, be involved. This includes receiving funds from an inheritance.

Depending on the state and family situation, funds might be simply put in the child’s saving account, or something as elaborate as a court-monitored trust might have to be established. Do your best to anticipate the particulars of the situation you’re dealing with – and be sure to address the issue with an attorney if you’re doing a will.

The big thing is not to assume how everything will work. Do your research. And, yes, it’s time for another story from what I’ve seen at work.

An employee named his mother, brother, and niece as beneficiaries on his life insurance. He died very unexpectedly about 2 years ago. His niece was 12 at the time.

Both of the girl’s parents are alive, so you would think handling the funds would be pretty easy. Well, no. Seems the parents are split, and they’re arguing about who will handle the money and who has to set up the trust account. Still.

The employee’s mother and brother received their shares within a month or so of his death. His niece has yet to receive her funds.

As for the first story I told you in the Life Insurance section about the man with three children, it’s much cleaner. The daughter has been mostly raised by her maternal grandmother who already has legal guardianship, while the mother of the two boys is their sole surviving parent.

Wills and Medical Directives

Working in Human Resources, I don’t get involved in wills and such. I’ve been thinking about this issue more because of a situation a friend is in that shows you’re never too young to think about things like power of attorney, medical directives and a will.

The terminology will vary a bit from state to state, but here’s how I’m using these terms:

  • Power of Attorney: A legal document you use to designate who will handle your financial affairs when you’re not able to do so.
  • Medical Directive: A legal document you use to designate who should make medical decisions on your behalf when you’re not able to do so.

As I mentioned in the introduction, a friend’s fiancé died recently leaving behind no will, a house owned jointly with his mother (and that holds a bunch of my friend’s personal possessions), and a pile of medical bills. He and my friend were living in a temporary location while the house underwent repairs after being flooded, but it was almost done and so they had started moving things in from storage.

What’s going on is a complex mix of property, intestacy (when you die without a will), and indebtedness law, all pretty much state-specific. His mother will most likely be named executrix of the estate (as of my most recent conversation with my friend, nothing had happened yet with getting everything to the probate court), and so my friend will have to work with her to claim back the personal property that’s in the house and hope that the creditors of her fiancé’s estate won’t care about those small things. (I think she’ll be fine in the end: what’s a used XBox against $500K in medical bills?)

Additionally, while he was in the hospital, even though he had verbally told them (while he was still able) that my friend should make the medical decisions, the medical staff continued to defer to his mother. He had no medical directive on file, and so the hospital clearly felt they had too much of a liability taking direction from a person without a legally-defined status. In this context, “parent” has legal meaning but “fiancée” not so much.

So, in addition to losing her fiancé, my friend lost her say in his care to an extent while he was ill and is now living in a limbo state when it comes to her belongings and living situation.

Complete a power of attorney and a medical directive. Do up a will.