Are You Up to Date on Qualified Plan Beneficiary Rules?
CODE §§401(a)(9), 401(a)(11)
Most TPAs don’t wake up first thing in the morning thinking about qualified plan beneficiary rules. However, improper payments due to lack of knowledge about these rules can have unwanted consequences.
For example, suppose that a plan participant dies and the plan administrator pays the incorrect person. You now have two tasks instead of one – paying the actual beneficiary and attempting to recover the funds sent to the wrong person. This can be a costly and time-consuming process, with no guarantee of the funds being returned.
Many different rules impact the administration of paying a deceased participant’s benefit to the correct beneficiary. These include knowing your plan document, required minimum distribution (RMD) regulations for beneficiary options, spousal consent issues, properly completed beneficiary designation forms, and having iron-clad procedures for paying beneficiaries. Keeping up to date with these rules can save you time, money and aggravation.
The first in a series of articles designed to provide beneficiary payment guidelines for TPAs, this article starts by covering the basic rules of the spouse beneficiary requirement for qualified plans.
BENEFICIARY OPTIONS IN A QUALIFIED PLAN
Beneficiary options for 401(k) and IRA plans are similar in many ways, but different in certain areas. For example, IRAs are not subject to ERISA, and therefore are not subject to the spousal consent rules.
Qualified plan participants are normally permitted to designate a beneficiary or beneficiaries as permitted under the plan and the qualified joint and survivor annuity (QJSA) rules. Under QJSA rules, the participant’s spouse is automatically the beneficiary and must approve the designation of a non-spouse beneficiary.
If more than one beneficiary is designated, the installment payment period is determined with respect to the oldest beneficiary. If the plan allows the trustee to set up separate bookkeeping accounts for a participant, the participant could name different beneficiaries for each account, in which case life expectancy would be determined separately for each beneficiary.
The same result can be achieved by rolling the participant’s benefit into separate IRAs for each beneficiary. The deadline for establishing these sub-accounts is December 31st of the year following the death of the participant. If the sub-accounts are not established by that date, the age of the oldest beneficiary is used to determine the payout period.
In Section 3(8), ERISA defines “beneficiary” (for qualified plan purposes) as “a person designated by a participant, or by the terms of an employee benefit plan, who is or may become entitled to a benefit thereunder.”
In the case of a missing or invalid beneficiary designation form, ERISA provides that the qualified plan document’s definition of beneficiary should be used to determine the beneficiary entitled to the deceased participant’s funds. Thus, it is important to get accurately completed beneficiary forms. This includes properly completed spousal consent when a married participant wishes to name a non-spouse as a beneficiary. Keep in mind that ERISA preempts state law.
SPOUSE BENEFICIARY REQUIREMENT: COMMON ISSUES
IRC 401(a)(11) requires the spouse to be the beneficiary of a qualified plan participant.
The spouse may consent to any other beneficiary. However, the consent must be in writing and be witnessed by a notary public or a plan representative. The beneficiary designation form should contain specific language allowing spousal consent for change of designation and that no changes may be made to the primary beneficiary designation without spousal consent. Otherwise, once spousal consent to another beneficiary is given, the primary beneficiary may be changed without further spousal consent.
Witness Plan Representative or Notary
Using a plan representative as the witness is acceptable and usually easier than a notary. However, it potentially increases risk of an inappropriate consent. The notary public is the safest method, regardless of any inconvenience to participants.
Invalid Beneficiary Forms
The beneficiary for a married participant is the spouse, unless the spouse appropriately consents in writing. Naming someone other than the spouse as beneficiary without the consent of the spouse creates an invalid designation.
Beneficiary Designation and the Estate
Generally, qualified plan assets pass outside the estate. The qualified plan beneficiary designation form, not the will, names who is to receive the retirement plan assets. The designation could be to the estate, but then the will would likely have to be used to pay out the retirement plan, which generally requires probate first.
One-Year Marriage Rule
A qualified plan may require one year of marriage before QJSA rules apply. If so, the spouse does not become the automatic beneficiary until one year after the marriage, and spousal consent is not needed for naming a beneficiary or making a distribution until the one-year of marriage is satisfied. Note that the one-year marriage rule is an optional plan provision and may not apply. Again, this reinforces the point of “know your document.”
Identifying the Spouse Upon Participant’s Death
Complications can arise regarding the designation of beneficiary after the participant’s death. Case law supports that ERISA spousal consent preempts state law. For example, a pre-nuptial agreement does not constitute spousal consent. Spousal consent can only be made by a spouse, and pre-nuptial occurs before becoming a spouse. A pre-nuptial agreement in which the spouse-to-be consents to waiving any right to the participant’s qualified plan benefit is not the same as spousal consent after marriage because the pre-nuptial occurs before marriage. Thus, spousal consent was never provided. The spouse needs to complete a beneficiary designation form consenting in writing to the naming of a beneficiary other than the spouse, after the marriage.
Example 1: It is the second marriage for both. The man signs a pre-nuptial agreement permitting her children to be her retirement plan beneficiaries. However, after the marriage a new beneficiary form is not completed. The wife dies and ERISA requires the surviving spouse to be the beneficiary because there was no spousal consent. Spousal consent can only be made by a spouse, and pre-nuptial occurs before becoming a spouse. As a general rule, upon re-marriage the participant should complete a new beneficiary designation form.
Example 2: A participant has spousal consent on the beneficiary designation form naming his three children as the beneficiaries. The participant divorces and remarries but does not complete a new beneficiary designation. The participant dies. Since the new spouse never waived being beneficiary, the new spouse is the beneficiary of the money.
PROTECTING YOUR BUSINESS AND THE WISHES OF PLAN PARTICIPANTS
As you can see from the rules and examples above, there are many areas where even a small mistake can lead to serious consequences. However, there are several steps you can take to ensure the correct naming of the beneficiary.
- If you have any questions or concerns about a participant’s named beneficiary, always consult with a legal expert.
- Inform participants to complete a new beneficiary designation whenever a life event such as marriage, divorce, birth of a child, etc., occurs.
- Recommend to plan administrators that they request all participants to review and complete a new beneficiary designation form no less than every five years.
William C. Grossman, ERPA, QPA, APA, MBA is the Managing Member of WCG ERISA CONSULTING, LLC. He assists TPAs and financial institutions in complying with IRS and DOL regulations regarding qualified plans, such as 401ks, as well as 403(b)s and IRAs; and has spoken on a wide variety of retirement plan topics at ASPPA and NIPA national conferences.
As a contributing author to PenChecks Trust, Grossman writes about current retirement plan compliance and implementation issues.
The views expressed in this article are those of the author and do not necessarily represent the views of PenChecks Trust, its subsidiaries or affiliates.
1 These articles are not provided as legal advice, nor do they replace getting legal advice to address actual scenarios that occur.