401(k) Tips

What is a 401(k) beneficiary?

What is a 401(k) beneficiary and why do you need to assign one? A beneficiary is someone who will inherit your funds after you pass on.

4 min read

Building wealth for retirement not only provides income during your working year, but it may also provide for your loved ones as well. When you pass away, any unused retirement money doesn't just vanish. You can pass along your leftover nest egg to your spouse, children, or whoever you choose. Tabbing someone to inherit your 401(k) is what's called a beneficiary.

A 401(k) beneficiary is someone you have assigned to receive your unused retirement money.

Having your money go to a beneficiary has many benefits. Mainly, the recipients have direct and easier access to the funds. Rather than waiting for lengthy and costly probate proceedings to unfold, they can accept the funds whenever they're ready.

Additionally, the IRS waives the 10% early withdrawal penalty for any disbursements made after an account holder has passed. Naming a beneficiary to the account makes proving the withdrawal was legitimate much easier.

Types of Beneficiaries

There are quite a few types of beneficiaries you can choose to name on your 401(k). Some are easy, even automatic; others may need coordination with the entity. However, you're able to choose whoever you want to leave your money with.

An Individual

The most common type of beneficiary is a person or a couple of people. Naming a spouse or family member is the most common choice.

A beneficiary doesn't even have to be a family member. You can name friends, coworkers, and even neighbors as beneficiaries to a 401(k).

The only rule is that spouses have automatic rights to a 401(k) unless otherwise notated in the account—more on that in a bit.

A Trust

Setting up a trust has many benefits. It can protect your heirs from others who want to stake claim to your estate, protects your identity as the probate process is public record, and provides more control over when and to whom your assets are distributed.

First, you'll need to set up a living trust. An estate attorney can assist in the formation.

Second, you'll need to name your trust as the beneficiary of your 401(k).

A Charity or Non-Profit Organization

A beneficiary doesn't have to be a person. You can choose to leave your 401(k) to a charity or organization you are passionate towards.

It will take some coordination from the organization to ensure the correct legal name is listed and other procedures are followed.

However, it's common to leave even a percentage of your inheritance to a charity as a legacy.

How to Pick a Beneficiary

When you join a 401(k) through your employer, along with selecting contribution percentages, you'll be asked to name a beneficiary.

You don't need to name someone immediately. Your plan will allow you to go in and add or change your beneficiary anytime you choose.

Naming a beneficiary simply requires entering the person’s legal name or entity to whom you're leaving your money.

Additionally, you can name a secondary beneficiary to either split your inheritance or take over as primary beneficiary if the other person can no longer accept.

If You're Married

As mentioned earlier, if you’re married, your spouse has priority over your retirement accounts.

To name someone other than your spouse—even other family members—you will need to have a signed written acknowledgment from your spouse.

Without consent, your spouse can refuse distribution of your 401(k) to your beneficiaries.

Chances are, however, your spouse will be the primary beneficiary to your retirement accounts. But if you want to add anyone else as a beneficiary, you will need a spouse’s consent.

If You're Single

If you're not married, you can name anyone as a beneficiary to your 401(k) as you'd like. As long as you have the legal name of the person or entity you're naming, you can list them.

If you were to get married later on, your new spouse would supersede beneficiaries named on your account, regardless of the time between events.

Naming Minor Children

Children under 18 can also be named beneficiaries. Although not usually advised.

If the child is under 18 when the 401(k) is inherited, by law, a court-appointed guardian will receive the money on their behalf.

A way around this is to assign a trust as the beneficiary. The trustee who manages the trust can facilitate the distribution of the funds according to the trust.

What Happens if You Don't Name a Beneficiary?

If not done when a 401(k) is set up, no beneficiary may ever be listed. Luckily, your money doesn't just vanish into Uncle Sam's pocket. There is a hierarchy of how funds will be distributed if no one is listed or you've outlived your beneficiary.

First, your 401(k) will be distributed to your spouse. As mentioned, they have precedent over your estate after you pass.

Second, if your spouse has passed or you are unmarried, your 401(k) will be distributed to your children equally.

Next, if neither applies, your parents will receive your money.

Lastly, if there is no one to leave your money, your 401(k) will go towards your estate. Once there, it will go through probate proceedings, and anyone with claims to your estate will have to wait for them to be completed.

When to Update Your Beneficiary

Maintaining your 401(k) takes frequent monitoring and adjusting. Reallocating assets, increasing and decreasing contribution percentages, even consolidating your 401(k)s are all necessary.

Additionally, updating your beneficiaries as needed is also required.

Without updating who you are leaving your money to, it could potentially go to the wrong person.

Instances to update your beneficiaries are:

  • Marriage - When you get married, your spouse instantly becomes priority as a beneficiary. You won't have to name them specifically if they're to receive your funds. However, if you wish for your money to go elsewhere, they will need to sign away their rights to your account.
  • Divorce - Even after a divorce, your ex-spouse may still have rights to your 401(k) as a beneficiary. If they are listed as a beneficiary after you re-marry and pass away, your 401(k) will go to your previous spouse and not your new one.
  • Death - If someone who is a beneficiary to your 401(k) passes away, you will need to name a new beneficiary. This ensures your money will go to someone you wish rather than the default proceedings as if you named no one.

Talk with Your Beneficiaries

It's essential to keep the people you list as beneficiaries informed about them being the recipient of your inheritance.

First, let them know before you name them as a beneficiary to your account. Get their full legal name and any other information pertinent for them to receive your funds.

Secondly, depending on how comfortable you are, keep them up-to-date on the status of the account. Things like account balance, any distributions you take, and even when you plan on retiring.

Relying on someone else's inheritance as a financial strategy isn't smart. However, having an idea and knowledge of an account, you may take over one day can be helpful.

Lastly, keeping open communication with your beneficiaries ensures your money will be taken care of and end up where you wish.