You Ask: What Happens To 401k When You Die
Having a strong 401 k plan is important for most employers. Life expectancy in the USA is good for both men and women, but sometimes people die unexpectedly. If you’re currently going through estate planning, you might be wondering what might happen when the owner of a 401 k plan dies before or after retirement. Conversely, you may need to know what can happen to the spouse of the deceased if a person with a 401 k dies after retirement.
Whether or not surviving spouses may become the beneficiary of a 401 k depends on the type of retirement account you have and your tax in the year following. This article discusses what can happen to your 401 k money when you pass away and how this can impact your beneficiaries.
If You Have No Designated Beneficiary Of Your Retirement Account At Your Death
If there is no designated beneficiary and the participant dies before the RBD, the retirement plan assets must generally be distributed within 5 years. Treas Reg §1.4013, A-1. If, on the other hand, the participant dies after the RBD and there is no designated beneficiary, the retirement plan assets must generally be distributed over the participants hypothetical life expectancy using the age the employee attained in the calendar year of death. Treas Reg §1.4015, A-5. The life expectancy is determined using the Single Life Table in Treas Reg §1.4019, A-1.
As you can see, there are many variables to each of these very factual situations. If you are interested in learning more about how to ensure your IRA or your 401 is distributed appropriately, contact John Wong, an Orange County Estate Planning Lawyer at Modern Wealth Law.
If The Beneficiary Is Your Spouse
The rules depend on whether you name your spouse as the successor annuitantSuccessor annuitant A spouse or common-law partner who you name as the sole beneficiary of your RRSP or RRIF. The plan will pass to your surviving spouse, and payments may continue without any break. You can only name your spouse or partner as your successor annuitant.+ read full definition of your RRIFRRIF See Registered Retirement Income Fund.+ read full definition.
If you make your spouse the successor annuitant of your RRIF, they will automatically receive your RRIF payments after your death.
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You Can’t Take It With You
It’s still true that when it comes to your money, “you can’t take it with you” once you’ve passed away. If you still have loved ones who depend on you, or if you want to leave an inheritance, though, it does matter what happens to your money after you pass.
When you boil it down to its essence, you really have three kinds of financial tools at your disposal:
- Those that cease to exist once you’ve passed.
- Those that will last as long as either you or your spouse are alive.
- Those that can be passed on to others.
Understanding what falls into each bucket can help you make better decisions on how to invest for and during your retirement.
Money that stops when you and/or your spouse passes If you’ve ever looked into buying an annuity, or if you have a pension, you’ve probably noticed that they offer different payments based on how you choose to take your payment. If you accept “single life” payments, you’ll generally get a higher payment than if you accept the “joint and survivor” option. The downside is that with the single life payment option, the money stops getting paid once you pass away, while the joint and survivor option lasts as long as either you or your spouse are alive.
Either way, death typically ends pension and annuity payments — either your death or the second death between you and your spouse.
What Happens To Your 401 If You Die Before You Retire
If you are married, your spouse will receive the benefits of your 401 plan, as required by federal law. However, if you die before retirement, the benefits of your plan will be distributed to the beneficiary you name in your plan to inherit your benefits upon your death.
If you die before retirement and did not name a beneficiary under your plan to receive your plan benefits, or if the beneficiary you named has already died before you and you have not named an alternate beneficiary, then your plan benefits become part of your estate when you die and will pass through probate with the other assets in your estate. In this case, your plan benefits will pass either:
- To any beneficiary you name or
- To your heirs .
Therefore, if you have not named a beneficiary of your 401 and you die before retirement, your retirement benefits could be distributed to someone whom you never intended to benefit from your retirement plan. To avoid this when you die before retirement, be sure that you name a beneficiary of your 401 either in your plan or in your will.
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Tax Consequences Of Inheriting An Ira If You’re A Surviving Spouse
Anyone can take control of an IRA or 401 after a loved one dies by simply presenting the original death certificate to the bank or financial institution where the account is held. The only requirement is that the individual be named as the beneficiary. But inheriting this type of account can come with tax consequences.
Taxation can be very different depending upon how and if the beneficiary is related to the deceased. A surviving spouse has the most flexibility as to what they can do with an inherited IRA or 401.
What Happens If You Do Not Have A Beneficiary
What happens to my account if I do not name a beneficiary? If you do not designate any beneficiaries or all your primary and contingent beneficiaries predecease you, your surviving spouse generally becomes your beneficiary. If you do not have a surviving spouse, payment of your account is made to your estate.
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What Happens When You Inherit A 401
When the account owner opened their 401, they named their beneficiaries — the person or people they’d like to receive their retirement funds if they died — on a 401 beneficiary designation form. The primary beneficiary, often the spouse if the account owner was married, will get the money if they are still alive and want to claim it. But if they have passed away or do not want the funds, the money goes to the contingent beneficiaries.
As the beneficiary, you must decide how you’d like to receive your inherited 401 funds. The options available depend on several factors, including:
- Your relationship to the account owner
- The account owner’s age at death
- When the account owner died
- Your age in relation to the account owner’s at death
- Your health
- What the 401 plan allows
S To Help Reduce Taxes
Do retirement accounts pass through probate?
NO, as long as the beneficiaries are properly designated. Keep in mind that if the will stipulates anything about such accounts, the named beneficiaries take precedence over the will and the assets will be distributed to the named beneficiaries on the accounts.
YES, if there are no beneficiaries named on the account and if the plan documents or any associated IRA custodial agreements do not specifically address who would then be the beneficiary. For example, generally if all of the named beneficiaries have passed away first and the designation was never updated, the account will be subject to probate.
There are several things you can do in the estate planning process that may help reduce taxes on the retirement assets you pass on to your beneficiaries. Consult a tax advisor about your situation.
There are also special provisions for surviving spouses in most retirement plans.
To learn about the options your beneficiaries will have when inheriting an IRA, see Fidelity Viewpoints® on Inherited IRAs.
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Parent’s Age Was Less Than 72
As of 2020, if you die before your 72nd birthday, your 401 plan allows for either or both of the following:
The child must receive all money in the plan within five years of December 31 of the year of the parent’s death. This approach allows the child to vary the withdrawal amounts, which might allow her to withdraw the majority of the money in a year when she’s taxed at a relatively low rate. Alternatively, the plan might allow the child to receive the plan’s required minimum distribution according to her own IRS life expectancy.
While it’s likely that a 401 account owner will withdraw some assets from the account before her death, there may be cash in the account for its owner’s beneficiaries. If you inherit a 401, your handling of the accounts assets must be guided by IRS rules, including the required minimum distribution rules and those that apply to non-spouse beneficiaries.
References
Common Divisions Of 401ks And Retirement Plans During Divorce
Generally speaking, the options below are common when 401ks accounts are being split during a divorce:
- Split All Assets both parties can decide to evenly split all retirement accounts after the divorce. This will require a Qualified Domestic Relations Order. However, there are significant complications and legalities when drawing up this document, so make sure you are using a divorce attorney experienced in this area.
- Asset Tradeoff if you want to keep your account intact, you can offer to give up other marital assets in place of the 401k. This can also get a bit technical because your spouse attorney will more than likely bring up the long term value of the account as well as any tax implications as a result of the settlement.
Two other possibilities are the liquidation of a part of the retirement account to pay off your spouse as well as rolling over the spouses portion of the retirement account into an IRA. Both of these options have restrictions to them and can only be used in very specific situations. Speaking with one of our expert family law attorneys for a free consultation is your first step to getting what you deserve!
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How To Minimize The Tax Burden
401 Owners:
- Rollover the 401 into an annuity with an enhanced death benefit is a good idea. These enhanced death benefits increase the annuities value at the time of death to help offset the sizeable tax burden a non-spousal beneficiary may receive at the time of your death.
- Another good option is to fund a life insurance policy with required minimum distributions from the 401.
Non-spousal beneficiaries:
- Cash Out 401: Roll the 401 in an inherited IRA annuity with a premium bonus to offset the taxes.
If You Die Before You Begin To Receive Benefits
If you die before your retirement income begins, the current full value of your account balances in all investment funds will be payable to your beneficiary under any of the payment options elected by the beneficiaryand allowed by Fidelity .
You choose a beneficiary at the time you enroll in the Retirement Plan. You may change your beneficiary at any time by filing a Designation of Beneficiary Formwith Human Resources. However, if you are married, federal law requires that your spouse be your beneficiary unless your spouse consents, in writing, to your naming another beneficiary. This consent must be witnessed by a plan representative or notarized by a notary public.
If your marital status changes after you become a participant in the BU Retirement Plan , be sure to contact Human Resources immediately to make any appropriate changes in your designated beneficiary. If you are divorced and then remarry, your prior beneficiary designation will become invalid and your spouse will automatically become your beneficiary unless you designate another beneficiary with your spouses written consent .
Generally, installment payments must begin within one year of your death. However, if your spouse is your sole designated beneficiary, he or she may postpone the start of benefits until a later date, but until no later than the date on which you would have reached age 72.
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What Happens To Your Rrif When You Die
What happens to the money in your RRIF after your death and the taxes on it will depend on:
- whether or not you name a beneficiary for your RRIF, and
- who you choose as your beneficiary.
The beneficiary is the person or organization you choose to inherit the money in your RRIF. It does not have to be the same beneficiary that you chose for your RRSP.
Can You Collect Your Deceased Parents Social Security
Within a family, a child can receive up to half of the parents full retirement or disability benefit.
If a child receives survivors benefits, they can get up to 75 percent of the deceased parents basic Social Security benefit.
It can be from 150 to 180 percent of the parents full benefit amount..
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Does A Roth Conversion Make Sense
The IRS allows 401 heirs to convert the money directly into an inherited Roth IRA.
If you make that direct transfer from a traditional 401 into an inherited Roth IRA, youll owe ordinary income tax on the amount converted. If the 401 is large, that tax bill could be hefty. Think twice about it, says Russell. Paying a tax bill upfront on a Roth conversion of your own account can make sense because as the original owner you can preserve the money in the Roth and let it grow tax-free without ever having to touch it. But heirs with inherited Roth IRAs must still take required distributions, so paying an upfront tax bill may make less sense, she says.
How Money From An Inherited 401 Is Taxed
When you inherit a retirement account like a 401, distributions generally follow the same tax treatment as would apply to the original account holder.
Most often, distributions from an inherited 401 are included in a beneficiarys regular taxable income. This would be the case if your parent made pre-tax contributions to a 401, as most do. Large withdrawals can push you into a higher marginal tax bracket, trigger the 3.8% Medicare surtax, or cause the loss of other income-driven tax deductions.
If you inherit a Roth 401, distributions may be tax-free if your parent first began making contributions to their “designated Roth account” at least five years before you begin your own withdrawals.
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What Are The 401k Spouse And Non
- When a spouse inherits a 401k plan, they cannot withdraw less than the required minimum distributions. But they can choose to withdraw more than the required minimum distributions.
- A spouse can choose to roll over the funds in the inherited 401k plan to an inherited IRA plan. Distributions are based on your life expectancy and you can choose to withdraw more the required minimum distributions, but you cannot withdraw less.
For a non-spouse beneficiary, rolling over inherited 401k plan funds into their own IRA account is not allowed. The beneficiary needs to create an inherited IRA account, which has to be separate from their other retirement accounts.
- A spouse who has inherited a 401k plan is expected to have withdrawn all the money in the account within 5 years after their spouses death. You have the option of taking out a lump-sum distribution or the required minimum contributions.
Be Aware Of The Tax Implications That Come With Inheriting A 401 You Will Have To Pay Income Taxes On Any Money Received
If you are the named beneficiary of a 401 plan and that person dies, you should be able to receive the money quickly, before probate is completed. You will have to pay income taxes on any money received, and you may move to a higher income tax bracket depending on the amount. The money is not subject to the 10% early withdrawal penalty even if you are under age 59 ½.
If you are the spouse, you can roll the money into your own IRA or a new IRA without paying taxes on it. Be sure the company makes a direct rollover to your IRA account if they pay you directly, they will have to withhold 20% in taxes.
Non-spouse beneficiaries can roll over their inherited 401 to a special IRA known as an inherited IRA and take distributions throughout their lifetime, significantly reducing their tax bill.
Look at the 401 plan document or summary plan description to see what rules and restrictions apply. In most cases, you can take out the money as one lump-sum distribution. Or, you may be allowed to receive payments over a period of years. Its best to consult a tax professional who can advise you on ways to minimize your tax bill. *
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