A certificate of deposit is a low-risk investment option commonly sold by banks and financial institutions. Similar to a savings account, money is deposited and left alone to earn interest. Unlike traditional bank accounts, the owner cannot tap into the account whenever he pleases. Once the CD reaches its maturity date, the owner can withdraw the initial deposit plus interest. A CD allows the account owner to name a beneficiary to be paid upon the account owner's death. A beneficiary has no rights until he inherits the CD.
A CD with a designated beneficiary avoids the costly and lengthy probate process. Beneficiaries can access the funds right away, rather than waiting for the court to make a final ruling to disburse the assets. In probate, assets can be sold to settle the decedent's debt. By naming a beneficiary, the CD is not subject to creditor claims.
Access to Funds
While the account owner is alive, the beneficiary has no rights to the CD. The owner can choose to close the account, spend the money or name a different beneficiary. After the account owner dies, the beneficiary can claim the CD by informing the bank and providing a copy of the death certificate and proof of identification.
Claiming the Funds
When the account owner dies, the beneficiary can close the CD and liquidate the funds without facing any early withdrawal penalties. Depending on the bank, the beneficiary may also have the option of assuming ownership without closing the CD. If interest rates rise, beneficiaries could take advantage of the higher rates and higher earning potential for the remainder of the CD term. Because requirements vary among banks, the beneficiary will need to contact the bank directly to explore options.
Money inherited is generally not taxable under a certain threshold. However, the interest earned on a CD is taxable. If the account owner did not receive the interest payouts prior to death, the beneficiary receives the interest and must pay the taxes. Beneficiaries are responsible for reporting the interest on their federal tax returns. Once the taxable interest exceeds $10, banks will issue a 1099-INT to the beneficiary.
If the account owner lives in a community property state, the spouse may be entitled to the CD, even if there is a different beneficiary named. Under community property state laws, the account owner's spouse typically has half-interest of any assets acquired during the marriage, including CDs. If the money used to purchase the CD was earned while married, it is likely classified as community property. With a beneficiary, the spouse can still take half the CD's value. A CD that is classified as separate property will pass to the designated beneficiary. Separate property includes assets owned before marriage and inherited assets.
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