Avoid Making These 3 Estate Planning Mistakes With Your Roth IRAs and 401(k)s

People invest and save their money with a view to secure their financial future along with that of their families. Many a time, one generation manages to build a substantial legacy for their upcoming generations, which their descendants are able to take advantage of and have smoother and more fulfilling lives. But, to reach that level of wealth accumulation, simply saving money won't get you there. You need to consider several aspects related to your finances such as taxation, your choice of investments, retirement accounts, etc. In addition, you also need to decide your beneficiaries in case of your demise.

Retirement accounts such as 401(k)s and IRAs (Individual Retirement Accounts) are popular investment instruments among investors who wish to leave an inheritance to their heirs, as these retirement accounts offer many benefits. If you invest in a Roth IRA, you do not have to pay RMDs (Required Minimum Distributions). Moreover, you can make tax-free withdrawals provided you have completed a five year holding period and reached 59.5 years of age. Do note that you make after-tax contributions in a Roth IRA. Whether your heirs may or may not be able to enjoy the tax-free status of this account depends on how you have managed your Roth IRA. To know more about Roth IRAs and their implications on estate planning, consult with a professional financial advisor who can shed some light on the matter.

Let us go through 3 estate planning mistakes that you must avoid if you have invested in a Roth IRA or 401(k) account:

1. Not naming a beneficiary



Not naming a beneficiary is an extremely common mistake made by investors when it comes to estate planning. This field is generally found empty when filling up important sections in most IRAs. This primarily happens because a considerable amount of people open their IRAs quite early in life (usually before getting married and having children) and then forget about it. With the passage of time, they forget to revisit their IRA to assign a beneficiary.

Not naming a beneficiary can prove to be an expensive decision since one’s inheritance depends upon a will. If you fail to write a will, your heirs will have to go through a lengthy process of hiring a lawyer, going to court hearings, investing time, money, and effort to get hold of your inheritance.

It is advised that you name a beneficiary as and when you open your IRA, whether it is your parents or siblings. As and when you marry, divorce, have children, or remarry, ensure that you make the desired changes in your IRA. By doing this, you will ensure that your spouse and children get their inheritance and rights without having to undergo any unnecessary hassles or issues.

2. Selecting the wrong beneficiary



Naming the wrong beneficiary is an avoidable mistake as well. A lot of married folks name each other as beneficiaries in their respective IRAs and 401(k)s, but this may not be the right call when it comes to Roth IRAs. In a Roth IRA, you can name a younger beneficiary such as your children that will enable you to extend the distribution period for 10 years under the SECURE Act. Moreover, in cases wherein the beneficiary is either chronically ill, disabled, under the age of 18, or is no more than 10 years younger to the original owner, the deadline for distribution can be extended further throughout their lifetime.

In Roth IRAs, you can make tax-free withdrawals subject to meeting certain conditions stated above and you can benefit further, since wealth appreciation is not taxed upon the death of the original owner. With that said, you do need to take cognizance of taxation rules that may apply to younger beneficiaries in line to inherit your Roth IRA funds. Reaching out to a financial advisor for guidance on the same may prove to be helpful.

3. Not taking out RMDs at regular intervals



RMDs refer to minimum amounts that a retirement plan account owner must withdraw each year starting with the year that he or she reaches 72 years of age (70 ½ if you reach 70 ½ before January 1, 2020), if later, the year in which he or she retires. The RMDs need to be taken at regular intervals as mandated by the Internal Revenue Service (IRS) failing to do so would result in stiff penalties.

When the original account owner has passed away, sometimes the heirs neglect to take out these distributions in a timely manner. If the beneficiary is not the spouse of the original owner, then as per stipulated rules, they need to start withdrawing RMDs with effect from 31st December of the next year in which the original owner died. If the beneficiary fails to take out the RMD at regular intervals then:

• He/she may be forced to withdraw the complete amount within a period of 5 years. This period can be extended to 10 years if the beneficiary withdraws RMDs at regular intervals.


• If the beneficiary has failed to adhere to the stipulated norms concerning withdrawals of RMDs, he/she would be liable to pay hefty taxes amounting to 50% of the amount not withdrawn.

To conclude

When it comes to managing your finances, it is highly recommended to exercise due diligence and caution to ensure that you have enough to meet your present needs as well as for your future financial needs. It is also essential to ensure that you undertake estate planning to take care of tasks such as making a will, setting up trusts or making charitable donations to limit estate taxes, naming an executor and beneficiaries, and setting up funeral arrangements. Consult with a financial advisor who can help you ensure that your affairs are in order and in tune with your wishes in case of your demise.

To get in touch with a fiduciary advisor who may help you avoid making mistakes when it comes to estate planning, use the free advisor match service. Based on your requirements, the platform scans through registered and qualified advisors to match you with an advisor suited to your financial needs and goals.