Updating Beneficiaries: The Most Overlooked Step in Estate Planning

Introduction: The Hidden Risk in “Set It and Forget It” Planning

Say you set your uncle as your beneficiary ten years ago, for lack of a better choice. Now, you’re writing in your will that your spouse should inherit everything. But that goes against your previous beneficiary choice, so… your uncle still gets everything. Yikes.

A lot of people set a beneficiary and forget to update it, or they omit the beneficiary completely. Beneficiary forms override your will or trust, which can cause a lot of confusion and conflict. In this guide, we will go over why you need to keep your beneficiaries updated, mistakes to avoid, and best practices for estate planning.

What Are Beneficiary Designations?

A beneficiary is an individual or entity that you name to inherit specific assets directly, upon your death. Typically, the beneficiary gets to receive the specified asset without having to go through probate court.

Common accounts that require beneficiary designations:

Life insurance policies

You need to choose a beneficiary for your life insurance death benefit. They would receive the payout.

Retirement accounts (401(k), IRA, Roth IRA)

Retirement accounts can have eligible designated beneficiaries as well as designated beneficiaries. Eligible beneficiaries are considered higher up in the order of precedence, and will be addressed first before regular beneficiaries. You can choose a beneficiary to receive your retirement account benefits after your death. Pension benefits can be passed on.

Annuity contracts

Your beneficiary will need to choose how to receive the money (e.g. lump sum or through installments).

Transfer-on-death (TOD) or payable-on-death (POD) bank accounts

Banks and other financial institutions let you name beneficiaries to easily inherit your funds if you pass away. By listing at least one beneficiary for your investment or brokerage accounts, they become classified as transfer-on-death (TOD) accounts.

What CANNOT be inherited

Not all types of accounts and assets let you list a beneficiary. Common exclusions include bankruptcy accounts, conservator accounts, community property accounts, and organization accounts.

Important: Beneficiary designations operate outside and usually override your will, meaning they take precedence over what your estate plan says.

Why Updating Beneficiaries Is So Important

Life changes

When choosing a beneficiary, everyone likes to believe that the relationship will remain strong throughout the rest of time. But beneficiaries often need to change because life brings change, such as:

• Marriage
• Divorce
• New births or adoptions
• Deaths
• Relationship changes

Any major life event could make the old beneficiary choice obsolete.

Legal precedence

Even if you put in your will who your heirs should be, outdated beneficiary forms could still legally result in your assets being transferred to an ex-spouse or deceased person.

Avoid family conflict

Notoriously, beneficiary choices lead to family conflict. Surviving family members may end up in dispute or litigation with each other because they do not understand your beneficiary designations. This can cause delays and disruptions, and nobody wants their loved ones to argue over the life insurance payout.

Ensures tax efficiency

Setting up an inherited account to grow tax-deferred can provide meaningful benefits over time while minimizing tax burdens. The right beneficiary is an important choice.

Aligns your full plan

Estate plans involve many different components: wills, life insurance policies, trusts, bank accounts, and more. If your plan has any discrepancies, it can lead to delays or confusion. Keeping all of your estate plan consistent can go a long way in ensuring your wishes are properly carried out. You don’t want your life insurance proceeds to go to someone you actually ended up on poor terms with, but you’d forgotten to change who gets the payout.

Step 1: Review All Accounts with Named Beneficiaries

Here are common accounts that let you name beneficiaries.

Life insurance policies

Life insurance policies come with a death benefit. It pays out to beneficiaries upon your death (or disability, or other qualifying status, depending on your policy terms).

Life insurance has become more affordable and accessible these days. If you don’t already have coverage, you can use an online platform like Ethos to easily obtain or compare competitive life insurance policies.

Retirement accounts

401(k), 403(b), 457 plans, and IRAs are different types of retirement accounts. You may also have other types of retirement accounts.

Bank and brokerage accounts

Naming someone as a beneficiary to your bank or brokerage account means that upon your death, they will gain control over the account and its assets. Beneficiaries can be chosen for financial accounts such as checking, savings, and investment accounts.

Employer-provided benefits

Many employers offer life insurance and other death benefits. These can exist independently of your own personal life insurance policies.

Also consider any annuities or pensions you may have.

Keeping track of beneficiaries

It can be challenging to keep track of all accounts that require beneficiaries. To start the process, we recommend devising a beneficiary inventory list that includes:

• Account name and provider
• Current primary and contingent beneficiaries
• Date last updated

That way if a major life change happens and you forget about your beneficiary designations, the spreadsheet can easily remind you of what updates you still need to make. Keep the list with your estate plan and review it annually.

Step 2: Understand Primary vs. Contingent Beneficiaries

Primary beneficiaries

The primary beneficiary is the first in line to receive the specific asset. For example, you can name a primary beneficiary of a life insurance policy. If you pass away, they will receive the policy’s death benefit if they are able to.

Contingent beneficiaries

As the name suggests, these beneficiaries are part of a contingency plan. Contingent beneficiaries are the backup recipients for an asset or account if the primary beneficiary has passed away or cannot inherit for whatever reason.

Why do you need a contingent beneficiary

If you name only primary beneficiaries, it puts your assets more at risk. Beneficiaries can refuse or be unable to receive your assets (e.g. if they pass away). If this happens, the asset could revert to your estate and end up triggering the probate process, requiring court to look at the asset and determine who should inherit it.

By naming contingent beneficiaries, that asset won’t need to potentially go through probate because the asset can go to the contingent beneficiary automatically if the primary one is unavailable.

Who you choose as the beneficiary for an account can provide asset protection or tax advantages. For example, many people opt to name a trust as a beneficiary, instead of an individual, for more control over asset distribution.

Step 3: Coordinate Beneficiaries with Your Estate Plan

When designating beneficiaries, it is important to ensure consistency with the rest of your estate plan. You don’t want your will to conflict with the actual beneficiary designation of an account. Any lack of consistency can cause disputes or confusion.

If you have official beneficiary designations, such as for a bank account, it will typically override both wills and trusts.

For example, if your will says that your assets should be distributed to all of your children equally, but your 401(k) names only one child, the assets will probably go to the single child. This kind of confusion can cause a lot of distress between your loved ones.

Another way conflicts in beneficiary can cause problems is if your trust is intended to manage your assets, but your accounts name individuals directly. Like wills, the trust may be overridden by the accounts’ beneficiary designations.

To avoid discrepancies, we recommend working with an estate planning attorney or using convenient platforms like LegalZoom to align all of the documents. This step is particularly important if you have a complex or large estate.

Step 4: Update After Major Life Events

After any major life event, it is crucial to update or at least take a look at your estate plan. Beneficiaries may need to be changed after major events such as:

• Marriage or divorce
• Birth or adoption of a child or grandchild
• Death of a family member or beneficiary
• Retirement or job change that impacts employer-sponsored benefits
• Relocation to a different state (estate laws can vary)

If nothing major is changing in your life, a routine review is still good practice. Check your estate plan and beneficiary choices every 3-5 years, just in case you realize changes should be made.

Step 5: Know How to Make (and Document) Changes

Every financial institution has its own process of how to designate a beneficiary and make a change. Always make a change as soon as you realize an update is needed, since the moment you pass away or have testamentary incapacity (e.g. dementia), you will no longer be able to make changes for your estate plan.

Typically, you will need to fill out a new beneficiary form and/or make an online submission through official means to modify your beneficiary designations. Always obtain written confirmation of updates. Don’t use handwritten or verbal agreements, which are rarely valid.

Keep both digital and physical copies of the most up-to-date estate plan components.

Important: Let key people know if you made major changes. Tell your executor, trustee, or family of any big estate plan updates to avoid confusion later.

Step 6: Avoid Common Beneficiary Mistakes

Forgetting contingent beneficiaries

It’s best to name contingent beneficiaries as you designate the primary ones. Having a backup means you get more control over where your assets go.

Naming minors directly

Don’t name minors to inherit accounts directly. They cannot legally receive funds. You can use a trust instead for better asset distribution to minors, since you can detail how the minor will receive the funds once they grow up.

Listing “my estate” as the beneficiary

If you list your estate as the beneficiary (or forget to list any beneficiary), it will force your assets to go through probate. This means you won’t get potential tax, privacy, or convenience benefits (though of course some people want the estate to get the asset on purpose).

Failing to update after divorce or death

Don’t assume the account you have knows who should get it just because you have a divorce or death in the family. Manually make your updates so you are in control of who gets what.

Assuming a will overrides designations

Wills are easy to draft, but they don’t override individual beneficiary designations. Most of the time account beneficiaries will take precedence.

Not considering tax consequences

Some heirs (like non-spouses) face higher tax obligations on retirement accounts.

How Life Insurance Fits In

Life insurance provides immediate liquidity to your beneficiary. The money can be immediately used for urgent costs, like funeral costs, debt repayment, or family support.

Like with all other accounts and assets, you need to keep your life insurance beneficiary designation updated. Otherwise, there may be delays in the payout, which negates a major advantage to life insurance in the first place. If the proceeds go to the wrong people, it is also unlikely your loved ones can fix it after you’ve passed away.

If you’re having trouble with legacy planning, consider using a trust to manage life insurance proceeds more efficiently. An estate planner can help you ensure tax compliance and advantages according to your individual situation.

Don’t have life insurance yet? Use a provider like Ethos to obtain affordable, convenient coverage.

When to Consult a Professional

Consulting with an estate planning professional is always ideal, but understandably not possible for everyone due to budget, time, and other reasons. Here are top situations that benefit the most from an expert’s review.

• You have a complex estate or blended families
• You want your business to be the beneficiary
• You are creating multiple trusts
• You have large retirement accounts
• You’re worried about tax implications

Hybrid approach

A hybrid approach is common. You can always start with an online platform like LegalZoom for quick will creation to get started. Then, as your needs become more complex, you can seek out a professional for individualized advice. An attorney or financial planner can ensure all of your estate plan components align legally and strategically.

Conclusion: The Easiest Step That Protects the Most

Updating your beneficiaries only takes a few minutes and can prevent grave mistakes down the line when you can’t make changes anymore.

Review your beneficiary designations across your accounts and assets today–don’t wait for a major life event to force your hand.