Consider Avoiding Direct Beneficiary Designations

28 Jul Consider Avoiding Direct Beneficiary Designations

If you have an RRSP, a TFSA or a life insurance policy, you’ve probably designated a beneficiary for that account or policy. But did you think it through carefully first? Or did you just write down the first name that popped into your head?

Conventional wisdom says to designate a beneficiary whenever possible. But many experts believe that these designations are overused. Let’s consider the issues carefully.

Designating a beneficiary means that the money in the account or policy will pass directly to the beneficiary. The funds are available more quickly, since they pass outside the estate and aren’t subject to the terms of the will. This results in a smoother transfer that minimizes probate fees and avoids creditor access to funds.

And all of this is true – if you intend to leave your whole estate to one person.

In the case where you have multiple heirs, however, designating a direct beneficiary can be problematic at best and disastrous at worst.

Consider the following:

• You have two children. You leave your RRSP to one child and your TFSA to the other child. But RRSPs are composed of pre-tax dollars and TFSAs are composed of post-tax dollars. Even if the value of the accounts is equal, your two children will not inherit equally.
• You have two children. You leave your RRSP, valued at $400,000, to one child and your estate, also valued at $400,000, to the other child. But, again, RRSPs are composed of pre-tax dollars. When you die, the tax burden shifts to the estate, and the estate has to pay the tax. So the child who inherits the estate has to pay the taxes and will inherit significantly less money than the child who inherited the RRSP.
• When you planned your will, you purchased an insurance policy that was intended to ensure that all your heirs will receive an equal inheritance. But then you designated a beneficiary for that policy. Regardless of what is intended or directed in the will, the named beneficiary always receives the money.
• You are separated but not divorced from your spouse. Your will stipulates that your children should receive the entirety of your estate. But a spouse has rights, and can bring a claim against the estate to reclaim assets. And often, assets distributed outside the estate (through beneficiary designation) are often used to satisfy those claims. So a child who should have inherited an RRSP or an insurance policy may not receive it.

The last thing you want is your heirs fighting over their inheritance. It may seem like a good idea to designate a direct beneficiary, but these designations should be used with extreme caution. Don’t just blindly complete the forms. Confirm with your advisors first that these designations won’t harm your estate in any way. It is often safer to designate your estate as the beneficiary of these accounts and policies.

To learn more about preparing your estate, contact us.

Joel Rose

With over 35 years of experience, Joel Rose helps families – and their businesses – to prepare for the future. He offers guidance and support to help his clients create estate plans and succession plans that meet the needs of the whole family. Through his extensive professional and personal experience, Joel is known for his compassion and his ability to find a creative solution to meet each family’s needs.