Rick Willeford, MBA, CPA, CFP
Due to changes in the law for 2003, you should be receiving new forms from your IRA custodian to designate a beneficiary(s) for your IRA. Do not rush through these or take them for granted! They contain some important issues to consider, and you may not like some of the default decisions made for you. Likewise, review the terms of your beneficiary designation forms for any other retirement plans (profit sharing, 401k, etc.) where you may be the trustee/administrator, and, thus, in charge of maintaining the forms for your employees. Things to consider include:
• How well do the beneficiary designations and other choices relate to the rest of your estate plan? Although you may have a will that is based on equalizing your assets with your spouse and that tries to utilize the $1,000,000 lifetime estate tax credit, the proceeds from your IRA pass outside your will and may foil your best-laid plans. (Likewise, if your home is titled as Joint with Right of Survivorship, or if life insurance designates someone other than your estate as beneficiary, those assets will ignore the terms of your will too!)
• How are multiple beneficiaries handled? Some standard custodial forms require that the IRA be distributed equally among your beneficiaries. What if you want to give 20 percent to each of three children and 40 percent to your alma mater?
• What happens if one of your beneficiaries dies before you do? For example, assume you have four children who are beneficiaries and they each have a child (four grandchildren). Assume one of your beneficiary-children dies before you do, leaving three beneficiaries and four grandchildren. How will your IRA be distributed when you die?
There are two typical methods: per capita and per stirpes. (This kind of language applies in your will too.) Per capita means that the IRA would be split three ways between the surviving beneficiaries — ignoring the fourth grandchild. Per stirpes means that the IRA would still be split four ways, with the fourth grandchild getting the deceased parent's share. The standard forms from Merrill Lynch, Schwab, and Waterhouse only allow for per capita. Fidelity uses per capita as the default, but they allow you to check a box to stipulate per stirpes instead. Neither method is right or wrong. You just need to be sure it is consistent with your intentions.
• What happens regarding an ex-spouse following a divorce? Although you may change your will, you may forget about the IRA beneficiary form. You may prefer to include fail-safe language that states that a divorce or legal separation automatically revokes the designation of the former spouse as a beneficiary. (Likewise, you may want similar language in a will. I have had a client die while separated but not yet divorced. He had not changed his will yet. The matter is still in the courts!)
• What happens if the beneficiary of the inherited IRA dies? Most standard forms require that the IRA be paid in a lump sum to their estate — with all taxes due! It would have been preferable for the beneficiary to have had the right to name a successor beneficiary up front instead. This would have allowed the payout to occur over many years vs. immediately. Remember, the name of the game is typically to delay distributions from an IRA as long as possible to avoid taxes. You should not have to just accept the custodian's standard form if you can't adequately handle the issues above. Work with your attorney and develop a customized form that you can attach to the standard form.
• What happens if the IRA custodian can't find your beneficiary designation form when you die? This is a real problem, following all the mergers of brokers, banks, and other custodians. Absent a valid form, the custodian will probably give all the proceeds to your estate - with taxes due soon! So keep a valid copy of your form with your other important documents.
Raymond "Rick" Willeford MBA, CPA, CFP, is president of Willeford & Associates, CPA, PC, a fee-only firm specializing in financial, tax, and practice-transition strategies for dentists since 1975. Mr. Willeford is president of the Academy of Dental CPAs, a member of the national Practice Valuation Study Group, and numerous dental study clubs. Contact him by phone at (770) 552-8500 or by email at email@example.com.