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He Gets, She Gets

James McGlynn

IF YOU DESIGNATE beneficiaries for your retirement accounts, that’s usually a surefire way to pass those assets directly to your desired heirs without going through probate—but not always.

Because those beneficiary designations are so important, you should verify your choices every year in case there’s a change due to, say, marriage, birth, divorce or death. Especially marriage and divorce. Which brings me to a crucial issue: When dealing with IRA and 401(k) beneficiary designations, there’s a key difference when it comes to your spouse.

In general, a spouse who hasn’t been named beneficiary of an IRA isn’t entitled to inherit it. Unlike 401(k) plans, IRAs aren’t governed by ERISA—the Employee Retirement Income Security Act—so these accounts don’t have the same protections for spouses. You’re free to name whoever you wish as your IRA beneficiary, even if you’re married, provided you don’t live in a community property state. Indeed, IRAs are excluded from ERISA coverage, even if the funds originated in a 401(k).

By contrast, under ERISA, if the owner of a 401(k) account is married when he or she dies, his or her spouse is automatically entitled to receive money, regardless of what the beneficiary designation says. The exact percentage seems to be a matter of some disagreement—some lawyers say 50%, while others put it at 100%. If there’s no beneficiary listed, the spouse is entitled to 100% of the account.

The spouse can sign a waiver, giving up his or her claim to the account, but only if the spouse is at least 35 years of age. It isn’t enough just to name someone else on the beneficiary form that your employer gives you. The waiver must be filled out, with the spouse consenting to the participant’s choice of beneficiary. If your spouse signs the waiver, which should be provided by the firm that administers your 401(k), a plan representative or a notary public must act as a witness. Why all this bother? Congress wanted to make sure surviving spouses weren’t shortchanged.

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Beneficiary designations for 401(k)s become particularly tricky with divorces and remarriages. The right of the surviving spouse is triggered, regardless of when the assets were amassed or how long the couple has been married. That said, there’s a potential exception: Plans can include a one-year marriage rule, whereby a surviving spouse must have been married to the plan participant for at least a year before he or she has a right to 401(k) assets. But not all plans have adopted this provision.

If your former spouse gave up any claim to retirement assets in a divorce, make sure your beneficiary designation form is modified to reflect that change. If not, after your death, the plan administrator will hand over the money to the designated beneficiary—which will be your ex.

Often, the 401(k) owner will change his or her beneficiary designation upon divorce and name the children as the beneficiaries. If the owner later remarries, part or all of the 401(k) assets (again, the exact percentage is a matter of disagreement) will still go to the new spouse, instead of the children, even if the new spouse is not added as a beneficiary—unless, that is, the new spouse signs a waiver.

Keep in mind that a prenuptial agreement can’t take the place of a waiver. Instead, the law specifies that the spouse must sign the waiver. This can be tricky, because such a waiver can be signed only after a couple is married, at which point the spouse has already acquired the right to be a beneficiary of the 401(k).

Planning to remarry? If you want someone else to benefit from your 401(k) assets, such as the children from an earlier marriage, it’s prudent to roll over your 401(k) to an IRA account before you remarry. That should be easy enough if you have a 401(k) at an old employer, but you likely won’t have that option with your current employer’s plan—unless you’re age 59½ or older.

James McGlynn, CFA, RICP, is chief executive of Next Quarter Century LLC in Fort Worth, Texas, a firm focused on helping clients make smarter decisions about long-term-care insurance, Social Security and other retirement planning issues. He was a mutual fund manager for 30 years. James is the author of Retirement Planning Tips for Baby Boomers. His previous articles include The Taxman ComethBack When and Fatten That Policy.

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Ginger Williams
Ginger Williams
9 months ago

After reading the comments, I looked on the IRS website for guidance on spousal waiver requirements. https://www.irs.gov/retirement-plans/types-of-retirement-plan-benefits outlines the rules. After multiple readings, I’ve concluded that (1) some employer-sponsored retirement plans require spousal waiver all the time, (2) some require them under certain circumstances, (3) some are required to offer certain options for spousal benefits, (4) anyone with an employer-sponsored retirement plan and a spouse needs to ask if there are spousal consent requirements before making a non-spouse a beneficiary. The rules are complicated.

wtfwjtd
wtfwjtd
9 months ago

Great discussion on the intricate differences between 401(k)s and IRAs. There used to be a BIG difference in the post-death tax treatment of an inherited 401(k) that depended on whether an account had a named beneficiary, vs an account that hadn’t actually named one. I believe Congress cleared this up a few years ago, and then it became mostly a mute point once the stretch IRA was more or less abolished by the recent change in tax laws. Still, it is beneficial to review this important topic on a timely basis, especially since it seems things are changing all the time. Thanks for the review.

james mcglynn
james mcglynn
9 months ago
Reply to  wtfwjtd

Yes that is correct. I know of a case where the ex-husband died and didn’t name a 401k beneficiary. His daughter would have been able to do a lifetime stretch BUT had to take it all out in 5 years and pay trust tax rates. I wonder why 401k’s are permitted to have no named beneficiaries?? Seems like a simple solve.

Bartran_M
Bartran_M
9 months ago

Surviving spouse gets 100% of a 401k if no valid spousal waiver. Not sure where your 50% comment is coming from. Maybe you are mixing up the spousal rules for an IRA in a community property state?

james mcglynn
james mcglynn
9 months ago
Reply to  Bartran_M

Does that hold true if another beneficiary is named? Can you show me where that is written? Everything I researched mentioned the 50% minimum. Either way it surprises me that 401k administrators even permit non-spousal beneficiaries if that is the case.

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