Executive Summary
Do your clients have retirement accounts held directly with Vanguard? More than one? Do you know who the beneficiaries are for each account? Are you SURE you have that right? Sorry, think again.
The message boards at Financial-planning.com have been buzzing lately in a recent thread about a planning disaster with Vanguard IRAs. Apparently, someone had multiple Vanguard IRAs, with various accounts naming various beneficiaries for a total of eleven different beneficiaries. When the IRA owner passed away, it was suddenly "discovered" for the first time that only two of the eleven beneficiaries would be inheriting all of the accounts! What happened!?
Apparently last fall, Vanguard changed their policy on how they handle multiple IRA accounts. They sent a letter out (to some 170,000 account holders) indicating that if you had multiple IRA accounts, then the beneficiaries for ALL retirement accounts would be set to whatever the LAST beneficiary designation stated. (In the case above, apparently the last beneficiary designation was for only 2 beneficiaries, and thus those 2 individuals became the primary beneficiary for ALL retirement accounts!) The new Vanguard policy only allows IRA owners to have distinct IRA beneficiaries amongst three "types" of accounts - rollovers of employer funds, contributory "original" IRAs, and Roth IRAs. For any one of those types, the IRA beneficiaries must be the same for all accounts of the same type. And if your beneficiaries WERE different, Vanguard has taken the liberty of making the change on your behalf so that they're all the same!
This created some media buzz at the time with an article in Forbes magazine, but apparently the word didn't get out to everyone - including the planners who express outrage in the message board thread, and this particular Vanguard IRA owner who has apparently "accidentally" disinherited 9 of her original 11 beneficiaries. Of course, Vanguard sent their original letter informing account holders of the change - and sent a follow-up letter as well - but it appears that in this case, the account holder was somewhat impaired (due to the health complications that ultimately led to her death), and/or she didn't understand the letter that some are claiming in the thread may have been "too technical" for the average layperson.
In practice, this Vanguard policy really creates two problems. The first is for account holders like the poor individual discussed in the message forum thread, whose beneficiaries became disinherited because the individual failed to act in response to the letters that Vanguard sent as notification of the change (apparently the "correct" course of action would have been to file a new beneficiary designation naming all 11 beneficiaries equally). But how many Vanguard IRA accountholders are still unaware that their beneficiaries have been changed, if they too didn't full understand the implications of Vanguard's notification letter? And how many financial planners have clients holding Vanguard IRAs who may not have realized that their client's estate plan has been disrupted? A response in the message board thread from John Woerth, a Public Relations Principal for Vanguard, suggests that the notification letter is clear and straigthforward, and further notes that Vanguard sends reminder notices of current beneficiaries designations annually - so hopefully at least due to the latter, Vanguard IRA owners will slowly sort this out for themselves. On the other hand, if a client is no longer competent, an acting attorney-in-fact may not be legally able to change the beneficiary designation, which means that Vanguard's "arbitrary" change to the latest beneficiary designation may be nearly impossible to fix for some clients!
However, updating beneficiary designations to the extent possible still doesn't resolve the second problem - planning on a prospective basis for Vanguard IRA accountholders. As the discussion threads and some other media articles point out, it is common for planners to split IRAs with different beneficiaries for planning purposes. Although Vanguard is right to point out that most such planning issues can be accomplished by splitting the IRA post-death for the respective beneficiaries, many planners still prefer separate IRAs with separate beneficiaries named to avoid the risk of a client failing to split accounts in the proper manner under the required timeline. And of course, for other Vanguard IRA owners who don't have financial planners... one has to wonder whether more beneficiaries will botch post-death stretch IRA requirements without proper guidance (which ironically can accelerate the departure of funds out of Vanguard accounts, which hurts Vanguard's business as well as the beneficiaries!). But with the new Vanguard rules, this pre-death account splitting - 1 account for each 1 beneficiary - will simply no longer be an option, at least with respect to multiple IRAs falling into one "type" category as Vanguard has structured it. And of course, if the IRA owner wants to split accounts for even more legitimate reasons - such as investing the accounts differently for different beneficiaries - this will simply be impossible with Vanguard's new rules.
So what to do? If your client's estate planning needs are simple and straightforward enough to manage with a "unified" beneficiary designation, then no action is necessary - although it's probably a very good idea to contact Vanguard and confirm the current status of beneficiary designations. If your client's estate planning needs are more complex, though, and do merit splitting IRA accounts and setting different beneficiaries for different accounts, then it appears that planners have no choice but to recommend moving funds away from Vanguard, either to a brokerage account that can hold Vanguard funds, or by closing the positions entirely and doing business with a different fund family.
And as for the unfortunate IRA owner in the message board thread who had 9 beneficiaries accidentally disinherited... well, the stated purpose of Vanguard's rules change was to minimize their risk of lawsuits, but instead it appears that they may have created one instead.
I Mike I have posted a link to your Negative Buzz at the http://www.Bogleheads.org website.
Sorry I didn’t reply sooner, just read this story. Very good, excepting all 11 beneficiaries my sister had intended to receive the Vanguard Funds referred to, were disinher-
ited. Two nieces replaced them, one a co-executor with me, who had totally agreed that Vanguards change was wrong, that my sisters June 2007 beneficiary designation list was correct. She apparently changed her mind.
My sister wanted to help out the “less fortunate” [her words] members of the family. Her words also, end of June, 2007, “My mind is getting more and more confused and then can’t think straight.” The Vanguard “change” was not her wishes, it is sad that something as important as this could happen without ones signature.
Bud M.
The government imposes contribution limits on all types of IRA. The Roth IRA Contribution Limit rules can change. It is essential that you review this, at the beginning of each new financial year. This will ensure you understand the maximum dollar amount you are allowed to deposit in your IRAs for that year.
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