Beneficiary Forms: Self-Directed IRA & Solo 401(k)

IRA Financial Group is recognized as the leading facilitator of Self-Directed IRA and Solo 401(k) plans. As a result, we have come across many scenarios pertaining to Self-Directed IRA and Solo 401(k) plan beneficiary forms. It’s important to know the rules so that your wishes upon your passing are followed. Read more to prepare your finances better.

What is a Beneficiary?

An IRA or 401(k) beneficiary can be any person or entity the owner chooses to receive the benefits of a retirement account after he or she dies. Beneficiaries of a retirement account or traditional IRA must include in their gross income any taxable distributions they receive.  In general, one can designate a primary beneficiary as well secondary beneficiaries.

Primary vs. Secondary Self-Directed IRA or Solo 401(k) Beneficiary

The primary beneficiary is the first party or parties that will receive the IRA funds upon the IRA owner’s death.  While, a secondary beneficiary or beneficiaries would only receive the IRA or 401(k) assets if the all primary beneficiaries are no longer alive.  In addition, an IRA owner can identify one or more primary or secondary beneficiaries, but the allocation percentage should equal 100%.

The primary beneficiary is most commonly a spouse.  Whereas, the secondary beneficiary are typically children.  However, for individuals that are not married or do not have children, they can basically nominate any individual, charity, or third-party they desire as primary or secondary beneficiary for their IRA or 401(k).

However, if the IRA owner resides in a community property state, community property law can dictate who gets your IRA after death.  The following states are community property states:

• Arizona
• California
• Idaho
• Louisiana
• Nevada
• New Mexico
• Texas
• Washington
• Wisconsin

Therefore, if an IRA owner resides in a community property state, the Self-Directed IRA owner or Solo 401(k) plan participant must take the community property state rules into account when naming a retirement account beneficiary. For example,  In a community property state, an IRA owner would need the consent of the spouse in order to identify a non-spouse as primary beneficiary of the retirement account.

Who Holds the Beneficiary Form?

In the case of a Self-Directed IRA, the IRA custodian, such as IRA Financial Trust, will hold the IRA beneficiary form.  Hence, if you need to revise the beneficiary form you will need to contact the IRA custodian.  Whereas, in the case of a Solo 401(k) plan, the plan administrator would hold the beneficiary form.  For example, as trustee and plan administrator, the individual business owner would generally be responsible for holding the beneficiary form.  Although, with respect to an employer 401(k) plan with multiple employees, the plan record keeper or third-party administrator would generally be responsible for holding the beneficiary form.

The John Jones Self-Directed IRA Beneficiary Story

One of our clients (who we will call John Jones), worked at a privately owned construction company in a southern state for 22 years. The tradesman turned supervisor named Janet Jones, his wife of 38 years, was the beneficiary of his 401(k) account in the event he died before her.

As fate would have it, Janet died first, so John updated his account paperwork, naming their three adult children as beneficiaries of the 401(k) retirement plan. Eventually he got remarried to Betty Murphy, and was on the verge of retiring. Six weeks later, at the age of 67, John Jones died.

The Rightful Beneficiary

When Mr. Jones’ children from his first marriage tried to claim the assets, believing they were named on the most recent beneficiary form, they were rebuffed by the 401(k) administrator, who then asked a court to determine the rightful owner of the money.

Under the terms of the company’s 401(k) plan, if an employee dies, the employee’s spouse has the right to the account assets, unless the spouse waives that right in writing (the priority for spouses springs from federal law).

Betty Murphy Jones had never signed such a waiver.

The new Mrs. Jones filed a motion for summary judgment, and the matter eventually ended up in federal district court, which awarded the approximately $250,000 in the account to her, disinheriting the children.

“I think John would be shocked,” said the lawyer representing the children, who are currently appealing. Neither the plan administrator nor Betty Murphy Jones would comment.

Beneficiary Rules

Here are some key rules governing retirement accounts, and lessons on how to navigate the rules as families grow and change:

Rule No. 1

With 401(k)s, your spouse is the presumed beneficiary of your account upon your death—regardless of who is listed on the beneficiary form—unless he or she previously consented to your naming someone else beneficiary. These plans are governed by the federal Employee Retirement Income Security Act, also known as ERISA. Under this law, plans can provide for spousal rights to kick in immediately, or no later than a year after the marriage.

This general rule cannot easily be circumvented with a prenuptial agreement. Only a spouse can waive the right to 401(k) plan assets—those who are engaged cannot.

If you are contemplating remarrying and are concerned about providing for children from a prior marriage, consider rolling your 401(k) to an IRA, where you have more latitude to name beneficiaries of your choosing.

Rule No. 2

If you are single when you die, your 401(k) assets pass to the person designated on your beneficiary form—regardless of what your will says or what other agreements you made before your death.

Rule No. 3

Inconsistencies Between Will & IRA Beneficiary Form

Surprisingly, it is the IRA beneficiary form that eclipses a last will and testament in the case of a conflict. Most people would think that a signed will would end up trumping an IRA beneficiary form provided by a bank or financial institution.  However, that line of reasoning is incorrect. The beneficiary designation is a legally binding document and will circumvent the will. In other words, no matter what your will says and what your current relationship is with your primary beneficiary at death, the IRA beneficiary form will direct who receives the IRA funds on death even it is in conflict with your will and estate plan.  As you can imagine, this can cause some nightmare type probate scenarios for the deceased IRA owner’s family.

Tips for Preventing IRA Beneficiary Disputes

Below are several tips every Self-Directed IRA holder or Solo 401(k) plan participant should consider when completing a beneficiary form:

• Review your retirement account beneficiary form each year with the IRA custodian or plan administrator and make sure it properly reflects your estate planning intentions
• Share your retirement account beneficiary form with your estate planning attorney prior to the drafting of your will
• Talk to your spouse or primary beneficiary about your estate plans, in general terms.
• Keep a copy of your IRA or 401(k) beneficiary form with your will in a safe and secure place
• Provide your primary beneficiary with information on the IRA custodian and investments made so they have the relevant information in the case of death
• If you are going through a divorce, separation, or dispute with your primary beneficiary, you should consider changing the retirement account beneficiary form immediately, even if it is only temporary.
• If you are married and thinking of naming a primary beneficiary that is not your spouse, you may want to receive written consent from your spouse in order to avert any potential future litigation

With over 60 million IRAs totaling over $32 trillion dollars in retirement funds, it is important that every retirement account owner understand the importance of having an accurate and updated retirement account beneficiary form.  Failure to do so, can lead to some nightmarish probate scenarios.

IRA Financial will take care of setting up your entire IRS compliant Self-Directed IRA or Solo 401(k) Plan. Our certified specialists can handle the process by phone, email, fax, or mail – whichever means is most convenient. This process typically takes between 7-21 days to complete, the timing largely depending on the state of formation and the custodian holding your retirement funds.

Our tax and ERISA attorneys are on site, which will reduce the set-up time and cost of establishment. Most importantly, each client of IRA Financial is assigned a tax attorney to help with the establishment of the retirement plan. You will find that our fee for this service is significantly less than other companies that perform the same or similar services.

Get in Touch

If you are currently in a similar predicament as the Jones’ children and would like assistance, contact IRA Financial directly at 800-472-0646.