It is very common in marriages for one spouse to earn most, if not all, of the family’s income, especially if the couple has children. Generally, this means the spouse who earns more will be at a huge advantage when it comes to retirement income. If the couple is facing divorce, their settlement will typically divide the funds in pension plans, 401k’s, or IRAs. What many couples and sadly, some divorce attorneys don’t understand is a simple settlement agreement is oftentimes insufficient. You need a QDRO or, “Qualified Domestic Relations Order” to ensure that any retirement funds are equitably divided between the parties.
What is a QDRO?
A QDRO (“Quadro”) is the legal document that instructs a retirement plan custodian or administrator to divide the assets in the account per the terms of your settlement agreement. Some examples include dividing the current balance of an IRA, 401k, or future income generated by a pension plan.
Your attorney can draft a QDRO, but the final order must be issued by the court. A QDRO is essentially an enforceable court order assigning retirement plan benefits to the former spouse of the plan holder. Even if your spouse has signed a settlement agreeing to a specified partitioning of any retirement plans, the plan administrator is prohibited from doing so without a court order.
A QDRO is the only available legal mechanism to divide retirement plan benefits without creating a taxable event. If your divorce settlement specifies that your spouse is entitled to 50 percent of your IRA account, and you disburse half of the balance to your spouse, you are responsible for 100 percent of the applicable taxes on those funds – even though you didn’t personally retain the proceeds. This is in addition to any early withdrawal penalties you may be liable for if you are under age 59 ½. With a QDRO, any apportioned retirement account funds remain inside a qualified plan. No taxes are due until you or your soon-to-be ex-spouse withdraws funds from the account.
It is imperative that your QDRO be prepared and submitted to the retirement account custodian or administrator before your divorce is finalized. If you wait until after the final settlement, you may forfeit the right to any retirement account benefits you are entitled to. In addition, the firm holding the retirement account must review the QDRO to ensure it complies with the terms of the plan.
For example, say you and your spouse agree that you should receive $100,000 from his pension to be rolled over into your IRA account. If the pension plan stipulates that no funds can be rolled over until the pension beneficiary retires, the administrator cannot comply with the QDRO. He or she will request you submit an amended QDRO that complies with the plan’s rules. This might include an agreement that you receive 50 percent of all available pension disbursements at the time your spouse retires. The QDRO should be drafted and submitted well in advance of your final divorce settlement to allow ample time for any revisions or additional review periods.
Be forewarned; even the most accomplished, reputable divorce attorney may not be sufficiently versed in the mechanics of dividing retirement assets to secure the proceeds you are entitled to. If you are in the midst of a divorce settlement process, and you and/or your spouse have retirement accounts, you should consult a financial expert. A Certified Divorce Financial Analyst (CDFA) can help you evaluate the full value of these accounts, assist in determining how any retirement assets should be equitably divided, and guide you through the necessary steps to secure funds with minimal tax liability.