The Number of Millionaires Has Reached an All-Time High in the U.S. Do You Stand to Leave More of It to Your Kids or the Government?
By most recent estimates, the U.S. is home to more than 22 million millionaires, which reflects the highest figure ever recorded. This growth has primarily been fueled by a decade-long rise in both equity markets and home values. Yet beneath that headline sits the sobering reality that a meaningful share of that wealth may never reach the next generation, the way it’s intended.
For many high earners who have saved diligently over the course of their career, the difference between a well-structured estate plan and a neglected one can translate into hundreds of thousands—or even millions—of dollars unintentionally being gifted to the government. That means the biggest threat to the largest expected wealth transfer in history isn’t that markets reverse or that spending runs rampant, but an absence of planning.
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While rising home equity and retirement account balances continue to propel Americans to millionaire status, industry research consistently shows that roughly two-thirds of Americans do not have a will or estate plan in place. Even among high-net-worth households, which is typically defined as those with $1 million or more in investable assets, estimates suggest that between 20% and 30% still lack a formal estate plan.
For most Americans, the majority of net worth is concentrated in their primary residence and their retirement accounts. That concentration matters because both of those asset categories come with specific rules when transferred to heirs. A home may receive a step-up in basis, making it relatively tax-efficient to pass on. Retirement accounts, however, are an entirely different story.
Thus, retirement accounts, in particular, introduce a layer of complexity that many households underestimate. When assets pass through a will, there is at least an instruction manual on how to divide assets. But retirement accounts operate differently. They pass via beneficiary designation, often bypassing the will entirely.
While that should make the asset transfer process straightforward, if no beneficiary is listed or if the estate itself becomes the default recipient, those retirement assets may be forced through probate and distributed under less favorable rules. That single form—often filled out years earlier and rarely revisited—determines who inherits the account and how it is handled.
If a beneficiary is clearly named and kept up to date, the process is relatively straightforward. But if no beneficiary is listed, or if the designation is outdated, those assets can default to the estate. And when that happens, your inheritors are likely to receive less favorable tax treatment.
What sometimes goes unappreciated is just how quickly the tax consequences can escalate once a retirement account is forced to flow through an estate. Without a named beneficiary, a traditional IRA or 401(k) typically loses the ability to be stretched or distributed strategically over time. Instead, the account may be subject to an accelerated distribution schedule, which can dramatically increase the taxable income recognized by the estate or its beneficiaries.
For instance, if a California resident were to pass away with $1.2 million in a traditional IRA and no beneficiary designation on file, those assets would be forced to pass through the estate. And if distributed as a lump sum, much of those distributions would fall into the top 37% federal tax bracket, plus California’s top marginal rate of 12.3%. In practical terms, the combined tax burden could approach 50%.
Thus, it is not difficult to see how more than $500,000 of that $1.2 million account could be lost to taxes. The result is that what began as a seven-figure retirement account may ultimately deliver closer to $700,000 to heirs, before accounting for any additional legal or administrative costs tied to probate.
While accumulating wealth is largely a function of earnings, savings, and market returns, transferring it efficiently is an entirely different discipline. And in many cases, the difference between what your heirs receive and what is lost to taxes comes down to whether those decisions were made deliberately or left to chance.
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Malcolm Ethridge is the Managing Partner at Capital Area Planning Group, based in Washington, D.C. His areas of expertise include retirement planning, investment portfolio development, tax planning, insurance, equity compensation and other executive benefits.
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Disclosures:
The information provided is for educational and informational purposes only, does not constitute investment advice, and should not be relied upon as such. Be sure to consult with your tax and legal advisors before taking any action that could have tax and legal consequences.
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