25 Apr Everything to Know About Dividing Retirement in Divorce – Qualified Domestic Relations Orders (Qdros)
How To Divide Retirement in Divorce Without Taxes or Penalties
A common issue in divorce is how to divide a retirement plan without incurring penalties or owing taxes. Under Federal legislation known as ERISA (the Employee Retirement Income Security Act of 1974) a state court may order a retirement plan in another state to pay benefits directly to an employee’s former spouse. Under ERISA, a Qualified Domestic Relations Order (QDRO) issued by any state court must be honored by a qualified retirement plan regardless of which state the plan is administered in. Some executive level plans are exempted and may ignore a QDRO, but these are rare.
QDRO’s Ensure the Recipient of the Benefit Pays the Taxes
A QDRO orders the retirement plan to create an individual account in the name of the non-employee spouse (‘alternate payee’) and move the funds or benefits awarded to the alternate payee spouse directly to their account without tax consequences or penalties to the employee spouse (‘plan participant’). Taxes are paid by the alternate payee when the funds are withdrawn.
Do Not Withdraw Funds to Give a Spouse in Divorce
Consulting the right lawyer before withdrawing money from a retirement account will prevent unexpected tax consequences. Occasionally, before speaking to a lawyer and in anticipation of divorce, an employee will withdraw funds from a 401(K) to give their spouse. This is wrong. The employee, not the spouse, will receive a 1099 and owe tax and penalties on the funds withdrawn for the year in which the withdrawal is made. Unlike withdrawing funds directly, a QDRO will move the funds with no tax consequences until the alternate payee withdraws them. Taxes will be assessed against the alternate payee (ex-spouse) when funds are withdrawn.
The QDRO Must Comply with State Law, Federal Law & the Retirement Plan
A QDRO to divide retirement in divorce must comply with ERISA, U.S. department of labor regulations, IRS regulations, state law and the retirement plan. The plan may reject a QDRO if the plan administrator thinks it does not comply with these laws or regulations. Most rejections can be cured with revised language that does not change the division agreed by the parties or ordered by a judge.
A QDRO Might be Pre-Approved by the Retirement Plan
Some retirement plans will review and pre-approve a QDRO, or suggest revisions, before the judge signs it. This alleviates the need to submit a revised decree & have a hearing after the divorce is concluded if the plan administrator requests revisions. If a plan does not review or pre-approve a QDRO, an amended QDRO is occasionally required to comply with the plan’s preferred language. Most plans provide QDRO material, including drafting suggestions and a model QDRO. A model QDRO might favor the employee spouse and require elections so a lawyer should be consulted.
A Lawyer Should Not Rely Entirely on a QDRO Expert
In many marriages, the biggest assets are retirement plans and real estate. Negotiating the division of retirement and writing the QDROs are critical. Knowledge of ERISA and the retirement plans is essential. Because retirement is mundane and the rules for QDROs can seem byzantine, some lawyers rely entirely on a QDRO expert. This is a mistake. A QDRO expert may write the QDRO but rarely is involved in ascertaining what retirement plans exist or their value, or in negotiating the division of assets, including the retirement plans.
Understanding Retirement Plans & QDROs is Essential at Mediation
Most divorces are resolved by agreement, usually at mediation. In Texas, a mediated agreement is binding and irrevocable. It is usually written after hours of negotiation when everyone is tired. Vague provisions can cause more litigation and additional costs. The mediated agreement is a short-hand or bullet-point outline of the agreement, and will be the blueprint for the divorce decree, deeds, QDROs, etc. Ensuring the mediated settlement agreement includes the right language and adequately addresses what might be contested later when the QDRO is drafted requires a lawyer who understands retirement plans and knows how to write a QDRO.
Material Needed to Divide a Retirement Plan & Write the QDRO
Early in the divorce, an attorney should request specific information about each retirement plan. This includes recent statements for all retirement plans, each plan’s summary plan description, QDRO drafting guide and model QDRO. This is often available from an employer’s payroll or H.R. department. Not all plans have drafting guides or model QDROs. Acquiring this early provides an advantage in negotiating the division, preparing for mediation and trial, trying the case if necessary, and drafting the divorce decree.
Post-Judgment QDROs
Sometimes a divorce is granted without a QDRO being signed. In Texas the Judge typically loses authority to sign anything 30 days after the divorce decree is signed. It’s important to get your QDRO signed within 30 days of the decree or a new case must be filed. The judge may still sign a QDRO over 30 days after signing the decree, but it’s treated as a new case, requiring a filing fee and service of process if the other party is uncooperative. Crucially, a plan is not liable for what happens before a QDRO is received. If the employee withdraws the funds before the plan receives a QDRO, the only option for the non-employee ex-spouse is to sue their former spouse. This does not guarantee payment. Avoiding the cost and possible futility of suing an ex-spouse is one reason ERISA permits QDROs.
The Lawyer Must Understand the Retirement Plans & QDRO Requirements
Although non-attorney experts can assist with drafting a QDRO, to negotiate effectively and present the case properly, the lawyer must understand the retirement plans and the essentials of writing the QDRO.
We Understand QDROs
At McNamara Law Office, PLLC we have written many QDROs, we know how to negotiate division of retirement accounts, present your case at mediation and trial, and we write the QDROs.
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