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How do you list your beneficiaries on your policies so all your children get equal payouts?

This is a guest post by attorney Kevin Pollock of Pennington, NJ. I would like to thank Kevin for contributing to this blog.

There are three different ways that you can list beneficiaries on your life insurance policies, IRAs, 401(k)s and annuities so that the payouts go to your children equally.  On the beneficiary designation form you can:

  1. simply name your children as beneficiaries by name (e.g. Bob Smith, Joe Smith and Tara Smith);
  2. designate a class of beneficiaries (e.g. to my issue, per stirpes); or
  3. designate a trust as the beneficiary of your payouts with the trust saying that the money should be paid equally to all of your children.

In the first scenario, where you simply designate your children by name, the form will often call for you to designate a percentage.  Make sure you right down an equal percentage for each child.  The benefit to this method is that is very simple.  There are two major flaws with this method though. One potential problem is that by naming your children by name, the payout will go to them outright.  This may not be what you want for a minor child, a child who is not good at managing his funds or a special needs child.  The second flaw with this method is that if you name a child by name, and he dies before you, then under the terms of most plans his share will go to your other children and NOT to your deceased child’s children.  In other words, there is a real danger that you can accidentally cut out your grandchildren.  As a result, it is best to use this method when you have adult children who are responsible and you do not have any grandchildren. 

In the second scenario, where you designate a class of beneficiaries by using a formula, most forms will have an option that says “to my issue, per stirpes.”  The legal definition of “per stirpes” is proportionally divided between beneficiaries according to their deceased ancestor's share.  It can best be explained as follows: Equally to your children, but if one of your children dies before you then that deceased child’s share goes equally to your deceased child’s children.  The benefits to using the “per stirpes” language is that it is generally quite simple and you will not accidently cut out your grandchildren if a child of yours dies before you.  The downsides to using this formula is that some financial institutions will not accept it, and as discussed above, the money goes to your children (or grandchildren) outright.  When there is no need to worry about children receiving money outright, I almost always recommend this formula.  There is never a downside to using this formula over naming your children outright unless you actually do wish to cut out your grandchildren.

In the third scenario, where you designate a trust as the beneficiary, many forms will have a separate section that needs to be completed.  Using this method is often the most costly and the most complex.  It is costly because the trust needs to be created and if you are naming the trust as beneficiary of a retirement plan, it must be specially designed so that your heirs can take out the benefits over their life expectancy.  The major reason to designate a trust as the beneficiary of your retirement plan, life insurance or annuity is so that your children do not receive their payout outright.  This option is highly recommended if you have a young child, a special needs child or a child who is irresponsible with money.  You can control the timing of any payouts and you can allocate the benefits however you want.

When planning with life insurance, if you have a larger policy, or if you have a large estate, you should consider having a life insurance trust act as owner and beneficiary of the policy.  This could save a significant amount of money in estate taxes, especially in states like New Jersey that still have a state estate tax.  For smaller estates where young children are involved, one popular method for naming beneficiaries on life insurance policies is to name your spouse as primary, but name your estate as the contingent beneficiary.  This is highly useful when you have a Will that creates trusts for your minor children as the insurance money will pass to the children in trust and not outright.  (This can also be accomplished by naming your spouse as primary and not naming a contingent beneficiary – that is legally the same as naming your estate as the contingent beneficiary.)

Finally, I never, ever, recommend just naming one child as beneficiary and advising them that they should give up part of their share to their siblings.

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