The 4 Pitfalls Of ‘Designated Beneficiaries’ On Transfer On Death Investment Accounts

When you set up an account to “transfer on death,” the assets will go directly to beneficiaries upon the owner’s death. While these assignments can help avoid probate, this account titling should still be carefully coordinated with the owner’s overall estate plan, especially for larger accounts and estates.

While simply titling an account “Transfer on Death” and adding a beneficiary or two may seem common sense, it may not always be so simple. This type of account can easily be set up on most investment accounts. The main benefit to these types of accounts is that assets can be transferred relatively quickly to a beneficiary, and the costly and timely process of probating the assets is avoided. Another advantage is beneficiaries can be changed more easily than amending a trust, for example.

As they say, there is no free lunch. Titling an account “transfer on death” will not solve all your estate planning needs. Likewise, mistakes or omissions can be made with any beneficiary designations. Here are a few of the issues you need to be aware of when using a Transfer on Death (TOD) account titling.

Life Changes Need to Be Addressed

Titling of the accounts won’t change when your life does. Marriage, divorce, death of a beneficiary all should prompt you to review your beneficiaries.  Make sure you decide who you want to inherit your IRAs and 401(k) as well.

Ignoring Your Overall Estate Plan

Your TOD accounts need to be coordinated with your overall estate plan. The importance of this grows with the size of your net worth. Failing to keep beneficiaries’ updates can lead to strife among your heirs and might even lead to litigation. Picture setting up a TOD account with equal balances for each of your three children (just as an example). Well, 20 years go by, and between withdrawal and varying account performance, each of the three accounts has a vastly different account balance. If this was not your intent, some adjustments to beneficiaries might be needed. Otherwise, you may want to move money between accounts to help equalize their balances.

Another issue that pops up when most of your assets are held TOD, once the account is passed to the beneficiary, the estate may not have enough money left to pay taxes or maintain the family etc. There is less flexibility on the estate planning side with a TOD account when compared with a living trust.

Spousal Rights

Be careful when naming a minor as your beneficiary on your Transfer on Death account. Typically, investment firms will not release the assets of an account to a minor without a court order naming which adults have the legal authority to make a financial decision on behalf of the minor. Also, the TOD assignment doesn’t allow for any instruction on how money is to be used. You also can’t restrict it until a certain age like you can with a trust. What could go wrong with giving an 18-year-old unfettered access to a large inheritance?

It is common for a married couple to create joint transfer-on-death accounts. (Often titled Joint Tenants with Rights of Survivorship JTWROS). Keep in mind that when one spouse dies, the other will receive complete control of the account under the right of survivorship. This can be a problem with blended families, or marriages, later in life.

TOD for Elder Care?

As we age, we may need more help from a loved one. Many seniors have a Power of Attorney” (POA) who can help make decisions and pay bills on their behalf. TOD does not give anyone power of attorney. 

Set a calendar reminder to check your beneficiaries every year or two. You’d be amazed at how often a child is missed, or your life savings are being left to your first husband (whom you now hate). There may be reasons for these omissions, or perhaps, you just never updated your beneficiary on an account set up decades ago.