Will I lose some or all of my pension as a result of divorce? I don’t see why my spouse should get any of it – he has hardly worked a day in his life!
Most people save towards retirement for years, carefully putting away assets so that they can properly enjoy their “golden years.” When a divorce puts these assets in jeopardy, the experience can be stressful. In divorce proceedings, equitable distribution of retirement funds requires proper valuation and division of retirement benefits: 401(k) plans, IRA accounts, Corporate pensions, Military pensions.
These assets are often from pre-tax savings and should be divided differently than assets typically purchased after tax, such as real estate. Qualified domestic relations orders (often called QDROs) create or recognize the existence of an alternate payee’s right to receive all or a portion of the benefits payable under a retirement plan. They are complex matters orders or decrees that require an attorney’s guidance in order to effectively transfer an interest in a qualified retirement plan.
How do I find out the value of our pension plans? Who is qualified to value a pension plan?
Depending on the characteristics and provisions in a particular pension plan with respect to all of the factors discussed above, the employee and nonemployee spouse may be better or worse off with an immediate offset or deferred distribution approach. Counsel should often consider various valuation strategies to maximize the client’s position. For example, if the nonemployee spouse needs upfront cash as part of his or her property distribution and there are no available early retirement enhancements or subsidies in the plan, then immediate offset is the best approach because the nonemployee spouse receives the cash he or she needs without losing early retirement enhancements with a deferred distribution. If the pension plan will allow the employee to delay retirement indefinitely, as does the federal Civil Service Retirement System, then an immediate offset approach may be better for the alternate payee so he or she is not subject to that delay. An alternative is to draft the QDRO type order to remove the financial incentive for the participant to delay retirement by increasing the benefit to the alternate payee for each year that the participant delays. The present value of the alternate payee’s benefit remains the same, and the participant no longer profits by his or her delay.
With respect to early retirement subsidies, the alternate payee’s counsel should negotiate for the inclusion of a provision whereby the alternate payee receives a pro-rata share of that subsidy. Obviously, the participant’s counsel should object. Much depends on the case law in the particular jurisdiction. However, if the jurisdiction’s case law allows the alternate payee to receive a share of the subsidy, it would be a mistake for divorce counsel to fail to include such a provision in the QDRO. The same analysis applies with respect to COLAs. If a jurisdiction allows the alternate payee’s participation in the COLA in the QDRO, then divorce counsel should include such a provision in the QDRO. The COLA should be less objectionable because that is an increase to the pension benefit that is awarded across the board to all employees based on an inflation index and has nothing to do with the specific work efforts of the employee after divorce. This may not be the case with early retirement incentives or enhancements. For example, the employee may need to reach a threshold number of years of service to earn an early retirement subsidy. If the employee has worked, for example, 17 years through the date of separation and does not earn the early retirement subsidy until he works three additional post-separation years, should the nonemployee spouse benefit from that early retirement subsidy which was earned, in part, with post-separation service? The nonemployee’s counsel should argue that 17 out of the 20 years of service were earned during the marriage and the employee could not have earned the subsidy without those 17 marital years. A reasonable compromise would be to prorate the early retirement subsidy so that seventeen/twentieths (17/20) of the benefit is community or marital property subject to division between the spouses. Often, it is not clear whether the subsidy was earned with marital or post-marital years of service. What if the company announces an early retirement subsidy in the year following the divorce and the subsidy is awarded without regard to years of service? The employee spouse will argue the benefit did not exist at the time of the divorce and the nonemployee spouse should receive no portion of that subsidy. The nonemployee spouse will argue that the subsidy is not being granted because of any work effort by the employee during or after the marriage, but that this is an across-the-board increase in pension benefits. Since she is receiving a percentage of the pension benefits under the existing QDRO, she should receive the same percentage of the newly enhanced benefit.
These are some of the more difficult valuation strategies that can arise in a divorce case. The facts and circumstances of each case must be carefully scrutinized in light of the existing legal precedent in the jurisdiction. There is not always a simple answer or solution for each case. That is why many pension disputes have been litigated to the states’ highest courts.
What happens to my pension if I die soon after retirement? What if I die before I am eligible to receive my pension?
The death benefits available from a pension fund after retirement will depend to a large extent on the retirement income option selected. If you buy an annuity with your pension fund, you can build into the annuity a death benefit in the form of ongoing income for your partner or other beneficiaries. This can be costly, so you need to balance the importance of a death benefit from an annuity with the costs involved.
If you select an unsecured pension, leaving your pension fund invested and drawing an income directly from the fund, then the death benefit options are more flexible. Your beneficiaries can, for example, choose to receive your entire pension fund as cash less a 35% tax charge. Alternatively, they can continue to receive an income using unsecured pension or use the entire pension fund to buy an annuity. With some pension funds worth a substantial amount of money, planning for the available death benefits is an important part of overall retirement planning and something you should take seriously.
Speak to an independent financial adviser to discuss the various options and to ensure that your own pension plans are structured in the more efficient way should the worst happen.
What is a QDRO and why do I need one?
Qualified domestic relations orders (often called QDROs) create or recognize the existence of an alternate payee’s right to receive all or a portion of the benefits payable under a retirement plan. They are complex matters orders or decrees that require an attorney’s guidance in order to effectively transfer an interest in a qualified retirement plan. 401(K)’s, IRA’s, Pension Funds can be split should both parties agree and file a qualified domestic-relations order (QDRO), a legal document that directs pension-plan sponsors how to pay out the funds. These funds are tax free if rolled over into your individual retirement account.
A domestic relations order (DRO) is an order that grants alimony and/or property rights to the pension owner’s spouse, or child support under domestic relations law. For example, a property settlement could trigger the distribution of the retirement benefit plan to anyone who is not the plan participant. For the non-participant spouse to receive payment from the plan, the payment must be made in accordance with the qualified domestic relations order (QDRO). A DRO is qualified if it “(1) creates or recognizes the existence of an ultimate payee’s right to, or assigns to an alternate payee the right to receive benefits with respect to a participant under the plan, and (2) complies with other statutory requirements.” An alternate payee can be a spouse, a child, former spouse, or other dependent that is recognized by the QDRO as having a right to receive either a portion of or all of the benefits payable under the participant’s plan.
For a domestic relations order to become qualified, the plan administrator must join the suit as a party, and then decide if the DRO is qualified, and be permitted to represent the important interests. When determining if the DRO is qualified the plan administrator must determine if it fulfills several requirements. First, there must be a transfer of ownership. Thus, the order must “be one which ‘creates or recognizes the existence of an alternate payee’s right to…receive all or a portion of the benefits’ payable to the owner.” Second, the DRO must specify the names and addresses of each participant in the suit and the alternate payee; the amount that each alternate payee will receive; the number of payments that the order will be effective for; and the exact retirement plan the order governs. Third, DRO must specify the amount and duration of the payments. Fourth, when talking about retirement plans, the DRO must “provide that the court may not order the plan to provide to an alternate payee any type, form, or amount of benefit not normally available to the owning spouse. It also may not order the plan administrator to provide to one alternate payee any benefit already being paid to an alternate payee under another QDRO.”
Drafting a proper QDRO depends largely on the companies in which a client has their retirement accounts. It is good practice to contact the companies where these accounts are located and ask if they have a sample QDRO they like their clients to use. Often this can save a client time and money. After a QDRO is drafted, but before a judge sign off on it, it is often a good idea to send the QDRO to the plan administrator and see if it will be acceptable. The Plan Administrator can then either approve the QDRO as is or make suggestions as to how to change the document. Following this extra step would prevent having to take multiple QDROs to the judge for their signature and it will often save a client time and money in the long run. Once the plan administrator informs you the QDRO will work, an attorney can then proceed with obtaining a judge’s signature.
How can my IRA be transferred to my spouse?
Individual Retirement Accounts (IRAs) are typically one of the items allocated in a divorce decree. An IRA is a type of custodial account or trust held for the benefit of an individual or their beneficiaries. It is created by a contract between the bank that manages the account and the owner (i.e. the depositor). Part of this contract includes the beneficiary/beneficiaries who will receive the balance of the IRA upon the owner’s death. The beneficiaries are usually the owner’s spouse or children. Upon dissolution of the marriage, the divorce decree will award the IRA to one of the parties, and whichever party receives it is able to change the beneficiaries. For example, if the husband is awarded the IRA in the divorce, he can substitute his children as the primary beneficiary for his ex-wife beneficiary.
It is important to change the beneficiary on an IRA as soon as possible. Beneficiary designations often trump provisions laid out in a will and if a beneficiary isn’t changed, an ex-spouse can still have access to the IRA. A recent Missouri Court of Appeals case details this possibility. In 1996, the husband designated his wife as a beneficiary of a Fidelity IRA account. The couple divorced in 2000 and husband received the IRA in the property settlement. Several times over the years, the ex-husband contacted Fidelity for information on how to access the Beneficiary Change Form yet he never actually changed the beneficiary. When he died, a fight between his estate and ex-wife ensued over the IRA. The estate cited a Missouri statue that revokes an ex-spouse as the beneficiary on the date the marriage ended. Several states have such statutes, but they have not held up to judicial scrutiny. In the Missouri case, the appellate court referenced a U.S. Supreme Court case that held ERISA governed and overrides or pre-empts state statute to reduce administrative burdens in identifying the correct beneficiary. The circuit court had not addressed the Supreme Court case and instead awarded the funds to the estate based on the intent of the ex-husband. The Court of Appeals reversed and remanded the case to the circuit court with the specific instruction to enter a judgment in favor of the ex-wife including costs and attorney’s fees.
This case is just one of many where failure to change a beneficiary designation results in an unintended transfer of assets. The circuit court seemed to do what it thought was just by awarding the IRA to the estate, but the law did not support the decision. In the Supreme Court case, the couple had only been divorced for two months and it was likely that the ex-husband did not have an opportunity to change designations before dying in an auto accident. That did not matter. Thus it is important to change beneficiaries as soon as possible after a Divorce becomes final.
Normally, withdrawing money from a 401(k) or an IRA is considered a taxable event that requires a party to pay income tax on the funds contributed as well as penalties. When accrued during marriage, retirement accounts are also considered marital property and are subject to equitable division in family court. The Internal Revenue Code recognizes that a Qualified Domestic Relations Order (“QDRO”) can divide funds in a 401(k) or similar retirement account. This allows the providers to roll funds into a retirement account for their spouse. While QDROs do not apply to Individual Retirement Accounts, a spouse can avoid a taxable event by rolling the divided funds into another qualified retirement account. Know that a spouse who converts any retirement funds to cash will be responsible for taxes and penalties for the account.
Contact a Divorce Lawyer Today in Missouri, Illinois, Kansas, or Oklahoma
The divorce attorneys at Stange Law Firm, PC can help you if you are going through a divorce and have questions about your retirement. Contact us online or by calling 855-805-0595. We have locations in St. Louis, Kansas City, Columbia, Springfield, Wichita, Tulsa and beyond in the Midwest.