Beneficiary designations are a surprisingly hot topic these days, with many experts now suggesting that they are not a good idea for stock compensation arrangements. We’ve looked at this issue before in the NASPP Blog (“Did Steve Jobs Have a Beneficiary?,” October 13, 2011), but we recently published the results of a quick survey on practices in this area, so I thought it would be a good time to take a look at the topic again.
The Allure of Beneficiary Designations
When they work, beneficiary designations work very well. The company has clear instructions on what to do with the deceased employee’s awards and can pay those awards out relatively quickly, with minimal documentation from the beneficiary (perhaps just a death certificate, instructions on how to distribute the awards, and documentation to complete any required tax reporting).
Without a beneficiary designation, the awards transfer to the heirs in accordance with the rest of the deceased employee’s estate. Unless some sort of trust arrangement that includes the employee’s awards has been set up, this likely means that the awards will have to go through probate. Depending on the size of the estate, probate can be expensive, can require the assistance of an attorney to navigate, and can take a long time (note however, that many states have expedited and simplified probate processes for estates that are less than a specified amount).
When Beneficiary Designations Go Bad
The operative phrase in the section above is “when they work.” When beneficiary designations don’t work, things get ugly. Beneficiary designations need to be regularly updated for life changes (marriages, divorces, births, deaths, etc.). And they need to comply with applicable local laws–in the US, state laws can inhibit the effectiveness of beneficiary designations; outside the US, this is even more of a problem. Where the validity of a beneficiary designation is called into question, the matter will likely end up in court–which can be a lot more expensive and slower than probate. Of greater concern, where a company pays out an award pursuant to an invalid beneficiary designation, in some countries the company could be liable to the rightful heirs.
If you are going to allow plan participants to designate beneficiaries for their awards, you’ll need a process for collecting and tracking the designations. You also really should have a process to remind participants to update their designations periodically–otherwise someone’s stock awards could end up being paid out to an ex-spouse (as described in the blog entry noted above). And, particularly for non-US participants, you should have a process for verifying that the designations don’t conflict with local laws.
All of which seems like a lot of work for something that few participants will benefit from. In the NASPP’s recent quick survey on the topic, 87% of respondents reported that fewer than five participants die while holding outstanding awards per year.
Survey Says
How many companies allow beneficiary designations anyway? Well under half and sometimes as few as only one-third, depending on the type of award. Among respondents to our quick survey:
40% allow beneficiary designations for stock options
37% allow them for restricted stock/RSUs
32% allow them for performance awards
35% allow them for ESPPs
Note that for all four types of awards, there was a small percentage (less than 5%) of respondents that are considering or in the process of implementing beneficiary designations. The rest of the respondents do not allow them.
Of those that allow beneficiary designations and have non-US employees, 68% allow the designations for all of their non-US employees as well.
23% of respondents ask employees to update their beneficiary designations when they receive a new award and 12% ask for updates annually. 61% don’t ever ask employees to update their beneficiaries, which seems like a good way to get into a situation where you are paying out an award to an ex-spouse.
43% of respondents store paper copies of beneficiary designations in house, 19% have some sort of in-house automated or electronic tracking system, and 32% rely on a third party to track the designations.
I was saddened to learn of the death of Apple Inc. co-founder and chairman, Steve Jobs, last week. Whether or not you are a user of Apple products, surely you can appreciate the contribution Mr. Jobs made to global technology.
The Legacy We Leave Behind
While Mr. Jobs’ passing was on my mind, I wondered about his restricted stock holdings and how his massive empire would be transitioned to his intended heirs. I realized that this was a good reminder about estate planning. No one likes to talk about death, but since immortality is not a clause that exists in stock plan (or any other) agreements, planning for the inevitable is a wise step. I’d prefer to have my descendants reflect on the positive impact I had on their lives, rather than the way I bungled their inheritance!
Does Designating a Beneficiary Help?
There are varied opinions about whether beneficiaries should be designated for stock plan grants and awards, such as stock options or restricted stock. Maintenance of such designations and the fact that generic beneficiary forms can be problematic due to varied local estate regulations are some of the core arguments against the use of such forms. See Robyn’s 2009 blog on this topic. The issues with designating beneficiaries have taken center stage in recent court cases. In January of 2009, the U.S. Supreme Court ruled, in the case of Kennedy, executrix of the Estate of Kennedy v. Plan Administrator for DuPont Savings and Investment Plan et al, that a deceased man’s pension plan was to be paid to his ex-wife, based on a 27 year old beneficiary designation that the man filled out shortly after his marriage. Even though their divorce decree years later had divested her rights to his pension plan, he never changed the beneficiary with the plan administrator. This failure to change the beneficiary designation resulted in what appears to be an unintended payment to his ex-spouse rather than to his estate. I think many would agree it’s reasonable to assume that was probably not the outcome he’d had in mind in crafting his estate plan.
Reflections
I’m guessing that Steve Jobs had a solid estate plan in place. He certainly had the benefit of having enough resources to engage top advisers to assist him in this area. In general, the loss of another often prompts us to evaluate our own mortality. As individuals, it’s a timely reminder to have our ducks in a row, and to periodically assess the plan to ensure our instructions reflect our most current intentions. Has there been a change in the family (marriage, divorce, death or birth) that would impact prior designations? As plan administrators, it’s also an opportunity to nudge our employee populations about doing the same, with a reminder about how the company will handle such a situation administratively and what documentation may be required. An unpleasant topic? Yes. Yet we should be talking about it, because it’s an area where informed planning can make a world of difference. Year-end is just around the corner. In preparing the related employee communications, consider including a reference to estate planning. We send out about reminders about much more routine things such as to set our clocks back an hour, or that the social security tax withholding accumulator resets on January 1st. Why not include some important information on how they can manage their estate planning in line with company policy? You may also want to visit the session at the 19th Annual NASPP Conference on Death, Taxes and Senior Executives: Estate Planning and Retirement Programs.
Wow – it’s a light-hearted week here at the NASPP! As a follow-up to my post on tax withholding and reporting, today I’d like to address some steps stock plan administrators can take to prepare for the unfortunate event of an employee death.
Availability of Shares
The first step in preparing for efficient handling of an employee death is to know you plans and grant agreements. You need to know how the death will impact different equity vehicles.
Typically, the post-termination period for exercises is at least 12 months for death. This is because of the time and effort it takes to provide the correct documentation. In addition to knowing the period of time an employee’s estate or beneficiary has to exercise vested options, check to see if your plan or grant policy addresses the situation of a participant who dies within the standard post-termination exercise period.
For restricted stock, confirm whether or not unvested shares will accelerate or continue vesting. If there are any required post-vesting holding requirements associated with your restricted stock grants, check to see if these requirements apply to the estate or beneficiary.
If you have an ESPP, confirm that either your plan document or official policy addresses the issue of how contributions will be handled in the event of a death part-way through an offering period. Most companies do not allow the contributions to stay in the plan, but some do, and it is permitted under Section 423. For purchased shares that transfer to the estate or beneficiary, the statutory holding periods no longer apply.
Required Documentation
Unfortunately, it’s difficult to have a blanket policy on documentation required across all jurisdictions. Some companies use beneficiary designation forms to pass equity compensation on to an employee’s beneficiary. I would submit a word of caution against generic beneficiary forms for equity compensation–see Robyn’s blog entry on this topic for more information. Here are a few types of documentation that your company may determine is necessary in order to permit the estate or beneficiary to exercise:
Death Certificate: This is a pretty standard requirement, which will be needed for all types of inheritance issues.
Will: Also known as the “Last Will and Testament”, a will establishes how all of the assets of the decedent will be distributed and should include equity compensation. Generally, an executor will be named in a will and will be tasked with the process of overseeing the distribution of assets in the will. It is generally too risky for the company to attempt to prove that a will is, in fact, the most recent version and how to interpret its contents.
Court Documentation: All jurisdictions have some official body that establishes the official distribution of assets. These official documents will most likely be required by the broker, life insurance company, and other entities that hold assets which need to be distributed. It would be a massive investment in time and resources to identify which official documentation is applicable to each jurisdiction and asset level, so I don’t recommend attempting to identify this in advance. However, it is a good idea to identify your resources in each country for assistance in this matter, should it come up.
Held Shares
Brokerage firms have their own policies and procedures about transferring held shares to the estate or beneficiary. Although this process is essentially completely separate from your company’s process, it can be confusing and stressful for your employee’s heirs to understand that. Similar to educating employees about taxes on equity compensation, there is a fine line between making the process easier and providing legal advice. It’s good to consider how to handle this situation in advance, particularly for international beneficiaries. An important preparation you can make is to meet with your preferred brokers and identify the steps beneficiaries must take and who at the brokerage to contact in the event of an employee death.
Less than One Week Left!
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