Adventures in Beneficiary Designation Land or “Winning the Battle but Losing the War”

Litigation concerning the rightful beneficiary of retirement accounts is becoming more common. Cases involving the beneficiary of a retirement account owned by a decedent who was divorced are especially tricky. Often the decedent who was divorced failed to change the beneficiary designation on his/her retirement account. In addition, the divorce decree may or may not be clear as to who owns the retirement account, or one of the parties may be slow to process the paperwork to make the change after the divorce. Such was the case in the recent decision issued by the Ohio 11th District Court of Appeals in Fletcher v. the Estate of Fletcher.

In the Fletcher case, the decedent and his wife were divorced in December 2010. Under the terms of the divorce decree the decedent’s 401(k) was to be divided equally between the parties by way of an order from the divorce court (commonly referred to as a “QDRO”). The wife, or her attorney, was to be responsible for preparation of the QDRO to divide the account. But the wife never got around to preparing the paperwork to split the account by the time the decedent died in June 2011.

Under well-established federal law, the 401(k) account must be administered in accordance with the documents and instruments governing the plan, and payments from the account can only be made to the beneficiary who is named by the account owner.  Also, the law is clear that federal law supersedes any State law that relates to a 401(k) account.  So even though Ohio law specifies that a divorce automatically revokes the naming of the ex-spouse as a beneficiary,[1] that law is of no effect when it comes to a 401(k) account. In Fletcher the one-half of the account belonging to the decedent at his death still had the surviving ex-wife designated as beneficiary.  The surviving ex-wife argued that she was the rightful beneficiary of the entire 401(k) since the beneficiary designation must control.

“That’s all very well and good,” the Ohio 11th Circuit Court of Appeals seemed to say to the ex-wife, “but once it is paid to you, you hold it in ‘constructive trust’ for the benefit of the heirs of your ex-husband.”  A constructive trust is a trust that may be imposed as an equitable remedy against unjust enrichment where it is “against the principles of equity” that the property be retained by a certain person even though the property was acquired without fraud. The court noted that the remedy of a constructive trust may be appropriately applied to anyone who in any way, either has obtained or holds the legal right to property which he ought not, in equity and good conscience, hold and enjoy. The Court of Appeals found that the clear intent of the Fletcher’s divorce decree was that 401(k) account should be divided equally between the parties, and the decedent’s failure to change the beneficiary prior to his death should not frustrate that intent any more than the ex-spouse’s failure to file the QDRO.  From the perspective of the ex-wife, it ends up being a case of “winning the battle but losing the war.” But the result should not have come as a surprise to the ex-wife.  The Court of Appeals pointed out that federal preemption under ERISA does not prohibit the imposition of a constructive trust on the proceeds of a benefit plan once paid to the designated beneficiary. “The law recognizes a distinction between a plan administrator’s obligation to pay over benefits to a named plan beneficiary and that beneficiary’s entitlement to keep those funds thereafter.”  Thus, even though the surviving ex-wife received 100% of the 401(k) account, she was only entitled to keep 50%, while the other 50% was held by her in trust to ultimately be paid to her ex-husband’s estate.

[1] R.C. 5815.33(B)(1).

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    Edward D. Bender

    Ed practices primarily in the areas of estate planning, taxation and estate & trust administration. The estate planning area commonly includes planning for business owners, and Ed counsels them on their succession planning issues as well as their general corporate matters.

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