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Correctly naming the beneficiaries on your retirement accounts is more important than you might think. Contrary to common belief, retirement accounts, such as IRAs, 401(k)s, 403(b)s, and transfer on death (TOD) accounts, do not fall under your trust or will. The distribution of these assets is dictated solely by the beneficiaries listed on each account, and in particular by certain stipulations, namely per stirpes and per capita, that determine exactly how the distributions are divided.
What do per stirpes and per capita mean?
It first helps to understand the difference between primary and contingent beneficiaries. Your primary beneficiary is the first person in line to inherit your retirement account when you die. If all of your primary beneficiaries pass before you do, your contingent beneficiaries inherit your account. But what if only one of the primary beneficiaries on your IRA dies before you do? Who gets that person’s portion of the inheritance when you pass away?
The answer lies buried within your original account paperwork, and is dependent upon whether you selected per stirpes, per capita, or something else next to your beneficiary designations. Per stirpes, (Latin for by branch) and per capita (by head) set rules on how your retirement account gets distributed if a beneficiary dies before you. In either case, that person’s portion of your IRA will go to their kids, but the amount that each child receives may vary.
Per stirpes stipulates that if a beneficiary dies before you, his or her children inherit that person’s money. On the other hand, per capita looks at the total number of living beneficiaries and heirs, regardless of generation, and divides up the account evenly among everyone.
An example of per stirpes and per capita in action
Assume that Bob is a widower and has two children, Jack and Michelle, whom he chooses to be the primary beneficiaries on his IRA, with a 50/50 split. Jack has two children, while Michelle has none. At the time of Bob’s death, his IRA is worth one million dollars, and Jack has already passed away.
- Under per stirpes: Jack’s share of the IRA would go to his two kids, split equally ($250,000 each). Michelle would get the other half ($500,000).
- Under per capita: Michelle and Jack’s two kids would split the IRA evenly, 1/3 each ($333,333 each).
- If no election was made: Michelle would inherit 100% of the IRA, and Jack’s children would get nothing.
As you can see, this seemingly small selection can have significant, real-world implications. If you accidentally designate per capita instead of per stirpes, each grandchild will receive just as much of your IRA as your children do. If no selection is made, the account will get divided up among the remaining living beneficiaries, and you may inadvertently disinherit some of your grandchildren when you die — even if your will outlines different intentions. Banks do it this way because they have absolutely no interest in interpretating law or getting involved in family dynamics. They will follow the original account paperwork to a T, even if that means leaving the children of a deceased beneficiary empty-handed.
Are there any other distribution rules?
Yes, there are multiple ways you can leave assets to one or more named individuals including per stirpes, per capita, per capita at each generation, and by representation. Each term is precisely defined and makes sense in the right situation; however, we have found that the vast majority of people choose per stirpes. We recommend talking to an attorney before making any of these elections, especially if you think that one of these more specialized, alternate designations may be right for you.
Should I elect per stirpes on my taxable accounts?
Per stirpes, per capita, and similar designations typically apply to retirement accounts and not taxable accounts because those fall under your trust or will. However, if you do not have a trust or will, beneficiary designations can be set on taxable accounts to direct how that money gets divvied up at death, just like with retirement accounts.
Per stirpes is a key component of comprehensive estate planning
Many people spend their entire career contributing to a retirement account and watching it grow, but when it comes to filling out their account paperwork, they rush through it and never think about it again – or check to make sure it’s correct and up-to-date. At BWM Financial we think it’s important to review your beneficiary designations with you every few years, and always after any major life changes. Families quickly grow and shrink, so it’s important that your retirement account designations remain current. See our estate planning checklist for more on asset titling and a step-by-step guide to make sure your finances are in order when it comes to your estate.
Alleviate stressful transitions
The terms per stirpes and per capita are rather obscure, but the concept is straightforward. Save your heirs a headache and make sure you have the proper titling on your retirement accounts, so your money gets distributed the way you intend. If you are anything less than confident about your beneficiary designations, feel free to reach out to us. We will be happy to review your accounts with you and, most importantly, lend you some peace of mind.