The Devil is in the Details: Navigating Pension Division in Divorce

People often underestimate the complexity of dividing pension assets in divorce. While these assets may provide regular statements, like a bank account or mutual fund, they are not as straightforward as they seem, and they must be handled differently than retirement savings plans, like 401(k) and 403(b) accounts, and regular, non-retirement accounts.

It can be challenging to value pensions, and many require special treatment to comply with regulatory requirements.

The bottom line is that it is crucial to work with a divorce attorney who understands pension division if either you or your spouse has these retirement assets.

Remember that all assets accrued during the marriage will be divided as marital property even if they were earned solely by one spouse, and some assets acquired before marriage may be divided as well.

Different Types of Retirement Assets

While there is a broad array of retirement assets, they generally fall into one of four categories. Pensions used to be the standard plan for retirement but they have become much less common. These days, pensions are most often provided to federal, state, municipal, or local government employees but they are still occasionally offered by private-sector employers.

Pensions are a type of defined benefit plan. Employers contribute money to a fund and use that fund to pay a guaranteed amount of money to employees when they reach retirement age.

Defined contribution plans are now offered by employers in place of pension plans. In these plans, an employer may guarantee that they will pay in a certain amount or match employee contributions, but the employee bears the burden of deciding how that money should be invested to provide the funds they need in retirement and an employee’s savings are subject to investment market volatility. These plans include 401(k) and 403(b) plans.

Employees can generally contribute to their defined contribution plans, and they can open and fund their own individual retirement accounts or IRAs, the third type of retirement asset. Often funds from a defined contribution plan will be rolled over into an IRA when an employee changes jobs, retires, or gets divorced.

The final type of retirement asset to consider is the annuity. Individuals invest in annuities that promise to pay out a regular stream of income in retirement. This operates somewhat similar to a pension plan except that the source of funds comes from the employee rather than the employer.

Challenges in Pension Division

Because a pension is essentially a promise to pay money when a certain condition is fulfilled in the future, this type of asset can be extremely difficult to value or divide in divorce. The employee may not be fully vested, meaning they haven’t quite earned the ability to receive the payments.

What happens if the employee dies before retirement or changes jobs before they are fully vested? How do you properly value the future income in today’s funds? Should the spouse who has not earned the pension receive a share of the value of this asset at the time of divorce or wait until the pension is paid out? It is important to address all the potential questions with an experienced attorney.

Division of Defined Contribution Plans and IRAs

Defined contribution plans and IRAs may be easier to value, but they come with their own set of challenges. Because funds in these plans and accounts are often contributed before taxation and not taxed as they grow, at some point, the government requires them to be distributed and taxed as income, and this needs to be accounted for in the divorce process.

For instance, if one spouse removes funds from an IRA to give to the other spouse, the spouse taking out money could be taxed on that distribution. If the division is handled properly according to a divorce agreement and accompanying court orders, the division can be accomplished without tax liability.

Distribution and division of all assets in IRAs, 401(k)s and 403(b)s must comply with different sets of rules, depending on the type of fund or account.

Qualified Domestic Relations Orders (QDRO)s

When dividing many retirement assets in divorce, it is necessary to prepare a Domestic Relations Order (DRO) or Qualified Domestic Relations Order (QDRO). These are special legal documents that give retirement account administrators the authority to pay out funds to someone other than the employee. The document also directs the way in which the funds should be paid out.

Because there are so many different types of retirement assets and accounts, there are a range of different requirements for the documents needed to release the funds. For instance, a Roth 401(k) plan will be handled differently than a private annuity or a federal pension.

A QDRO or DRO is often prepared by a specialist and must be approved by the court. To reduce the cost of dividing assets in divorce, an experienced attorney will work to combine assets where possible to reduce the number of QDROs needed.

Engaging Experts in Pension Division

With all the complex requirements and difficulties in valuing and dividing retirement assets, it is important to start working with experienced professionals early on. An expert should be hired to draft qualified orders. Working on the process early on can ensure that documents receive pre-approval from plan administrators and reduce delays and potential problems later.

An attorney experienced in pension division can ensure that language incorporated in the divorce decree or other documents provides for different contingencies. Proper preparation during the divorce process can enable division orders to be executed in a timely fashion after the divorce.

Back-Office Process in Divorce

The complexities of pension division make it advisable to work with a law firm with a well-organized back-office process. Ideally, the firm you choose should understand the technical requirements for dividing a wide variety of retirement assets and they should be set up to accomplish the procedures quickly, efficiently, and correctly.

If your divorce attorney’s office has to reinvent the wheel every time it divides a pension or defined contribution plan, the process is likely to be delayed and this could cost you money as well as time. For a smooth transition and to avoid potential mistakes, it is wise to work with an experienced, organized firm.

Special Considerations for Military and Civil Service Pensions

The unique aspects of military and civil service pensions require specialized knowledge and handling in divorce. While these plans often share some aspects in common, they each have distinct features and rules that must be understood and followed for the recipient spouse to receive the benefits assigned to him/her in the divorce.

For instance, it is important to consider survivor benefit plans and what is required to guarantee survivor benefits. In addition, it is important to know what happens when a military spouse who is receiving retirement pay becomes disabled.

Impact of Retirement Asset Division on Taxes

One common theme running through the discussion of the complexities of pension division in divorce is taxation. The tax-deferred nature of many retirement assets is the cause of many of the detailed restrictions on distribution. The government wants to ensure that someone pays taxes on the funds that were invested before taxation.

Because the IRS may not particularly care who pays the taxes, divorce attorneys should ensure that their clients do not end up assuming an unfair tax burden.

In fact, an experienced divorce attorney will work to minimize tax liability all around and also strive to ensure that any remaining liability is allocated in a way that protects clients’ interests. A well-qualified attorney will understand the potential tax implications of decisions and know the best strategies to minimize tax liability.

A Knowledgeable Attorney Can Make All the Difference When Navigating Pension Division in Divorce

Retirement assets often make up the greatest part of a couple’s net worth at the time of divorce. To build the best life after divorce, it is essential to ensure that pension plans and other retirement assets are valued, managed, and divided properly. For particularly complex assets or unique situations, it often makes sense to bring in specialized financial experts to help develop a plan for fair pension division.

At Koiles Pratt Family Law Group and Michael I. Flores, PC, we understand how to navigate the complexities of asset division in divorce, including the potential challenges involved with all types of retirement assets. We strategize to get the best allocation based on current and future needs. To learn more about the ways we can protect your interests in divorce, contact us today for a confidential consultation.

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