Module 2 — Planning Tools

Retirement plans currently hold assets totaling more than $27 trillion. For many people, retirement benefits represent their single largest asset. In addition, many retirement plans provide survivor benefits for beneficiaries of deceased workers and retirees. These survivor benefits must be carefully considered as part of the total estate plan.

Technically, pensions and profit-sharing plans are contracts between the employee (or retiree) and the employer. When an employee enrolls, they designate a beneficiary to receive death benefits payable under the plan. Upon the employee’s or retiree’s death, the plan pays death benefits directly to the designated beneficiary. Since benefits pass to the beneficiary outside the probate process, qualified retirement plans function as a will substitute. Similarly, annuity contracts with beneficiary designations can also serve as will substitutes.

Probate vs. Taxable Estate

If the employee designates a beneficiary other than the estate, death benefits avoid probate. However, they generally do not avoid the taxable estate. Benefits “receivable by any beneficiary by reason of surviving the decedent” must be included in the deceased’s taxable estate at their full replacement value (the cost to purchase an annuity providing comparable benefits), regardless of how the survivor elects to receive them (lump sum or installments).

Qualified Retirement Plans — ERISA

In 1974, Congress enacted the Employee Retirement Income Security Act (ERISA), mandating minimum standards for private-sector pension plan participation, funding, and investment activities. Plans that comply with ERISA requirements are qualified retirement plans eligible for favorable tax treatment.

The Retirement Equity Act of 1984 added important spousal protections:

• The spouse of a married employee (married at least one year) has a vested interest in one-half of the employee’s pension benefits
• If the employee wishes to designate someone other than the spouse as beneficiary of death benefits, the employee must obtain the spouse’s written permission
• Qualified plans must generally pay retirement benefits to married employees as a joint and last survivor annuity, ensuring the surviving spouse is not disinherited — any other payment form requires the spouse’s written consent
• Federal law requires qualified plan trustees to provide an annual statement of each participant’s vested benefits

Divorce & Beneficiary Designations

Divorce does not automatically change a retirement plan or annuity beneficiary designation for private-sector plans governed by ERISA. If the employee wishes to remove an ex-spouse as beneficiary, the employee must take affirmative action to change the designation. Failure to update the designation can result in an ex-spouse receiving the death benefits.