Which Beneficiary Are You

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This is the Truth Network. Welcome to Finishing Well, brought to you by cardinalguide.com, with certified financial planner, Hans Scheil, best-selling author and financial planner, helping families finish well for over 40 years. On Finishing Well, we'll examine both biblical and practical knowledge to assist families in finishing well, including discussions on managing social security, Medicare, IRAs, long-term care, life insurance, investments, and taxes.

Now, let's get started with Finishing Well. Darrell Bock Well, welcome to Finishing Well with certified financial planner. Today, we've got Tom Griffith, and today's show is Which Beneficiary Are You? And of course, you may guess we're talking about IRAs and who's your beneficiary, that kind of thing, but not only that, but which beneficiary are you?

That's going to be a real great topic. But when I thought about the topic, I immediately thought that often when I get a chance to, or I get asked to speak at a lot of different places and a lot of different venues, and often I just like to start off with the best piece of advice I ever received, because when I look up the word beneficiary, interestingly, the simple definition is, you know, someone who receives benefit. And, you know, I received a huge benefit from a sermon I heard one time, it literally changed my life forever. I was not a Christian at the time I heard it. So prayer was kind of an unusual idea for me. And what this pastor said was, when it comes to prayer, you got two ears and one mouth, do the math. And the idea of that, of course, is you're supposed to listen twice as much as you speak when it comes to prayer.

And of course, Jesus kind of said the same thing in Matthew 6, when he was talking about how to pray, where he said, you know, why, you know, there's no sense in doing a bunch of babbling like the pagans do, but your father knows what you need before you ask. And so I can't even begin to explain all the times I've received tremendous benefit from just simply listening. And right now I'm going to try to receive some benefit from listening to Tom. So Tom, this is actually a huge issue of which beneficiary are for you, whether you are the beneficiary of an IRA, or you've got one where you're setting up your beneficiaries, right? Oh, absolutely.

I mean, I think this is something we deal with day in and day out of our practice. And like you said, this really is important for two groups of people. The first group, and it would be if you're inheriting an IRA, you have the loved one who has passed, they've named you as the beneficiary, which was very nice of them.

And they were thinking of you when they did that. But you need to know which of these designations you are, because your rules are different of how you have to pull money out. The IRS has all these different rules saying, are you've inherited this account, now you have to start taking money out. And you need to know which one you're in, which group you're in, because your rules are different.

So that's the first set of people. And then the second set of people, and these are the people that we really can influence today, is if you were the owner of an IRA or 401k, or money that's not been taxed yet, because they all work essentially the same way, is you need to be thinking if you're naming your kids as a beneficiary or your spouse or maybe a brother or whoever it is, is you need to know what you're leaving them. I mean, you're going to be gone at that point, but you can make some decisions now to set them up to potentially be in a better situation than if you just leave it there.

So that's what we're going to go over today. Before we sort of get into the rules, and then I'll try to not get too far in the weeds here, the first point I want to make is IRAs and 401ks were never intended to be a way to pass money to the next generation. They were always meant for retirement, your own retirement.

What's defaulted, what's happened, even though that was the intention, is that's how most people view their IRA or 401k, is they spend their whole career working and saving, they don't touch it, so they get used to not using it. They get to retirement, maybe they don't need it, which is great for them, they're in a position they can live off other money, but they view this account as something they're going to leave as an inheritance for whoever it is. And this is a very poor way to pass money on.

I mean, Robbie, you can speak to this a little bit, and it's actually worse now than it was when your dad passed, but this is what he thought when he was going along. Right, right, he was excited about the fact that a big part of his estate was a very large IRA that he'd accumulated through a great deal of sacrifice on his point of pardon. It was a lot of money, and it went to, I think actually, if I recall, five different siblings. And unfortunately, because the way it came, it just got taxed tremendously.

In some cases, one of my brother-in-laws is a CPA, and so he used the 10-year rule and all the stuff you're going to talk about right now. But in other cases, they desperately needed the money, cashed it all in in one year, and boom, the tax bomb that you are going to go into here in a bit exploded. And you think that you're getting $50,000 or whatever, but when you put it in that one tax year, and if you're at a sizable income like a lot of people are when their parents pass away, then wow.

And so this is really good information you're going to learn today. Yeah, and that happens all the time. The parents have this great intention of, like, I set this up for my kids, I've told them what to do. Well, when it comes down to it, I would say there's no data to back this up, but just in our practice, about half the people cash the IRA out, and the single year they take the full amount, they pay whatever taxes they have to pay, because it's free money in their mind. It's like, I didn't have this money before, I'll pay whatever taxes I need to get it, and you end up sending a lot of money to the state, if you're in a state that has state taxes, and to the IRS. And so if you're the owner now, you've worked your whole life in deferring these taxes and doing a good job, being a good steward of this money, and then it all gets sent to the IRS.

And so you're the owner now, you've worked into the IRS, not all of it, but a big chunk of it gets sent to the IRS, or here in North Carolina, to the state of North Carolina. So let's jump into it here. So the SECURE Act was passed back in, right going into 2020, which fundamentally changed how IRAs are treated from a beneficiary standpoint. And so we don't need to go back, if your loved one passed prior to 2020, so 2019, and before, they fall under the old rules.

This show is not talking about this. This is talking about people who died from 2020 and forward and also into the future. So after that, there are three designations that you could fall into from a beneficiary standpoint. So I'm going to name them, and then we'll go through and sort of give you more details on each one. So the first one is a non-designated beneficiary. So non-designated beneficiary is the first category. The second category is non-eligible designated beneficiary.

Okay, now we're adding more words here, but I think we're following. And then the third one is eligible designated beneficiary. And so that's sort of one, two, three, and we'll go through and sort of define what each one is. The first one, and this is sort of maybe the simplest, the non-designated beneficiary simply is just someone, it's not a person. If you were naming like an estate, a charity, a certain type of trust, if it's not set up properly, you fall in this non-designated beneficiary or a non-person beneficiary.

And this is sort of the least favorable rules around distributions. And so one of the, I mean, to summarize it a little bit, if you're in this category is generally, you would have now five years that you have to draw down that account. So maybe it's a parent, someone has died, they named their estate the beneficiary, which is oftentimes people in our profession, they just do that as something simply to write down on the paperwork. If they put the estate, and so it gets paid into the estate, now it has to be distributed over five years, which is the fastest acceleration that we're going to walk through today.

And so if you have a $100,000 account as an example, now you divide that by five, that's 20,000 a year, if you take that equally each year, and you have to pay taxes on that. Like Robbie, you were mentioning earlier, a lot of people just cash the whole thing in. But this would be a reason to not name your estate. Darrell Bock Well, another thing, but you might, I was just going to jump in here.

I had a little experience with this. If you name the estate as the beneficiary, then you got to go through probate, right? Brian Oh, yeah. Darrell Bock And one of the big benefits, so if you've named your estate as a beneficiary, let me just really help your beneficiaries out a lot.

I mean, or what are you going to do with it? Because if you have regular beneficiaries on your IRA, it avoids probate, which probate easily on big estates goes a year or more, because you have to wait till the taxes are filed and all these different things. And all these different requirements that estates have to go through. So if you name your estate as a beneficiary, or anything that you can pass on to your heirs without going through your estate is a huge benefit to them, because it can happen immediately, rather than waiting on a long period of time and going through a long process, as well as the county that you live in is going to look for the tax anyway that they can tax whatever is coming through there.

Brian That is a great point is one of the main benefits of a beneficiary is named properly can bypass probate. And that's where things get caught up in the courts. You have to have all these reporting requirements, and you have to accounting of everything. And it just it can take a long time, like you said, Robbie.

And so it really slows everything down. Whereas if you name an individual person, a beneficiary, I mean, a couple weeks later that they've set up an account, and that money has been moved over to them right away. And so there really needs to be a very strong reason. I can't really ever recommend in someone named their estate, the beneficiary and so I would need to have you would have to convince me, you know, a lot to go along with that plan.

But yes, it's not a great way to do it. The other sort of next group of people in action back before I go to that, the other one that we see a lot of times is a trust. So a lot of times people will go to, they might have seen a seminar, they might have talked to an attorney, and they have a trust set up, which trusts are not bad inherently.

It's just a lot of times they're used, maybe for things that don't necessarily need to be used for. As an example, one of the main benefits, if you ask an attorney of a trust, is they pass outside of probate. Well, named beneficiaries pass outside of probate as well. So if the only benefit of the trust is to bypass probate, you might not need to name the trust as a beneficiary on these IRAs. Furthermore, if the trust is not set up properly, it needs to have very specific language.

If you have questions that call us, I don't want to get into that. I have experience for that one, too. I'm just saying that man, I mean, I had to get things that for a trust that wasn't set up properly. I've never even heard about a gold stamp, something or other, and I had— A dying signature guarantee would be my guess is what that was. Yeah, I had all sorts of new hoops that I had to jump through and get professional help with, just because of this trust that had actually never really been set up properly. And so, like, oh my goodness, trusts have got all their own little details that I would try to avoid if possible.

We've got to run to a break. And so we want to remind everybody that this show is brought to you by cardinalguide.com. So if you go to Cardinal Guide and you look at the Seven Worries tab, you're going to find one of those is IRAs, and that's what we're talking about today. And so there's wonderful show notes Tom has there that goes through this chart, all these different types of beneficiaries, what all the implications are all in the show notes there under the Seven Worries tab, which again, today's show is under IRAs, as well as, of course, very importantly, the contact information for Tom and Hans and Hans' book, The Complete Cardinal Guide to Planning for and Living in Retirement.

So we'll be right back with a whole lot more of which beneficiary are you. Investment Advisory Services offered through Brookstone Capital Management LLC, abbreviated BCM, a registered investment advisor. BCM and Cardinal Advisors are independent of each other.

Insurance products and services are not offered through BCM, but are offered and sold through individually licensed and appointed agents. Cardinal Advisors is not affiliated with or endorsed by the Social Security Administration or any other government agency. Welcome back to Finishing Well with Certified Financial Planner, Tom Griffith, and today we are talking about which beneficiary are you.

And specifically, we're talking about an IRA or a 401k. If you're receiving or if you have the IRA and you're setting up your beneficiaries both, you need to know what designation you're using at that from the IRS standpoint when you go to set these things up or if you're the recipient of that. And so we first half of the show, we pretty much covered the non-designated beneficiaries, but we got two more to go, right Tom? Yep, we got two more to go. And I'm going to jump to the third one because I think it's easier to talk about that one first and then we'll do the middle one next.

And I'm referring to, we have a page that we have in our show notes from our YouTube channel that has 123 and that's what I'm referring to. But sort of the next group of people is going to be the eligible designated beneficiaries. And so this is going to be the class of people that it's the most favorable to. These are the ones that get to use kind of the old rules before the SECURE Act was passed. They can still stretch this IRA over the rest of their life as opposed to a 10-year rule, which we'll talk about in a second. But the sort of the groups of people that fall into the eligible designated beneficiaries. The first one is the surviving spouse.

And they actually have even more favorable options. So we'll talk about them maybe last, but surviving spouses, minor children of the account owner. So this is people who are under 21 of the owner of the account.

Grandchildren do not qualify for this. So they have to be the children, a minor child of the account owner, a disabled individual. So this is important for those special needs. People maybe have an adult child who has special needs. They qualify as an eligible designated beneficiary. Chronically ill individuals. The IRS has pretty strict rules around who qualifies for that.

But if you're sick or you're terminal, you would be in that terminal but chronically ill. I mean, so it's going to be similar to disabled, but again, very strict IRS guidelines there. And then this one's one that a lot of people forget are individuals not more than 10 years younger than the IRA owner. So think of like a brother or a sister, a sibling, someone who is less than 10 years difference in age, they would fall under this eligible designated beneficiary.

Say, okay, now I'm in this group. What does this mean? What this means is you can stretch the IRA out over the rest of your life. And so there's a table the IRS uses. You go look at the table at the age you are when you inherit the account, and it gives you a number. And you divide the IRA balance by that number. And you do this, and that number changes each year. And you do this every year until that account balance is depleted. And so it allows you to stretch it out potentially for a long time, especially if you're younger when you inherit it. And so this is more favorable than sort of this last category. Surviving spouses, they have even more options.

And these are the only people who can do this. But if you're a surviving spouse, you can essentially take over that IRA. It's the only way to retitle an IRA directly in your own name is if you're a spouse and you inherit an IRA if you're a deceased spouse.

You can just take it over. So my wife's Chelsea. So Chelsea has an IRA.

She passes away. It can now just become Tom's IRA or vice versa. They also have the option to keep it. I could keep it as Chelsea's IRA, and there's reasons to do that potentially depending on ages. But those are some options for surviving spouses. But again, these are going to be the most favorable. And that group of people is pretty limited because what oftentimes happens, I mean, if you have a couple, you're normally naming the surviving spouse as the primary beneficiary, which that makes sense.

And then you name the kids. And the kids are going to fall in this next category, and this is probably the most common way that we see IRAs passed, and that is the non-eligible designated beneficiary. So a whole lot of words, but essentially they're non-eligible as opposed to eligible. So these ones are not eligible for those special rules. And this is where a big chunk of people fall into.

And this is really what changed the most in the SECURE Act. And what this states is that that IRA balance has to be depleted by the end of the 10th year following the year of death. So if someone were to pass away in 2024, the year after the year of death would be 2025. So you'd go to 25, and then you'd count 10 years, with 25 being the first year, 2025 being the first year. At the end of that 10th year, that account has to be emptied.

There can be no balance left in there. And so that really, if we compare that to the stretch where you can stretch out over the rest of your life, and now we shorten that to a 10-year window, especially if you have a large IRA balance or inheriting a large IRA balance, that could really drive up your taxes. It could really not be the intention of what your desired result is ends up being blown up because you have this tax bomb that you've inherited that you're having to pay a whole lot of taxes to the IRS. And so this is, again, it's important to know which category you fall into if you're inheriting it.

And again, this is somewhat confusing, so call us if you have questions. And then I think almost more importantly is if you're the owner of the IRA and you're looking forward to the future of what you want this money to do, what impact you want it to have, you need to think through what you're setting up your beneficiaries to inherit and what kind of tax liability you're leaving them, not to mention what tax rates might be in the future. I mean, we know, we have other shows we do on this, but we know the tax rates are increasing in 2026 in the current law.

And our prediction is they're going to go even higher than that. And so you're setting them up to have to take it out over a 10-year window of time at higher tax rates. It's just not a great way to pass money to the next generation. So does it work when you're setting up your beneficiary to where you can set up certain percentages to go to certain beneficiaries?

Sure. So let's run through an example where, I mean, a common one would be you'd split it evenly. Let's say I have, so I have two kids and I'll fast forward many years so they're not minors anymore. But if I were to pass away, I could have it go 50-50 to them. Maybe I've helped one of those kids in the past with something, maybe it helped them start a business or who knows what I did.

And I wanted to make it all right at the end. I could name one of my kids maybe 80% beneficiary and the other one 20%. You could have maybe a second spouse, a second marriage, and you still want to leave a big chunk to your kids, but you want to leave some money remaining for that surviving spouse, second spouse.

You could do it like, you know, I don't know, 30, 30, 40, or something like that. So you can split it up all sorts of different ways. The way I was thinking about myself, I was just going, well, I know that, you know, one of the great people to make a beneficiary is the church or another charity, right? Because they are not going to be given any kind of tax bomb whatsoever. And so if you've got other life insurance and that kind of stuff, you know, that's the stuff to give your kids, right? Absolutely. And then maybe whatever percentage of the IRA that might not have been distributed. But, you know, here's a great opportunity to give money to a charity where they won't have to pay a dime a tax on it, right?

Absolutely. So when we have clients who have a desire of being, to giving to charity, a lot of times that might be to the church, and they have a choice of which type of money to leave, where. IRA money, we absolutely want to leave that money to the church because they got a tax deduction. I'm talking about the IRA owner.

So let's, we'll use me as an example. Let's say I have the IRA. When the money went into the IRA, it got a tax deduction on my taxes in the US. Now my taxes in the year I put it in there, it grew tax deferred, meaning I didn't have to pay any taxes on the growth between now and when I eventually pass. And if I named the church or a qualified charity 100% beneficiary, then that charity or the church doesn't have to pay taxes on it either.

So that money was never taxed along the way, which is, it's a wonderful way to give money. And so better ways, because I think this sort of gets into, okay, now you've really convinced me that this is not a great way to leave money to the kids, but I still do have a desire to leave money to the kids, so how should I do that more efficiently? Life insurance is a great way to do it. If you have money or assets outside of IRAs, like property investments outside of IRAs are great things to leave to the kids, that would be something that would be better. Again, life insurance is a wonderful tool. If we have a known amount of money, we want to go to somebody because life insurance proceeds are tax free, where the IRA, they would be taxed.

And so I'll run through an example that Hans talks about. His mother-in-law, she passed several years ago, and she had kind of a small IRA that she named all the kids, the beneficiaries of the IRA, but she had money just in the bank, and she left that money to the church. Where what would have been much more efficient is to switch that, is have the money in the IRA go to the church because then no one would have had to pay taxes on it, and have the money in the bank go to the kids because they also don't have to pay taxes on money outside of IRAs. And so it's little things like that that can make a big difference from a planning standpoint to making sure that who you want to receive the money gets what you think they're going to get.

And then ultimately, not that we're against paying taxes, but if we can pay less in taxes, I think that's a good goal to have. It's good stewardship, right? You get to bless, you get to be more intentional with how that money is used and be more directed. Yeah, and I think it's important to note too, Tom, that life insurance passes outside of probate, and also all your bank accounts, and if you've got beneficiaries named, and what is it called? Deposit on death or something like that? Yeah, so there's a transfer on death designation that you can put on like your bank accounts.

So you're not naming your child as a owner of the account, you're still the owner of the account, but it acts just like a beneficiary. So upon your death, it transfers to them outside of probate. Another way to, another good way to pass money on to the next generation would be Roth IRAs. And so these Roth IRAs still sort of fall within these rules, but there are no tax implications because all Roth IRAs are tax-free. And so if you were really did have this large IRA, you weren't interested in life insurance, or maybe you couldn't qualify for some health reasons, you could come up with a strategy, and we do this a lot with our clients, where you convert money from your traditional IRA by paying the taxes. So there's some cost to do this, but you convert it from the traditional IRA to the Roth IRA.

Once it's in a Roth, now that account is tax-free, it passes on tax-free, and that would be a better way to set your kids up, you know, to keep more of that, your hard-earned money. Yeah, that's wonderful. Well, as always, we've run out of show before we've run out of time, or we've run out of time before we ran out of show. But we want to remind you that the show, again, is brought to you by CardinalGuide, cardinalguide.com. There you can find, of course, most importantly, in my opinion, how to contact Tom, how to contact Hans, as well as, you know, all sorts of resources on IRAs.

If you look, there's a Seven Worries tab there. One of those is IRAs, and there you're going to find the show notes and tons of information on IRAs, tax strategies, and all sorts of information there. And then, of course, there's Hans's book, The Complete Cardinal Guide to Planning for and Living in Retirement.

And Tom, what a great show. Thanks so much. Thank you. The opinions expressed by Hans Scheil and guests on this show are their own and do not reflect the opinions of this radio station. All statements and opinions expressed are based upon information considered reliable, although it should not be relied upon as such.

Any statements or opinions are subject to change without notice. Investments involve risk and unless otherwise stated or not guaranteed. Past performance cannot be used as an indicator to determine future results. Any strategies mentioned may not be suitable for everyone. Information expressed does not take into account your specific situation or objectives and is not intended as recommendations appropriate for you. Before acting on any information mentioned, please consult with a qualified tax or investment advisor to determine if it's suitable for your specific situation.

Finishing Whale is designed to provide accurate and authoritative information with regard to the subject covered. Investment Advisory Services offered through Brookstone Capital Management LLC, abbreviated BCM, a registered investment advisor. BCM and Cardinal Advisors are independent of each other.

Insurance products and services are not offered through BCM but are offered and sold through individually licensed and appointed agents. Cardinal Advisors is not affiliated with or endorsed by the Social Security Administration or any other government agency. We hope you enjoyed Finishing Whale brought to you by cardinalguide.com. Visit cardinalguide.com for free downloads of this show or previous shows on topics such as Social Security, Medicare, IRAs, long-term care, life insurance, investments and taxes, as well as Hans' best-selling book, The Complete Cardinal Guide to Planning for and Living in Retirement and The Workbook. Once again, for dozens of free resources, past shows, or to get Hans' book, go to cardinalguide.com. If you have a question, comment, or suggestion for future shows, click on the Finishing Whale radio show on the website and send us a word. Once again, that's cardinalguide.com. Cardinalguide.com. This is the Truth Network.