Retirement Plans and Divorce

Saving for retirement can be a challenge under the best of circumstances, and your divorce can definitely upset your retirement savings plan. If you have not paid much attention to the family financial situation over the years you may be even more worried when facing a Massachusetts divorce. Whenever thinking about dividing assets due to a Massachusetts divorce, remember that the court must find the division of property, including debt, to be fair and reasonable. In another post, we will review the factors that Massachusetts courts must consider to reach that conclusion.  They are the same factors that your divorce attorney or mediator will also be thinking about as your case moves along.

There are many types of retirement plans – too many to cover in this post – so let’s stick to the most common classifications for now.  Dividing retirement plans at the time of divorce can also be somewhat complicated because certain types of retirement plans require a document called a Qualified Domestic Relations Order, shortened to QDRO.  If you want to sound like a pro, then just pronounce it like this: “quad-dro.” Anyway, a QDRO is usually drafted by an attorney, oftentimes a specialist, and then submitted to the financial institution for approval and then to the court.  Generally, it is not a speedy process.

Retirement plans fall into two main categories.  Defined Benefit Plans and Defined Contribution Plans. This post applies mainly to private sector workers, as government plans are governed by their own rules and regulations, but generally do mirror the overall main categories of plans reviewed below.

Defined Benefit Plans

With defined benefit retirement plans, an employer provides a fixed amount to an employee at retirement, usually in the form of monthly payments that continue until the employee’s death, or beyond death to a beneficiary in some instances.  When you think of traditional pension plans, think defined benefit.  Defined benefit plans are expensive for employers,  and people are living longer.  Thus, the defined benefit plan is becoming an endangered species in corporate America.  Municipal pensions are similar to defined benefit plans, but are covered under different statutes in Massachusetts. Many large companies that historically provided pensions are converting them to other plan types, so although employees near retirement age could be grandfathered into a pension plan, the majority of younger workers will never have this type of retirement plan.

Defined Contribution Plan

With a defined contribution plan, the employee elects to contribute an amount of money into the plan, usually directly through payroll withdrawal.  The employer also makes a contribution, frequently referred to as the “match” to the employee’s account.  For example, an employer might match contributions up to 4% of an employee’s salary.  You may have guessed by now, but the common 401(k) plan falls into the defined benefit category.

What about an IRA?

An Individual Retirement Account (IRA) and its many variants, is somewhat similar to a defined contribution plan, but it is not considered a qualified retirement plan per federal regulations (ERISA – Employee Retirement Income Security Act), thus a QDRO is not required if it needs to be divided at the time of divorce.

Things to Consider

If you or your spouse has a pension, which is a defined ________ plan (ok, come on… you know the answer…anyone? …anyone? = benefit), valuing the plan both at the time of divorce and at retirement,  is somewhat complicated.  An expert is required, such as an actuary, to determine the actual value of a pension plan.  Actuaries are expensive, so you and your spouse may decide to have another financial professional run the calculation using industry-specific software that may not be quite as exact as an actuarial calculation, but it will be close and save in expenses. If you are involved in a court-based Massachusetts divorce and may be going to trial, actuarial services will be required so he or she can testify as to the value, unless the parties agree to a specific value, which is not suggested when it comes to a pension plan.

Other Retirement Plans

Other types of retirement plans exist, most with nifty abbreviations.   Many plans require a QDRO to divide them as part of the divorce, but the more complex issue is oftentimes how to value different retirement assets.    Some other plan types include:

• Employee Stock Ownership Plan (ESOP)
• Tax Sheltered Annuities (TSAs)
• Profit Sharing Plan
• 403(b) and 457 Plans

All of these types of retirement plans will require a QDRO in order to divide them at the time of divorce.

If there is any good news, it is that there are no tax implications or withdrawal penalties when a retirement plan is divided at the time of divorce, so long as the portion of funds withdrawn is transferred into another appropriate retirement savings account.  For example, if you were to receive one-half of your spouse’s 401(k) plan, and it transferred into your IRA (either existing or a new one) there would not be any tax consequences to either spouse.  If however, the money went into a checking account, then it becomes taxable income to the recipient.

As you can see, retirement plans present several involved issues at the time of the divorce, and this blog post introduces some of them. The Valuation of different plans and then drafting the divorce agreement correctly so that your interests are protected is clearly important, so make sure your Massachusetts divorce lawyer and/or mediator is experienced dealing with such matters.

Do you have a financially complex divorce?   Make sure you understand the issues surrounding retirement assets and dividing your marital property, as you only have one opportunity to get it right.  Many people fail to realize all of the issues, including tax implications, so you really should consult with an experienced Massachusetts divorce lawyer.