Typically, if your estate is the primary beneficiary of your retirement plan when you die, the entire value of the retirement plan account will be subjected to federal income tax and state income tax.
Your retirement plan accounts need their own special “Will”, separate and distinct from your other Estate Planning documents, such as your Last Will or Revocable Living Trust.
This special “Will” for your retirement account is called the beneficiary designation form, which you must create to ensure your retirement plan benefits pass to whom you want, when you want, and in the manner you want after you die. (A Trust and/or will cannot dictate for you). If you wish to control the distribution of your retirement plan assets when you die, it is essential that you complete and sign a beneficiary designation form for every retirement plan account you own.
If you do not complete and sign a beneficiary designation, then the terms of what is called the custodian agreement or plan agreement will dictate where and how your retirement plan benefits will be distributed when you die. (There is a good chance that per the custodian agreement or the plan agreement will distribute to your estate).
If you are married, California Law also provides certain rights to your Spouse, as a Retirement Account Holder, which will be elaborated upon in future articles.
As a rule of thumb, generally speaking, whenever your estate is beneficiary of one of your retirement accounts (depending on the type of retirement account), at least one third of the retirement plan balance will be lost due to income taxation of your entire retirement account balance. This unnecessary loss can be easily avoided, simply by making sure you have completed and signed proper beneficiary designations for every retirement account you own prior to your death.
In essence all retirement plan estate planning begins at the beneficiary designation level. You can also designate qualified IRA trusts as the beneficiary and that way you can control when your loved ones receive it, and do not fall victim to lump income tax bills.