While few people want to think about their own death, planning today could benefit loved ones after you're gone. That's especially important when it comes to any savings you've amassed in an ERISA (Employee Retirement Income Security Act)-governed plan, including workplace retirement plans like a 401(k) or 403(b). Plan rules vary, so make sure you understand how yours works.
What happens to your 401(k) when you die?
When you die, your 401(k) or Roth 401(k) generally passes to the beneficiaries listed on your plan. These are people you've told your plan administrator should receive the assets in your account upon your death. Provided you've named beneficiaries, this process takes place outside of what's called probate—the potentially lengthy legal process that reviews and transfers your assets to those you intended.
This comes with a many important caveats, however.
- You may designate multiple primary beneficiaries. You must allocate a percentage of the account to each beneficiary, so that all percentages add up to 100%. To designate more than 50% to any other beneficiary, your spouse may need to consent who you designate as beneficiaries.
- If you do not designate a beneficiary, your spouse automatically inherits your 401(k) upon your death.
- Beneficiaries named in your plan inherit your 401(k), even if you stipulate other people receive it in your will.
- You may name what are called contingent beneficiaries to receive funds if your primary beneficiaries die before you do. If you don't, depending on your plan, your 401(k) becomes part of your estate and will go through probate with the rest of your possessions.
- Similarly, if you aren't married and haven't designated a beneficiary, your 401(k) may become part of your estate and goes through probate.
- In some cases, if you've named your estate as the beneficiary, it will need to go through probate.
How to help ease the inherited 401(k) transfer process
To facilitate the transfer of funds and help ease the tax burden your heirs may face, there are a few things you can do:
Name and review your beneficiaries
Designate 401(k) beneficiaries. Depending on your plan administrator, you may be able to complete the beneficiary designation form online. You'll likely need birthdates and Social Security numbers for each beneficiary, so have those handy. Note that minors named as beneficiaries might not have access to the assets until they reach a certain age. Review and update your beneficiaries at least annually, but most importantly after any significant life event, like if you marry or divorce, or if a beneficiary dies.
If you'd prefer to designate that your funds pass to the children of a beneficiary who dies before you do, you may want to use what's called a "per stirpes" designation. This indicates that their portion go to their child or children. Otherwise, their portion will go instead to your other primary or contingent beneficiaries.
For example, let's say you were unmarried at the time of your death and your beneficiaries are your brother and sister. Your brother has 2 daughters. If he dies before you do and you don't update the beneficiary, your sister would receive 100% of the assets. If you indicated "per stirpes," your brother's daughters would receive his 50% portion, and your sister would receive her 50% portion.
Explore a Roth conversion
To help reduce the tax burden on those who inherit your 401(k), you may want to consider a Roth conversion of your 401(k) assets, if you don't already hold them in a Roth 401(k). Note that you will owe taxes on converted amounts, and doing a large Roth conversion has the potential to bump you into a higher marginal tax bracket, so spreading out conversions over time could help save on taxes. This will give your heirs tax-free access to your assets after your death, if you've had the Roth account or made the conversion at least 5 years ago.1 Otherwise, beneficiaries may owe income tax on non-Roth withdrawals from inherited 401(k)s. Roth conversions can get complicated, so consult a financial professional for your situation.
Understand your 401(k) plan documents
Reviewing plan documentation so you know how the plan works can help you have more productive conversations with your beneficiaries during your lifetime. You can prepare a document that contains information on your plan, how to contact customer service, if or when you started taking required minimum distributions (RMDs), which happens when you are 73 or older,2 and copies of your beneficiary designation forms.
Can creditors go after my 401(k) when I die?
Creditors cannot go after your 401(k) when you die. Your executor will settle debts out of your estate but not your 401(k) unless you didn't name any beneficiaries. In that case the 401(k) becomes part of your estate, which pays any outstanding bills.
It's important to note that this is not true of all inherited retirement accounts for beneficiaries. Inherited IRAs, for example, may not be protected from creditors.