Splitting up marital assets in a divorce is challenging enough when you are dealing with property in the here and now. When it comes to assets accrued for the purposes of future retirement, things can get even more complicated.
For one thing, while most divorce law is under the jurisdiction of the state, division of retirement assets is dictated by Federal law. Tax-deferred accounts such as an Individual Retirement Account (IRA) or employer-sponsored 401(k) were designed by the federal government under the assumption that the money goes in and, with only a few exceptions, stays there until the account owner reaches retirement age. Permanently moving money out of those accounts any sooner normally triggers penalties and tax payments. But special rules kick in when divorce is a factor.
A divorce decree may require all or part of an IRA to be transferred into a new IRA owned by one of the divorcing parties. Under these circumstances, transferring ownership of IRA assets is not considered to be a “distribution.” In other words, neither the owner nor the recipient would be subject to any early withdrawal penalties and taxes on the transferred amount, so long as the receiving party does not take possession of the funds.
By law, the spouse of a participant in an employer-sponsored 401(k), pension, or similar retirement plan automatically has certain rights to the benefits payable under the plan. If part of that benefit was accrued during a marriage that is later dissolved, the courts may issue a Qualified Domestic Relations Order (QDRO) that requires the Plan Administrator for the retirement plan to create an “alternative payee” account for the spouse and to then transfer the spouses portion of the retirement account into their own separate account.
The rules for drafting and ensuring an enforceable QDRO can be tricky, so it is imperative to work with an attorney who is well-versed in managing this aspect of settling a divorce.