Federal Employees News Digest
Informed Investor: TSP beneficiary form must be specific as to who inherits assets
- By Edward A. Zurndorfer
- November 19, 2012
All Thrift Savings Plan participants are encouraged to submit their TSP beneficiary form to the TSP Service Office. Form TSP-3 should be filled out and submitted as soon as a federal employee starts participation in the TSP, and should be updated as often as necessary in case of life-changing events such as death and divorce.
Making a primary and perhaps a contingent beneficiary designation is important, as a recent court decision indicated. In its decision, a U.S. circuit court ruled that without a formal designation, stepchildren may not have the same legal standing as pension plan beneficiaries as do biological or adopted children. This court case is relevant to TSP participants who have stepchildren or anyone else that they wish to name as TSP beneficiaries, but who have not done so formally on form TSP-3.
On Aug. 7, 2012, the 5th U.S. Circuit Court of Appeals ruled that a 401(k) qualified retirement plan administrator did not abuse her discretion in concluding that stepchildren were not considered ”children” under the terms of their participant stepfather’s 401(k) retirement plan. As a result, when the 401(k) participant died with no beneficiary designation, his stepchildren were disinherited, and other family members received the proceeds of the deceased’s retirement plan assets.
Here are the specifics resulting in the court ruling: An individual was a participant in a private company 401(k) retirement plan. He named his wife as the beneficiary of the plan. When the wife died in 2004, he did not update his plan beneficiary form. The plan participant died in 2005, one year after his wife died.
Because he died without a designated primary or contingent beneficiary, his retirement plan beneficiary defaulted to the “order of precedence,” namely, surviving spouse, surviving biological and adopted children, surviving parents, brothers/sisters and his estate.
The deceased retirement plan owner’s wife was previously deceased; the plan’s next default beneficiary was his surviving children. He did not have any biological or legally adopted children, but he had two stepsons.
The retirement plan administrator looked into whether the two stepsons should inherit their stepfather’s retirement plan assets. But the administrator decided that stepchildren do not qualify as children since they were not the participant’s biological children nor did he adopt them. Under the terms of the plan’s order of precedence, with the wife having predeceased the plan’s owner, and without having any biological or adopted children or any surviving parents, the retirement plan owner’s assets were distributed under the next-of-kin default, meaning the plan participant’s six brothers and sisters.
The stepsons challenged the plan administrator’s distribution, arguing that they were the plan participant’s children and should receive the $300,000 in the deceased’s retirement plan. They based their claim on their close relationship with their stepfather, the fact that he left his estate to them, and the fact that their stepfather referred to them as his “beloved sons” in his will. They also claimed that they were entitled to the retirement plan assets under the Texas probate law doctrine of “equitable adoption.” Under this, law an “adoption” occurs when a parent agrees to informally “adopt” a child, with the child behaving in a loving and supportive way to the parent—even if no formal adoption was filed with the state.
The U.S. Circuit Court of Appeals rejected the stepsons’ argument for inheriting the retirement assets. The court ruled that stepchildren are not considered qualified relatives for the purpose of inherited qualified retirement plan assets. The retirement plan assets were distributed to the deceased’s siblings, and the stepsons were disinherited.
This episode could have been avoided had the retirement plan owner named his stepsons as contingent beneficiaries. As contingent beneficiaries, upon the death of the primary beneficiary, the stepsons would have inherited the retirement plan assets.
When there is no beneficiary named for a retirement plan, including the TSP, the retirement plan documents determine who gets the retirement assets at the death of the retirement plan owner.
Based on the deceased retirement plan participant’s will, it would certainly appear that he wanted his retirement plan funds to go to his stepsons and not to his siblings. While the participant’s will left all of his assets to his stepsons, wills do not address who gets qualified retirement plan assets and IRAs.
This court decision should be a lesson for all TSP participants. When a TSP participant does not name a beneficiary via form TSP-3, at the death of the TSP participant the TSP will make payment in an order of precedence, namely: (1) widow(er); (2) biological or adopted children; (3) parents, if living; (4) appointed executor or administrator of the deceased’s estate; and (5) next of kin who would be entitled to the deceased’s estate under the laws of the state in which the TSP participant resided at the time of death.
To avoid possible delays and to make sure their TSP assets go to designated beneficiaries, TSP participants should have an up-to-date form TSP-3 on file with the TSP Service Office.
Edward A. Zurndorfer is the owner of EZ Accounting and Financial Services Edward is a Certified Financial Planner and Enrolled Agent in Silver Spring, MD. He is also a registered representative with FSC Securities Corporation, branch address: 833 Bromley St. - Suite A, Silver Spring, MD 20902. Phone: (301) 681-1652. Securities offered through FSC Securities Corporation, member FINRA/SIPC. EZ Accounting and Financial Services and FSC are independent companies.