Get it right the first time!
It is strange, isn’t it? We see more language in a Divorce Decree about who keeps the TV or the kitchen table and little about how a party will retain what is often the most valuable asset in a marriage, the retirement plan(s). Where are the details? When should the benefit be divided, how will the funds be transferred, are market fluctuations included? Should survivors benefit or early retirement subsidies be awarded? How will contributions or plan amendments after the separation date be considered?
What was supposed to be a 50/50 division of benefits can end up far from it based on the details. Don’t leave them to chance or at the discretion of a third-party QDRO preparer. Retirement plans are confusing, they are all different, and some are rather complex, so how do you properly address the division of a retirement plan in the decree? What retirement plans require a QDRO and what should you know BEFORE the decree is drafted?
A QDRO, Qualified Domestic Relations Order, is an order that creates and recognizes the existence of an Alternate Payee’s right to receive all or a portion of a participant’s benefits payable under an employer-sponsored plan like a 401(k) or defined benefit pension plan. A QDRO must comply with the requirements set forth under the Employee Retirement Income Security Act (ERISA) and the domestic relations laws of the state. Congress established ERISA to provide the regulatory framework for employer-sponsored retirement plans. All ERISA-sponsored retirement plans require a QDRO to divide benefits incident to divorce.
Not so fast! There are always exceptions to the rule. Employers like the federal government, state governments, or our Military are exempt from the ERISA and therefore have their own framework and terminology as it relates to the division of employee retirement benefits due to divorce. Federal employee retirement benefits, as well as military, retired pay must be divided due to divorce using a QDRO-like document referred as a Court Order Acceptable for Processing (COAP). Handbooks are available online to help Attorney’s or other interested parties navigate the complex terminology and requirements of these retirement systems. The biggest difference between a traditional defined benefit pension plan and the federal service members or military pension is that benefits are not payable to an Alternate Payee or former spouse until such time as the Participant is collecting benefits. If your intent is to secure payments from the federal government or military over the span of both parties’ lifetimes, survivors’ benefits must be addressed in the Decree.
Another common retirement account that is often neglected in the decree is an Individual Retirement Account (IRA). Individual accounts are not subject to the ERISA but can be divided as a nontaxable event pursuant to §408 of the IRC. One of the most common mistakes we see is the misidentification of an IRA vs. an employer-sponsored 401(k) plan. Both plans function much the same, they are tax-deferred and subject to the qualified plan rules under the IRC but the division requirements are very different. IRA custodians are not required to determine an award amount as of a past date. They are not required to calculate a proportionate share of market fluctuations or exclude contributions after a specific date. IRA custodians will not communicate with the former spouse directly or automatically establish an account in their name to complete the transfer as required of all employer-sponsored plans divided by QDRO. The IRA account will be divided based on a fixed dollar amount or percentage of the total account balance as of the date of division. It is important to understand that any percentage award in the decree, will include a proportionate share of market fluctuations through the date of division but also include a proportionate share of any contributions. These are terms that should be known not only during negotiations or when drafting the appropriate decree language, but this can also be crucial information for planning purposes. Maybe the account owner needs to stop making contributions until the account is divided. Maybe the funds need to be moved to a stable value fund, or maybe you just need to know the difference between a 401(k) and an IRA so the decree includes language that is consistent with the plan terms.
It cannot be overstated that discovery, evaluation and analysis should be completed prior to negotiations and the drafting of any decree language. When overlooked, these details often result in divisions that are inconsistent with the intent of the decree, cause post-divorce litigation, unintended financial consequences or even worse, result in a total loss of benefits. Reaching out to a financial professional right away when dealing with retirement accounts can be incredibly beneficial and well worth the money to get it right the first time.
At Smarter Divorce Solutions, our financial experts can help you understand exactly what you’ve got, what your options are, and we can draft the documents necessary for division. We are here. We can help. Reach out today.
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At Smarter Divorce Solutions, we help you with creative solutions and sound financial decisions surrounding the dissolution of your marriage, because we know that in the end you will still be part of the same family. Happy Anniversary to those that made it, and a kinder, gentler and more affordable divorce to those that didn’t.