Why Your Retirement Account Paperwork Needs to Be Done Right

When we look at retirement accounts at REAP Financial, we see that most people hold the majority of their wealth in IRA or 401K accounts. However, most people don’t update the paperwork on those accounts as frequently as they should. Not keeping the paperwork for these accounts up-to-date can create significant problems. Today, we’ll walk you through two common pitfalls we see with IRA and 401K paperwork and how to avoid them by keeping your information up-to-date.



Case 1: Moving Without Notifying Your IRA Custodian

Imagine, an IRA owner moves from one address to another without updating their IRA custodian with their new address. As you likely know, you can change your IRA custodian whenever you want. The other side of the coin, which few people realize, is that IRA custodians can decide to stop being the custodian of your account. This means a custodian can close an account without any action or input from the account owner, as laid out in the fine print. The most common provision says the IRA custodian can close the account thirty days after notifying the account’s owner, allowing the owner time to move the account to a new custodian. Typically, if you don’t get another communication, the account is simply closed, and the account balance is distributed, typically through a check in the mail with a letter of explanation. This letter and check will go out to the last known address. The custodian will also send a 1099-R form to the account owner and the IRS listing the account balance as a distribution.

This can have serious consequences, since you’ll have to include that full distribution balance in your gross income for the year, unless you can roll it into another qualified retirement account within 60 days of the distribution. If you’ve moved, without notifying your IRA custodian, you could be missing these critical communications, which can cause further issues with your taxes and retirement funds. For just one taste of how complicated this can be, one IRA owner who faced this issue had to pay $10,000 dollars just to receive a ruling from the IRA, allowing them to roll their distribution into a new retirement account (not to mention all the CPA costs and headaches that came with it). If you have moved over the years or are planning to move, it is crucial that you notify your IRA custodian to avoid complications and fees like these.

Case 2: Dispute of a 401K Inheritance 

This second case goes through the dispute of a 401K Inheritance between the deceased account owners and a second spouse and children from the first marriage. In our example, the deceased worked many years at a firm with a nice 401K plan and had designated this account for his children, as joint beneficiaries of the account. Later, this firm was acquired by another firm, and the deceased was employed by the new firm when he died. The assets from the original firm’s 401K were rolled into a new 401K when the firm was acquired. However, the owner did not file a new beneficiary designation form when the new employer merged. Under the rules of a new 401K plan, if a plan member fails to designate a beneficiary, the surviving spouse is the sole beneficiary of the account. So, when the owner dies, his widow is identified as the sole beneficiary of the account, in the absence of other designation.

In our example, this means the 401K balance was passed to the second spouse of the deceased, leaving the children from the first marriage upset. In turn, they filed a claim for the account with the account administrator, who denied the claim and asked the court to make a final ruling. Ultimately, the court ruled that the second spouse was the rightful recipient, all because the deceased failed to designate another beneficiary when his 401K plan rolled into another. Since there was no evidence the firms intended for the plans to merge, the children could not prove their case, despite the fact that his will indicated he wanted his children to inherit most or all of his assets.

Unfortunately, none of those supporting documents, including a will, matter when we’re looking at retirement plans. All that matters is the beneficiary designation form. This can happen with 401K accounts and life insurance policies. If you’ve had a life change, such as a divorce, you want to make sure your beneficiary designation reflects who you want to receive your accounts or life insurance. The beneficiary designation form always prevails in these matters, so make sure yours are in order!

Pay Attention to Your Retirement Paperwork!

We’ve shared two simple examples of how an issue in paperwork can have enormous consequences for your retirement funds in 401K and IRA accounts. Since most people have significant wealth in these accounts, making sure the paperwork is correct is crucial. At REAP Financial, an Austin, TX -based retirement planner, we can do an analysis of all your retirement accounts and give you a comprehensive report at no cost to you. Simply email retire@reapfinancial.com to request a review with one of our fiduciary advisors! It’s an easy way to make sure you’re setting yourself up correctly to get the most out of your retirement.

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