The short answer is: it depends. The longer you are married, the better you chance you have of recovering funds from your spouse’s 401k or other retirement plan in divorce. A special rule applies to 401(k) plans and other qualified plans governed by federal law: Your spouse is entitled to inherit all the money in the account unless he or she signs a written waiver, consenting to your choice of another beneficiary. It’s not enough just to name someone else on the beneficiary form that your employer gives you. If your spouse agrees to sign the waiver, which should be provided by the firm that administers the 401(k) plan, a plan representative or a notary public must act as a witness. A prenuptial agreement can’t take the place of a waiver; the law says the spouse (not soon-to-be-spouse) must sign. A spouse who does sign a waiver can withdraw that consent if the other spouse later names a different beneficiary, unless the signing spouse expressly gave up that right.
Divorce and the Division of Assets
Courts handle the division of divorcing couples’ assets differently in every divorce case. The end result depends on both the law of the state where the divorce case is pending and, of course, the specific facts of each case. There are two types of property division in divorce, depending on where you live: community property division and equitable distribution.
If you live in a “community property” state, the law considers all assets and debts acquired during the marriage as “community property.” Community property means that both spouses own the property jointly, and the court will divide the property equally (50/50) between the spouses at divorce. This can include contributions to retirement accounts such as 401(k) accounts.
If you live in a state that uses the “equitable distribution” method of dividing property (which is what the majority of states follow), your state’s courts will divide property between couples in a way the judge hearing the case believes is equitable or fair, but not necessarily equally.
Equitable distribution states have different rules on dividing property. Courts must first categorize all property as marital (joint) or separate, and then the judge can divide marital assets equitably. If the court declares any property as separate, the judge will award the property to the owner spouse and will not divide it in the divorce.
Different Types of Retirement Accounts May Be Divided During Divorce
Retirement accounts, like 401(k) accounts or Individual Retirement Accounts (IRAs), are commonly a couple’s largest assets. Individuals with 401(k) or similar accounts typically fund the account while working throughout the marriage. Your employer may offer a matching contribution, which increases the balance available when you retire. An IRA is like a 401(k) in that they both offer valuable tax benefits, but an IRA has a wider variety of investments, usually doesn’t have the same fees as a 401(k). A pension plan is a retirement account that requires an employer to deposit funds into a pool set aside for an employee’s future benefit. Many teachers, firefighters, and police unions utilize pension plans. Employees can invest additional income into their pension from their wages, and employers can match the contributions.
Dividing Retirement Accounts
Division of retirement accounts is done by a Qualified Domestic Relations Order of a QDRO. Like real property, such as a marital home, personal property, and bank accounts, retirement accounts are up for grabs during a divorce. Many spouses would rather hold the reins of a divorce’s property division aspect than leave it up to a judge. And the court allows spouses to dictate the division. This means you can work directly with your spouse to decide who will receive assets, such as a retirement account. If you reach an agreement, you (or your attorneys) should write it down in a document called a “marital settlement agreement” or “divorce settlement” so there is no dispute later about who agreed to what. During the divorce negotiation process, spouses often make trade-offs. For example, you may ask to keep your entire 401(k) in exchange for some other asset. Spouses should speak with independent attorneys before signing any agreement that finalizes the division of marital assets. A knowledgeable attorney will not only tell you the laws in your state but will also ensure that the proposed agreement is in your best interest now and in the future. During the divorce negotiation process, spouses often make trade-offs. For example, you may ask to keep your entire 401(k) in exchange for some other asset.
Alternative Dispute Resolution For Division of 401K in Divorce
If communication lines are damaged but not broken, divorcing spouses should consider other methods for divorce negotiations, such as mediation or other forms of collaborative proceedings. Choosing mediation or collaborative divorce allows you to take some of the control back. These alternatives are great for couples that are willing to negotiate and come to an agreement. But, as stated above, when a couple can’t agree, a judge will have to decide.
It’s no secret that if you’re divorcing, you may not be on the best of terms with your soon-to-be-ex-spouse. In cases where communication and negotiations fail, and you and your spouse can’t agree, you can use the legal system to handle contested aspects of your divorce. Courts will make decisions on asset division based on various factors, again depending on the state’s laws where the divorce is taking place. Factors may include the amount of money each spouse earns and each spouse’s roles in the account’s contributions.
The Qualified Domestic Relations Order
Once the court determines the specific amounts, it will issue a court order detailing the division. Typically, the next step is for the spouses (and their attorneys) to draft a Qualified Domestic Relations Order (QDRO), instructing the retirement plan administrator to divide the assets. Most attorneys will hire a QDRO company to prepare the final document, which includes case-specific details and state-specific required language in the final product. Once both spouses approve the QDRO, they will sign (along with their attorneys) and return the document to the court for the judge’s approval. Once the judge signs the document, the attorneys can mail the QDRO to the plan’s administrator. In most cases, couples will split the fees to create a QDRO account. If you’re concerned about the cost, you should ask the judge to include payment requirements in your final divorce order. QDRO’s are the most common method of dividing retirement assets. Spouses can choose an immediate cash-out of their portion of the 401(k), but may face a penalty for early withdrawal. Others may choose to defer taking a distribution until the account owner retires. In that case, you can choose a lump-sum payment or request regular payments. The most common action spouses take is to roll their portion of the assets into a new 401(k) account by requesting a direct transfer. How you proceed will greatly depend on your financial situation, and you should seek legal advice before you decide. When dividing an IRA, the couple doesn’t need to go through the QDRO process. Instead, couples can request a direct transfer, or “a transfer incident to divorce.” The account owner will order the IRA plan administrator to transfer the necessary assets directly to the other spouse’s new IRA account. Another option for IRAs is “renaming” the accounts. The owner-spouse opens a new IRA account, places the other spouse’s name on the old account, leaves the appropriate funds in the old one, and transfers the remainder into the new account.
Tax Implications of Dividing Retirement Assets
Tax implications for retirement assets differ depending on various factors, including the plan type. Most times, retirement transfers are tax-free. Sometimes, however, the plan defers the tax until the participant receives or withdraws the retirement funds. You should consult a Certified Public Accountant (CPA) or tax attorney about the best way to deal with the specific retirement accounts in your divorce. Normally, taking a distribution from your retirement account before reaching retirement age counts as an early distribution, which incurs a 10% penalty fee. However, if you’re disbursing retirement funds after a divorce settlement, there is no early withdrawal fee, as long as you transfer the funds according to the divorce order.
Financial Steps to Consider Before Divorce
Before you think about the divorce decree, you may want to meet with one of these professionals:
• Social Security benefits plan administrator
• Pension plan administrator
• Retirement and savings plan financial advisor
It is essential to review your:
• Roth IRA and individual retirement account
• Life insurance policies
• Credit cards and debt
• Retirement income
• Court orders related to a former spouse or child support
• Legal documents such as wills and prenuptial agreements
Gathering most of this information is free. A divorce attorney can also review your retirement planning and offer you legal advice on your retirement account balances and the divorce agreement.
Any funds contributed to the 401(k) account during the marriage are marital property and subject to division during the divorce, unless there is a valid prenuptial agreement in place. For example, if you were married for five years and during that time you contributed $50,000 to your retirement account or pension plan, your spouse would likely be entitled to a 50% share or $25,000. Keep in mind that whether or not your spouse ends up with part, all, or none of your 401(k) depends on how your overall marital assets are split. For example, if your spouse also has a retirement account worth a similar amount, you may each decide to keep your own accounts. Many people going through divorce need cash for a down-payment on a new house or to cover living expenses before finding a job. Taking a lump sum payment from your ex’s retirement account as part of the property settlement is one way to get access to cash. Generally, taking money from a 401(k) before the age of 59 ½ would have a 10% penalty fee. However, early withdrawals can be made as part of a divorce settlement without this fee by following a set of specific rules, including using a Qualified Domestic Relations Order (read more below). After a divorce starts, it is generally not permitted to dispose of martial assets such as retirement accounts. Additionally, just because you empty the account doesn’t mean that your spouse won’t just ask for their martial share, so you could still end up having to pay. Finally, while you can choose to cash out your 401(k) whenever you want, there is a penalty fee of 10% if you are under age 59 ½, and you will owe income tax. Furthermore, It is illegal to hide your financial assets during a divorce, but not in the way you might think. There are no laws that explicitly say hiding assets is illegal; however, you are asked to present the truth during a divorce. To hide a bank account would be perjury, a crime.
What to Consider During a Divorce
Once you begin the divorce process, retirement account issues to consider include:
• Income taxes, tax-free income, and your tax bracket
• Rollover accounts
• Prenuptial agreement, if any
• Whether your state is a community property or marital property state
• Savings accounts and overall retirement funds
• Any specific terms you outlined in the divorce settlement (like getting to keep the cabin or a family pet)
• Stocks or other payouts
How Can I Protect My 401(k) in a Divorce?
There are many options to keep as much of your 401(k) as possible during a divorce. You can consider selling your home, how close you are to Social Security (age 62), gathering evidence that keeps more money in your pocket, and making lifestyle changes that put more money back into your 401(k). Remember, the divorce will have a negotiation phase, so you could offer something else to your ex instead of money from your 401(k). There may not be a way to stop your ex from getting some of your 401(k), but you can make changes to put money back into the account after the divorce. A hardship withdrawal or “hardship distribution” lets you take money from your 401(k) without the 10% penalty fee if you are ordered by a court to provide the funds to your ex-spouse or children.
Utah Divorce Lawyer
When you need a divorce and you need help with a QDRO, or 401k or other retirement account in Divorce, please call Ascent Law LLC for your free consultation (801) 676-5506. We want to help you.
8833 S. Redwood Road, Suite C
West Jordan, Utah
84088 United States
Telephone: (801) 676-5506