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Your 401(k) beneficiaries
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November 16, 2000: 6:16 a.m. ET
If you add a child as a beneficiary, it will mean big estate taxes
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NEW YORK (CNNfn) - You've dutifully been putting money aside in your 401(k), and you're wondering if you should make your child a beneficiary along with your spouse. You might think you're providing for his future – but you'll also give him a big tax bill.
In response to a reader's question, Don Boegel, a certified financial planner from Plymouth, Minn., and a member of the Financial Planning Association, said there are better ways to provide your kids with financial security than leaving them your 401(k).
Ask the experts a question
I would like to know if I could add my son as a beneficiary along with my spouse to my 401(k). I would like to be assured that he would get a share if something were to happen to me. Are there any IRS rules governing or restricting this?
Yes, you can name your son as beneficiary. However, it is the most expensive way to provide "security" when compared to non-retirement plan assets.
Consider this: Only your spouse is allowed to preserve the tax deferral of your 401(k) account by transferring it to an IRA. Any other beneficiary must begin making withdrawals from the account immediately and, in a worst case scenario, may be forced to take it all out in one year. Ouch!
Think of how much your beneficiary would lose to income taxes. Further, the law requires that your spouse receive 100 percent of all retirement plan proceeds UNLESS she specifically signs off on some other beneficiary arrangement. So, even if the taxes don't concern you, your spouse MUST agree to splitting her inheritance.
Click here to read about tax-deductible IRA contributions.
It is customary to name both a Primary beneficiary and a Secondary beneficiary for most retirement plans. All proceeds would go first to the Primary beneficiary (or beneficiaries) and only to the secondary beneficiary (or beneficiaries) if the Primary beneficiary is deceased.
It is quite common to have a spouse named as primary beneficiary and kids as secondary. I advise all my clients to have both Primary and Secondary beneficiaries named on their retirement accounts and based on the wording of your question, I'm assuming that you would like minimally to provide for both your spouse and son.
Obviously, naming your son, directly as beneficiary (either in part or whole) does guarantee he would receive that part of your 401(k) plan, albeit at a high tax cost.
Therefore, I would consider making provisions for your son's security with other kinds of assets such as stocks, bonds, mutual funds, life insurance, or real estate (all non-retirement plan assets) through a Will of Revocable Living Trust. These kinds of assets are not subject to the harsh income tax your 401(k) plan is.
Click here to read more about estate planning on CNNfn.com.
If other assets aren't available, another option would be to name a Trust as beneficiary of your 401(k). The provisions of the trust would dictate how your 401(k) assets would be dispersed, and over what time period. A word of caution though: naming a Trust as beneficiary is very aggressive and not often utilized because of some very stringent rules. If this sounds like the best option to you, I'd recommend talking with a good tax attorney who has previous experience dealing with naming Trusts as beneficiaries.
In closing, naming your son as a direct beneficiary of your 401(k) plan may not be in your son's best interest. I'd recommend looking at all the other options before doing that, especially if all you really want to do is make some kind of provision for your son. 
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