Divorces often see a division of assets. Bank accounts, cars, and homes are subject to a fair and equitable distribution. However, what many people don’t realize is that retirement assets are also available for distribution. The ex-spouse may be designated as an Alternate Payee and receive up to 50% of the retirement funds. Here’s what you need to know if you find yourself in such a situation.

Which retirement accounts or assets are subject to a divorce agreement?

The legal name for assets which are subject to a divorce agreement is marital or community property. Although state laws differ as to what is included in martial property, retirement accounts are definitely on the list. This includes popular accounts like IRAs, 401ks, 403ks, ESOPS, and military pensions. Keep in mind that often times a spouse may have more than one retirement account. Make sure that you have a complete list before completing any divorce agreement.

How are the retirement benefits divided and distributed?

Assuming the marital property will be divided equally between the two parties, the most common approach is to ascribe a dollar value to every asset and then to divide them accordingly. In other words, if both the marital home and the 401k are worth $500,000, then typically one spouse would receive the home while the other gets the 401k. The retirement account itself can also be divided by using a QDRO (see below.)

Alternatively, both assets can be sold or cashed out (if possible) with the proceeds being evenly split. Although these approaches sound relatively simple, there are a number of points that you should keep in mind.

• The first is that the value of the retirement account is not always easy to determine. There are a number of factors that could define the actual dollar value, and it may be necessary to hire a pension appraiser. Also keep in mind that you may not be entitled to a full 50% split of the account. Courts often use a calculation known as the Majauskas formula to determine the entitled percentage. This formula limits the received benefits to those that accrued during marriage.
• Although the first instinct is to take the house as opposed to the retirement funds, this is not always the best idea. Houses can come with the responsibility of mortgage payments and upkeep, which is not true of funds. Additionally, the house’s value can change dramatically between what it is now and when you finally decide on selling it. Also, a house sale has different tax implications than retirement funds. For all of these reasons, it’s best to speak with a financial professional before making a final decision.
• Finally, you have to take into account when you would like access to the assets or funds. Non-retirement assets can be received as soon as the divorce agreement is finalized. Retirement assets, though, may not be accessible immediately. Factors that determine their accessibility include specific state regulations, retirement account rules, and whether or not the participating spouse is still working.

QDRO – Qualified Domestic Relations Order

If you want to divide the retirement benefits themselves, then you’ll need a QDRO – Qualified Domestic Relations Order. This is a special document prepared in addition to the divorce agreement. It specifically allows for an ex-spouse to be designated as an Alternate Payee and allows him/her to receive a share of the retirement benefits.

The QDRO is important as it allows for a legal transfer of the benefits without incurring any penalties. The document is normally written by one of the participating attorneys, signed by a judge, and then sent to the plan administrator.

Before submitting the QDRO make sure you and your lawyer read it over for accuracy. Like any legal document, the details are very important. Also keep in mind that the retirement plan provider might charge fees for enacting the QDRO. These fees should be taken into account when dividing assets.

Taxes

Retirement benefits often follow their own unique set of tax rules, and this doesn’t change when they are divided up as part of a divorce agreement. Here are four points to keep in mind about tax liability.

• Each spouse will be expected to pay taxes on their share of the retirement benefits. Consequently, each spouse will fill out their own 1099-R tax form. (In standard cases, tax liability will not take effect until the account holder reaches retirement age.)
• When dividing assets, keep in mind the tax liability of different kinds of retirement plans. Traditional IRAs and 401(k)s will have a tax bill due at some point in the future, while post-tax accounts like a Roth will remain tax free. This is obviously very important when ascribing dollar values to the various assets.
• When transferring the retirement asset, make sure that it is done in the proper way (e.g. trustee-to-trustee) in order to maintain its tax advantage. If transferred improperly, the asset could be considered a distribution with all of its incumbent tax implications.
• When the retirement benefits are distributed with a QDRO, the ex-spouse has a one-time opportunity to make a withdrawal without any tax penalty. In other words, you can cash out right at the beginning. However, before taking advantage of this feature, make a serious calculation if you need the money presently. Retirement accounts do provide for a generally stable investing platform, and that account could be worth a lot more later than it is right now.

Retirement Account Options

If you choose to rollover the retirement funds into another retirement account, keep in mind that the choice of accounts is now open to you. You can simply rollover into a standard IRA with one of the big brokerage houses, or you can take advantage of your newfound freedom and go Self Directed. Here at Broad we specialize in Self Directed retirement plans, and we can help make your transition easy and productive.