Divorce can have a significant effect on the retirement assets of both spouses, especially if they have been married for a long time and have accumulated substantial savings in their retirement plans. Retirement assets can include 401(k)s, 403(b)s, IRAs, and pension benefits from employer-sponsored plans. These assets are usually considered marital property and subject to division in a divorce settlement.
However, dividing retirement assets is not as simple as splitting a bank account or a brokerage account. Retirement assets have special tax advantages and rules that need to be followed to avoid penalties and taxes. Moreover, employer-sponsored plans have their own regulations and procedures that protect the plan participants and beneficiaries.
To divide certain types of retirement assets, such as 401(k)s and pensions, without triggering taxes or penalties, a legal order called a qualified domestic relations order (QDRO) is required. A QDRO is a court order that instructs the plan administrator to assign or pay a portion of the retirement benefits to an alternate payee, such as a former spouse, child, or other dependent. A QDRO must comply with the Employee Retirement Income Security Act (ERISA) and the domestic relations laws of the state where the divorce is filed.
A QDRO has several benefits for both spouses. For the plan participant, a QDRO allows them to transfer some or all of their retirement assets to their former spouse without being liable for taxes or penalties. For the alternate payee, a QDRO gives them legal rights to receive retirement benefits that they may not otherwise be entitled to. A QDRO can also provide survivor benefits if the plan participant dies before retirement.
A QDRO is an important document that should be prepared carefully. A QDRO should reflect the terms of the divorce settlement agreement and specify how much, when, and how the retirement benefits will be divided. A QDRO should also be approved by both the plan administrator and the court before it becomes effective.
Marital Property vs. Separate Property
Marital property vs. separate property are two types of property ownership that apply to married couples. Marital property, also known as community property in some states, is any property that belongs to both spouses, regardless of who acquired it or when. Separate property, also known as non-marital property, is any property that belongs to one spouse only, usually because they owned it before the marriage, inherited it, received it as a gift, or agreed to keep it separate. The distinction between marital and separate property is important for legal matters such as divorce, inheritance, and taxes. Depending on the state laws and the circumstances of the marriage, some separate property may become marital property over time, or vice versa.
When it comes to retirement plans, in most states, pre-marital and post-marital contributions to a retirement account are considered separate property. Depending on how long ago the non-marital contributions were made, it may be possible to write in language into your QDRO that requires the plan to make the calculations, though in many cases, pre-marital contributions from many years ago will require an accountant to calculate (or an agreement between the parties to estimate).
Splitting Up Retirement Accounts in the Division of Marital Property
Splitting up retirement accounts in the division of marital property can be a complex and challenging process, depending on the type of account and the state laws that apply. Generally, retirement accounts that are accumulated during the marriage are considered marital assets that can be divided between the spouses, unless there is a valid prenuptial agreement that states otherwise. However, different types of retirement accounts may require different methods of division.
For example, individual retirement accounts (IRAs) can be divided by a transfer incident to divorce, which is a tax-free movement of funds from one spouse’s IRA to another spouse’s IRA, as ordered by a divorce decree or a property settlement agreement. The spouse who receives the IRA funds will be responsible for any taxes or penalties on future distributions.
On the other hand, qualified plans such as 401(k)s or 403(b)s require a qualified domestic relations order (QDRO), which is a court order that instructs the plan administrator how to divide and distribute the plan benefits to the former spouse, who is known as the alternate payee. The QDRO must specify the amount or percentage of the plan benefits that will be assigned to the alternate payee, as well as the number of payments or time period that the QDRO applies to. The alternate payee may choose to roll over their share of the plan benefits to an IRA or another qualified plan, or take a lump-sum distribution, which may be subject to taxes and penalties.
Dividing retirement assets in divorce can be challenging and confusing, but with proper planning and guidance, it can be done in a fair and efficient manner. A QDRO is a key tool that can help spouses protect their financial interests and secure their future retirement income.
Therefore, it is important for divorcing spouses to understand how their retirement accounts will be affected by their divorce settlement, and to carefully prepare a QDRO to divide retirement assets as soon as possible after divorce. Our software allows you to prepare a QDRO in minutes, preview your document before paying, and download an editable version in case further tweaks are needed – get started today.
