Changing the Beneficiary of a Coverdell Account

What if your child doesn’t go to college? You socked away money in a Coverdell account and all your child wants to do is play in a rock band. Meanwhile, a younger sibling is hitting the books and you’d like to use the money for that child’s education.

If you saved in a custodial account under the Uniform Transfers to Minors Act you’d be out of luck. That kind of account belongs to the child for whom it is set up, and you can’t transfer it to another child. You have more flexibility when you save in a Coverdell account. The responsible individual is allowed to name a new beneficiary if all the following are true:

• The trust agreement permits a change in beneficiaries.
• The existing beneficiary is under 30 years of age.
• The new beneficiary is under 30 years of age.
• The new beneficiary is a member of the existing beneficiary’s family.

If your financial firm uses the standard IRS form to set up the account, you have to check a box on that form to be permitted to change beneficiaries later.

Family Defined

For this purpose, the beneficiary’s family is broadly defined. All of the following are included:

• The beneficiary’s child, grandchild or stepchild.
• A brother, sister, stepbrother or stepsister of the beneficiary.
• A son or daughter of the beneficiary’s brother or sister (in other words, a niece or nephew of the beneficiary).
• The father, mother, grandfather, grandmother, stepfather or stepmother of the beneficiary. (Remember, though, the new beneficiary generally has to be under 30 years of age — a very young grandparent!)
• A brother or sister of the beneficiary’s father or mother (in other words, an aunt or uncle of the beneficiary).
• The beneficiary’s spouse, son-in-law, daughter-in-law, father-in-law, mother-in-law, brother-in-law or sister-in-law.
• Beginning in 2002, the beneficiary’s first cousin.

You can rename the beneficiary as part of a rollover, or simply redesignate the beneficiary by contacting the financial institution where the Coverdell account is now maintained and filling out whatever paperwork they require.

Former Spouse

Because a spouse is one of the relatives listed above, a Coverdell account can be transferred to the existing beneficiary’s spouse at any time. The Coverdell account can also be transferred to a former spouse as part of a divorce or separation. In this situation, the transfer doesn’t have to occur while the individuals are still married. The account can continue to be treated as a Coverdell account with the former spouse as the designated beneficiary.

Death of Beneficiary

If the designated beneficiary dies and no one has been designated as the death beneficiary of the account, the entire balance must be distributed within 30 days after the death of the beneficiary. Even if the account is not actually distributed within that period of time, it will be treated as distributed on the last day of that period.

The account can continue as a Coverdell account, though, if a member of the beneficiary’s family (as defined earlier) has been designated to receive the account at the death of the beneficiary. In this situation, the requirement to distribute the account within 30 days after the death of the designated beneficiary does not apply.

It’s a good idea to designate a death beneficiary when you set up the account. You can also do this later, provided that you do it before the beneficiary dies.