The Common Mistake that Screws Up Your Will
Many people spend thousands of dollars on wills and trusts for the purpose of caring for children or ensuring their money is used how they wish. You may think that your will or trust controls how your money is distributed upon your death. You'd be dead wrong. When assets are transferred to heirs, more money is controlled by the beneficiary designations on accounts than by the will or trust.
Almost all accounts people have can have a designated beneficiary, including bank accounts, U.S. savings bonds, pensions, brokerage accounts, retirement accounts, and more. For life insurance policies, the death benefit isn't even paid to your estate, it is paid to the beneficiary listed on the policy. Although you may have a will or trust, the beneficiary designation trumps those legal documents.
Wills and Trusts are Meaningless
You may have spent thousands of dollars on a high-priced attorney to create your will or trust, but none of that matters if you don't coordinate your beneficiary designations on accounts. This is one of the many reasons why a professional financial adviser can be more important than an attorney when estate planning.
Beneficiary designations override what your lawyer wrote in your will and trust. Wills or trusts legally control the money in your estate after you die. Beneficiary designations, however, tell the financial institutions to distribute assets to the beneficiary before it ever hits your estate. As a result, there is nothing for your will or trust to distribute and control.
Verify Your Beneficiaries Annually
Each year you should review your accounts and update the beneficiaries on every account you own. This may sound like a monumental task, but at most financial institutions, you can accomplish this in 10 seconds with a click of a mouse through their website. Simply log into your account and look for the beneficiary designation usually found in your account profile or in the details screen about the account.
When to update your beneficiaries
You should update your beneficiaries immediately if your annual review identifies the wrong beneficiary is listed on the account. To determine if the beneficiary is wrong, simply ask yourself if you want them to receive the assets.
Most financial institutions allow you to update your beneficiary through the same online system that you checked the current beneficiary. Many will allow you to update them online, although you may have to print, sign, and mail a form to finalize the change.
There are also some distinct life events that should cause you to update the beneficiaries on all of your accounts. The three most common are divorce, creation of a trust, and the birth of a child.
If you get divorced, you will need to update your beneficiaries on all of your accounts. There are dozens of stories each year of people dying and leaving their estate to their new spouse in their will, but the ex gets all the money because beneficiary designations were never changed. It is important that you change the beneficiaries on your accounts after a divorce, but make sure not to change the beneficiaries until after the divorce is finalized. Many states have laws designed to protect people during the divorce process, and it may be illegal to change a beneficiary on an account during the divorce. A divorce attorney in your state can help you determine the correct timing for updating beneficiaries.
Creating a Trust
When you create a trust, you'll need to update all of your beneficiaries so that the trust gets the money when you die. Otherwise, you'll have a very expensive document that controls no money. Forgetting to update your beneficiaries is one of the biggest mistakes people make when they create a trust on their own.
Having a Child
The birth of a new child should instill you with all sorts of new parental responsibilities, including how to take care of them in case of your death. If you don't have a trust to benefit your children, you should consider adding the new child as a secondary beneficiary to your accounts. You and your spouse can have each other as the primary beneficiary so that the surviving spouse receives 100% of the assets. If both of you were to die, however, your children would still need to go through probate to receive the money.
Adding your children as secondary beneficiaries could allow them to receive assets directly if both you and the primary beneficiary passed. For minor children, you may wish to have a trusted guardian as the secondary beneficiary instead to ensure the money is used responsibly.
Although it is possible to manage your estate in this manner, it is more advisable that you set up a trust to legally ensure your money is spent according to your wishes. Again, the trust can be set up as the secondary beneficiary.
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