Designated Beneficiary Explained

A Designated beneficiary is an individual or entity that is specifically named in a legal document, such as a will or trust, to receive a specific benefit or asset. In the context of financial planning, designated beneficiaries play an important role in determining how assets will be distributed after an individual’s death. Beneficiary designation is a way to immediately transfer assets to a designated person upon the original owner’s death. People commonly use it in retirement accounts and life insurance policies. However, they can also apply it to vehicles, bank accounts, and smaller properties. These designations bypass the probate process and are subject to federal and state rules. Beneficiary designation supersedes prenuptial agreements, divorce proceedings, and avoid probate.

Life Insurance Policy’s have a Designated Beneficiary

One of the most common examples of a designated beneficiary is a life insurance policy. When an individual purchases a life insurance policy, they will typically name a beneficiary, who will receive the death benefit in the event of the policyholder’s death. The death benefit from a life insurance policy is generally tax-free to the beneficiary, but it may be subject to estate taxes if the policy is owned by an irrevocable trust.

Retirement Accounts

Another example of a designated beneficiary is a retirement account, such as an IRA or 401(k). These types of accounts typically require the account holder to name a beneficiary, who will receive the funds in the account after the account holder’s death. The tax implications of a designated beneficiary for a retirement account depend on the type of account. They also depend on the beneficiary’s relationship to the account holder.

Wills and Trusts

You can also name designated beneficiaries in other types of legal documents, such as wills and trusts. The tax implications of a designated beneficiary for a will or trust depend on the type of asset and the beneficiary’s relationship to the grantor.

Unless you have a Trust – Don’t Make Your Estate The Beneficiary 

Don’t name your estate as the beneficiary. If your estate is the beneficiary, then the funds in your IRA, annuities, life insurance policy and other financial investment accounts will go through probate – thus costing your heirs money and stress. However, you may designate your trust as the beneficiary.

Changing  a Designated Beneficiary

It is important to note that designated beneficiaries can be changed at any time. It is also important to update the beneficiaries on legal documents such as wills, trusts, and insurance policies whenever there is a major life event, such as a marriage, divorce or birth of a child.

Tax Implications

Designating beneficiaries also has tax implications that one should take note of. It is important to consider these tax implications when choosing a designated beneficiary, and consult with a tax advisor if needed.

Keep your Beneficiary Designations Updated

It is important to keep beneficiary designations updated as they override wills and prenuptial agreements. The account holder can also name an estate as a direct beneficiary. However, this usually adds extra cost and hassle to the process. You can use a beneficiary designation as a useful tool for maximizing the amount of an estate passed on to loved ones. It’s worth looking into for other assets and accounts.