What Happens When Someone Dies Before They Retire

April 02, 2019

Dealing with the loss of a loved one is obviously one of the most difficult periods in anyone’s life. Dealing with grief can be compounded by dealing with the financial matters that need to be wrapped up – things like probate, insurance claims, and dividing assets can be time consuming and stressful. Today I want to focus on the benefits that survivors may be entitled to if a loved one is still working when they pass away.

Pension

If your loved one had a pension with their employer, it is likely that plan has some type of pre-retirement death benefit. Each plan will have different options available to a surviving spouse or beneficiary, so it is important to reach out to the plan administrator to see what your options are to claim this benefit. You can get that information from HR at the company where the pension started. 

401(k), 403(b) or other employer-sponsored plans

While not all employees still have access to a pension, most will have access to an employer-sponsored retirement plan like a 401(k) or 403(b), and hopefully they were saving into it. Assuming the account had named beneficiaries at the time of death (good reminder here to make sure you have updated beneficiaries on your accounts), those beneficiaries are entitled to that money before probate is completed. There are certain deadlines on making decisions, so you may need to address this before other things in the estate.

  • Spouse as beneficiary – If the beneficiary of a 401(k) (or similar plan) is the deceased’s spouse, they can either treat that money as if it was theirs all along or roll it into an inherited IRA account.  One big difference between these two options is that as an inherited account, the surviving spouse can take penalty free distributions if they need to, whereas, if they treat it as their own, they must generally wait until age 59 ½ to receive distributions from the account penalty free.  They should familiarize themselves with the required minimum distributions imposed based on the specific choice and situation.
  • Non-spouse as beneficiary – If the beneficiary on the account is someone other than a spouse (usually a child or children), the options are a little bit different. The plan may or may not allow you to leave the funds in the plan itself, so you may have to open an inherited IRA account. You generally have two options with the money:
  1. Take all the money out within 5 years of the owner’s death (technically by December 31st of the fifth year following their death) and pay ordinary income taxes on each withdrawal.
  2. Take the money out in annual increments over your life expectancy (based on IRS life expectancy table) and pay ordinary income taxes on each withdrawal. This is referred to as a “stretch IRA” since you can stretch those withdrawals over your lifetime.

You will want to reach out to the 401(k) plan administrator to initiate the process of transferring the account – you can usually find this information on any recent statements or from HR at the company where they worked. You should also check with a tax professional to discuss the tax implications of your strategy with the funds.

Life insurance

Many employers offer basic life insurance benefits to their employees at no cost to the employee. In addition, your loved one may have purchased additional coverage at work. In the best case, the employer will reach out to you with that information, but it is worth a call to their HR or benefits group to see what life insurance coverage your loved one had. Remember, life insurance proceeds are tax-free to the beneficiary, and they are not included in probate, although they may be taxable to the estate in certain instances.

Other thoughts

If your loved one provided the health insurance for you through work, you may continue that through COBRA coverage for up to 18 months. You should also explore other coverage options to see what the most cost-effective option for you is – if you have insurance available through your job, this would be a qualifying event, allowing you to enroll mid-year if needed, but there is a time limit to making that change from the date of death.

I also encourage everyone to review all your beneficiary designations, your will, and other estate planning documents to make sure things are up to date. Also, maintaining a simple file with who to contact for all your accounts and policies – including those at work – will make it much easier for your loved ones to know who to contact should something happen to you.