An ERISA Rule Could Potentially Disinherit Your Children

The Pitti Group Wealth Management |

We often say, “you don’t know what you don’t know,” and if you don’t have someone that you can refer to for your financial questions, you can often find yourself in a complex and difficult situation.

When starting up an employer-sponsored retirement plan like a 401(k) or 403(b), most people understand that naming a beneficiary is a crucial step to ensuring that your beneficiaries inherit your retirement assets in an efficient manner. Probate court and wills can bog down and complicate an already confusing situation. Naming a beneficiary on your company retirement plan avoids these obstacles.

When it comes to naming a beneficiary on your employer-sponsored retirement plan however, it may not be as simple as you think. Due to an obscure ERISA (Employee Retirement Income Security Act of 1974) rule, you may end up disinheriting your children from your retirement assets without ever knowing it. The rule basically states that your spouse will always serve as your primary beneficiary on your account unless they officially waive their rights. While this seems obvious and innocuous at first, it can cause issues later in life when a single person with kids gets married to a new spouse.

Let’s say Mr. Smith names his two kids as beneficiaries of his company’s 401(k) retirement plan. Mrs. Smith passes away and Mr. Smith gets remarried a few years later. According to the ERISA rule, the new Mrs. Smith is now entitled to his 401(k), even though Mr. Smith had his children originally listed as beneficiaries. Mr. Smith was not aware that employer-sponsored retirement plans, including 401(k)’s and 403(b)’s give the surviving spouse the right to inherit all the money in the account, even though there were previous beneficiaries listed before he got remarried. Mr. Smith would not only need to update his beneficiaries to his kids once he gets remarried, but he would also need his new spouse to sign a spousal wavier, giving up her rights as a primary beneficiary.

Typically, the spousal waiver form is included on the beneficiary update form and is provided by the institution that administers the company retirement plan.

You may be thinking, “what if I have a prenuptial agreement?” While a prenuptial agreement cannot explicitly waive spousal rights to inherit a retirement account, it can include a provision stating that as soon as the fiancé becomes a spouse, he or she will be required to sign a valid spousal waiver.

Also keep in mind, if you’re in a position to roll your company plan over to an IRA before the marriage takes place, this will solve the ERISA problem, since IRA’s are not subject to this ERISA rule.

The Pitti Group Wealth Management is not a legal or tax advisor. Be sure to consult your own tax advisor and investment professional before taking any action that may involve tax consequences.