As the ongoing pandemic continues to remind us of the importance of life insurance for securing our loved one’s financial future, it – and additionally the fact that October happens to be National Estate Planning Month – also brings to mind an oft-forgotten piece of this puzzle: legacy planning.
Legacy planning is defined as the act of positioning your assets in a way that will be most efficiently passed to your heirs and, if necessary, allow you to control these assets posthumously. This is especially important for Federal employees, whose high job stability and benefit options mean that they likely have a greater amount of wealth and benefits to pass on than most of the civilian population.
However, legacy planning can be complex and costly, and the SECURE Act only made it more so by introducing the requirement that non-spousal beneficiaries must withdraw inheritance within just 10 years – a stipulation that can have serious tax ramifications considering there are now over 50,000 TSP millionaires.
Fortunately, there are several actions that Federal employees can consider to efficiently and effectively pass assets to their heirs.
Square Away Your Beneficiaries
First and foremost, the most basic (though regularly overlooked!) task is to ensure that your beneficiaries on your Thrift Savings Plan (TSP), Pension Program, and FEGLI coverage are up to date and clearly identified, as this is one of the simplest ways to avoid probate over your plans at death.
In addition, paying close attention to how the account is titled for other assets and, if necessary, rectifying it – for instance, having a home titled “Tenets by Entirety” is a very common solution used by married couples in Maryland and many other states – this can go a long way to ease the transition of assets in the future.
Plan What Your Spouse Will Do
Along with being exempt from the SECURE Act’s 10-year requirement (as are children under 18 or with special needs), spousal beneficiaries enjoy the ability to transfer unlimited assets to one another at death with no income or estate taxes. In addition, the cost basis of many non-qualified assets is “stepped-up” upon the transfer to the surviving spouse, and for qualified plans, the surviving spouse can retitle the transferred assets into their name with little change.
Given this, it’s very common for a surviving spouse to transition TSP dollars into a Beneficiary Participant Account (BPA) following the death of their Federal employee spouse.
The BPA is a TSP account administered by the TSP Board that provides the same extremely low fees that normal TSP participants enjoy, and a Beneficiary Participant can continue the account and take withdrawals in accordance with IRS required minimum distribution guidelines without any limitations. Beneficiary Participants who take this action, however, should be aware that upon their death, the remaining beneficiary must receive their benefit in the form of a lump sum, which can be extremely tax inefficient. With this in mind, it’s often prudent for a Beneficiary Participant to transfer assets to an IRA to protect the next generation of heirs from an immediate and large tax bill.
Plan For Your Non-Spousal Beneficiaries
Non-spousal beneficiaries who were once able to “stretch” their inheritance withdrawals in the pre-SECURE Act days have admittedly limited options when it comes to protecting their inheritance from steep taxes.
Complicating matters further, they must make a decision regarding death claim distributions from the TSP within 90 days. The best courses of action is often to roll the proceeds into a Beneficiary IRA and hold any other decisions until a later date.
When should you start planning?
Taking a step back and considering the above, it’s natural to wonder when legacy planning should begin.
Generally, it should merit a place on your financial agenda once your retirement has “financially stabilized,” meaning that you’ve developed a strong understanding of your budget in retirement and a comfort level concerning how your pension, Social Security, and assets are able to provide for this need. In most cases, after seven to ten years post-retirement, much of your financial planning focus shifts away from funding retirement and toward passing money to heirs.
You’re then ready to tackle the above, first choosing an appropriate beneficiary and titling accounts effectively, then shifting to address your portfolio.
Assets that are earmarked for heirs should be invested based on the heir’s risk tolerance, not that of the account owner. In most cases, this means that your assets dedicated toward legacy planning should be invested at a riskier level than your age would indicate, though there are exceptions – for example, parents or guardians of special needs children may be required to combine their legacy plan with their retirement plan at an earlier age than traditional legacy planning would dictate.
Tools Commonly used in Legacy Planning
Last but not least, it’s important to consider how to best make your legacy plan actually happen. Options include:
- Will – a document that directs the distribution of assets following a death but, notably, does not allow one’s estate to avoid probate.
- Trust – a legal document that comes in various forms and provides various benefits, but does allow a person to segment their assets and potentially control their assets from the grave.
- Durable Power of Attorney – a legal document that provides specific control, either universally or based on a pre-determined catalyst, over certain aspects of one’s life.
- Life Insurance – an insurance that, because it provides a known benefit at death, is commonly used to provide funds to a Trust, income to a loved one, or liquidity to an estate.
In conclusion, there’s no one-size-fits-all answer when it comes to how and when to plan your legacy, or how to implement it, but it’s a crucial part of life and working with a Federal benefits expert will not only make a complex process easier, but likely also help your loved ones better reap the rewards of your hard-earned wealth.
Greg Klingler, CFP, ChFEBC, is Director of Wealth Management for the Government Employees’ Benefit Association (GEBA). He advises state and federal employees in retirement planning using pensions, survivor pensions, employer sponsored insurance, and retirement plans as well as portfolio analysis, estate planning and college planning.
*GEBA Wealth Management are not lawyers and do not practice law. For complex legal strategies and with a client’s permission, Advisors may work in conjunction with appropriate legal experts to meet a need.