It may seem natural to name a child or grandchild as the beneficiary of your Will, life insurance policy, retirement account, or other assets. But naming a minor as a beneficiary is almost always the wrong choice. And when a parent or grandparent dies, it’s often too late to avoid the problems that come as a result.
Let’s discuss the problems with this approach and what the better options are when you want to have a minor as your beneficiary.
Why Not Name a Minor as Your Beneficiary?
Minors cannot legally own property in their own names. This means that a court will have to step in to appoint someone to manage the funds until the child reaches the age of majority (18 in most states). Tennessee law calls this arrangement a Guardianship of Property.
A Guardianship of Property requires that an adult petition the probate court to be appointed as the child’s Guardian of Property. The petitioner must describe the property known to belong to the minor and propose a property management plan. The law also requires the Guardian to file an inventory within 60 days of being appointed.
The Guardian also has to file regular accountings with the court. Accountings document everything that has come into and gone out of the Guardianship Estate’s accounts. This can be time-consuming and expensive, especially if the child still has many years until reaching adulthood.
This result is hardly ever what families want to have happen. But it’s what happens when there is no plan in place, or an improperly structured plan. The good news is that there are far better ways to leave assets to a child.
The two most effective approaches are Trusts and UTMA (Uniform Transfer to Minors Act) accounts. We will discuss each of these in detail below.
Trusts for Minors as Beneficiaries: The Preferred Option
A Trust gives you significant control over how, when, and why assets are used for a child’s benefit. You appoint a Trustee to manage the funds, and you decide the rules for distributions. Trusts can cover everything from education and healthcare costs, to staged distributions in adulthood.
Two types of Trusts we’ll discuss here are Living Trusts and Testamentary Trusts.
Living Trusts
A Living Trust is something you create during your lifetime. For our purposes, we will focus on Revocable Trusts, which you can change at any time while you are living.
You can structure a Living Trust so that if you die while any Beneficiary is a minor, the Trust holds your assets for his or her benefit. This can be for your children or even for your grandchildren. The Trustee you name will step in and manage those funds according to the instructions in the Trust Instrument.
Living Trusts are highly flexible, especially in Tennessee. Assets held in a Trust or made payable to a Trust also do not have to go through probate. This makes them an excellent option for parents who want to make sure children are provided for without needing to have the courts involved.
Testamentary Trusts
A Testamentary Trust is created under your Last Will & Testament. It only comes into effect after your death. The assets in your probate estate fund the Testamentary Trust. You can also have life insurance and retirement accounts made payable to a Testamentary Trust.
While it won’t avoid probate, it still ensures that assets earmarked for a minor are managed under your chosen terms. The Trustee you name will have clear instructions about how to handle the funds until the child reaches the age you specify.
In our experience, there can sometimes be additional hurdles with Testamentary Trusts. Especially for assets like life insurance and retirement accounts, financial institutions tend to prefer Living Trusts.
A Living Trust, because it’s already in existence, has a specific date of creation. But a Testamentary Trust doesn’t exist yet, so it doesn’t have a date. Financial institutions usually require the date of the Trust when naming it as the beneficiary. The Will has a date, but it’s not quite the same thing.
If a Testamentary Trust is part of your plan, you may need to have additional conversations with your financial planner and/or insurance agent to verify that your beneficiary designations are correct.
The last thing we want to see is a large asset like life insurance going somewhere we don’t want, or having these assets stuck in limbo while your attorney works things out.
For many families, a Testamentary Trust can be a cost-effective way to provide structure and avoid a lump-sum payout to an 18-year-old. But know that there can be some tradeoffs with this option.
Uniform Transfers to Minors Act (UTMA)
Another option is to name a Custodian under the Uniform Transfers to Minors Act (UTMA). Tennessee law allows parents, grandparents, and others to set up UTMA accounts that a Custodian manages for the benefit of the child. For estate planning, a provision in a Will can make this designation.
The Custodian has discretion to use the funds for the child’s needs. The account terminates when the child reaches a specified age. At this point, the Custodian must pay out any balance in the account.
In Tennessee, UTMAs can exist up to age 25 if this age is specified in the instrument. This is often desirable to give more time for the child to mature before paying the money out. The default age is normally 21 in Tennessee.
But unlike a Trust, UTMAs are not customizable. Once the child reaches the termination age, he or she receives the entire account outright. The law mandates this even if the payout would cause harm because of addiction or financial troubles.
UTMAs can work well for modest accounts where parents want a straightforward management option. But for larger sums, the lack of flexibility makes them less appealing than Trusts.
Final Thoughts on Minors as Beneficiaries and Your Next Steps
Naming a minor directly as a beneficiary almost always creates unnecessary court involvement, expenses, and risks handing a child a lump sum at 18.
A Trust offers far more control and flexibility. But know that there will be Trust administration expenses to pay, like tax preparation fees, legal fees, and Trustee compensation. So there have to be sufficient assets in the Trust to cover these costs.
An UTMA account can also be useful to avoid a full-on Guardianship Estate. It’s less expensive than a Trust long-term, but it lacks the customization and safeguards of a Trust.
At Connell Law, we help families choose the right tools to protect their children’s futures and create plans that align with your values. We can also assist families dealing with the challenges of handling an estate where a minor is a beneficiary.
Contact us today to schedule a consultation and start building the plan that’s right for your family.
