Don't Disinherit Your Grandchildren: The Hidden Risks of Retirement Account Beneficiary Forms

Retirement accounts often represent a substantial portion of a client's estate, yet the beneficiary designation forms that control their distribution are too often treated as an afterthought.

Estate planning attorneys are familiar with the routine: The client names their spouse as the primary beneficiary and their children as contingent beneficiaries — focusing solely on the fact that they want their accounts to avoid probate.

But what happens if one of those children dies prematurely? In far too many cases, the grandchildren are unintentionally excluded, even when the intent was to provide for them.

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The boilerplate forms provided by financial institutions generally do not handle multigenerational planning well and rarely accommodate the special considerations that arise in second marriages, special-needs situations, minor beneficiaries or those with serious drug or alcohol problems.

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However, naming a trust — not individual children — as the contingent beneficiary of IRAs and 401(k)s can help avoid these issues.

To better understand whether this option is a good fit for you, let's examine the pros and cons of this strategy, the tax and administrative implications and practical guidance for ensuring a trust qualifies as a "designated beneficiary" under IRC Section 401(a)(9).

With the right drafting and foresight, trusts can provide both flexibility and control while avoiding the unintentional disinheritance of grandchildren.

Naming children as primary beneficiaries: The risks

It is common practice to name a spouse as the primary beneficiary of a retirement account and the children as contingent beneficiaries. The rationale is simple: Defer taxes for the longest period and ensure the next generation receives an equal share.

However, this planning often assumes that all children will survive the account holder, and that can be dangerous.

If a child dies before the account owner, many beneficiary forms default to a "per capita" distribution. This means that the deceased child's share is not passed down to their children (i.e., the account owner's grandchildren).

Instead, it is divided equally among the surviving children. This runs contrary to the wishes of most clients, who expect that a predeceased child's share would be passed down to their children "per stirpes."

Here's a clear illustration:

Let's imagine your father has recently passed away, leaving your mother to inherit his $1 million IRA. She names her two children as equal primary beneficiaries, assuming that if one of her children dies, their share will go down to their children.

Tragically, her eldest son passes away before she does. When Mom eventually dies, her IRA is distributed entirely to her surviving child. Her two grandchildren — the children of her deceased son — receive nothing.

What happened? The financial institution's beneficiary form defaulted to a per capita distribution, and it either didn't provide space to name grandchildren as contingent beneficiaries or failed to include a proper per stirpes election.

Mom, like many clients, assumed the form covered these scenarios and didn't scrutinize the instructions. Unfortunately, this oversight caused her to unintentionally disinherit her grandchildren.

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Now, the surviving child is left to decide whether to gift a portion to their nieces or nephews. If they do, complex tax issues arise. The surviving child would be responsible for paying the income taxes on the IRA distribution, likely at the highest tax rate possible.

Naming a trust as the beneficiary

Naming a trust as the beneficiary (after the spouse) of a retirement account can address many of the problems described above. When a properly drafted trust is named, the client's wishes are preserved, even if the institution's beneficiary form is limited.

To qualify as a "designated beneficiary" under IRC Section 401(a)(9), the trust must be a valid see-through trust. This means the trust must:

• Be valid under state law
• Be irrevocable or become irrevocable upon death
• Have beneficiaries identifiable in the trust document

A copy of the trust, or a list of beneficiaries, must also be provided to the plan administrator by October 31 of the year following the participant's death.

There are two types of see-through trusts:

• Conduit trusts, where required minimum distributions (RMDs) are passed directly to the individual beneficiary each year, preserving stretch options under SECURE Act exceptions.
• Accumulation trusts, which allow RMDs to be retained in the trust, offering more protection to those beneficiaries that might have special needs or drug problems who cannot have any access to funds. The added protection comes with a cost of accelerating tax liability.

Trusts can be customized to:

• Provide lifetime benefits to a child, with the remainder to grandchildren
• Protect assets from divorce, creditors or lawsuits
• Include special needs provisions without affecting public benefits
• Manage distributions to minors or financially irresponsible heirs

Problems with financial institutions

Despite the clear advantages of naming a trust, practical complications remain. Some custodians resist paying benefits to a trust, citing that "a trust is not a person" and therefore cannot qualify under the beneficiary rules. This is often a misunderstanding of IRS regulations.

Other issues include:

• Delays in processing RMDs or lump sum payouts
• Institutional refusal to recognize the trust as a see-through entity without a court order or legal opinion
• Staff inexperience leading to improper implementation

To mitigate these risks, attorneys should:

• Coordinate with the institution before death
• Submit trust documentation well in advance
• Draft the trust to clearly satisfy the see-through rules
• Provide model language on the beneficiary designation form that matches the trust name and date precisely

Practical drafting and planning tips

Here are some practical tips for implementing a trust-based beneficiary designation:

Always name the spouse first when appropriate. A spousal rollover offers the most favorable tax treatment. Second marriages may alter this recommendation.

Use the full legal name of the trust. This includes the date as the contingent beneficiary. For example, "The Simasko Family Trust dated January 1, 2020."

Avoid generic language like "my living trust" or "the trust I created."

Indicate per stirpes or per capita treatment inside the trust, not on the designation form.

If using a conduit trust, ensure the trust mandates distribution to the beneficiary immediately after receipt from the plan.

If using an accumulation trust, plan for higher income tax exposure and structure the trust to qualify under post-SECURE Act rules or start converting to after-tax accounts, which provide much more flexibility.

Review and update both the trust and beneficiary designations regularly, especially after births, deaths, or divorces.

Risk vs control

While naming individual children as retirement account beneficiaries is simple and tax-efficient, it carries risks that most clients do not fully appreciate.

The premature death of a child, changing family dynamics or a client's desire for long-term asset protection all point toward the benefits of trust planning.

Trusts allow attorneys to create a tailored, multigenerational plan that aligns with a client's real intent. They protect assets, ensure consistent treatment and provide flexibility that forms alone cannot.

However, success depends on precise drafting, careful coordination with custodians and ongoing review.

In the end, a properly structured trust designation is not only a legal tool but a vehicle of control, continuity and peace of mind.

Related Content

• From Wills to Wishes: An Expert Guide to Your Estate Planning Playbook
• The Seven Worst Assets to Leave Your Kids or Grandkids
• Five Trusts You Need to Know About and the Best Time to Use Them
• Are Living Trusts Worth It? Pros and Cons
• ​All About Designating Beneficiaries in Estate Planning