If you’re going through a divorce and want to receive your fair share of the retirement benefits acquired during your marriage, you need to make sure that your rights under these retirement plans are fully protected. In many cases, this will require the use of a Qualified Domestic Relations Order (QDRO).
Can California Courts Divide Retirement Plans?
Yes. In California divorce proceedings, courts must divide the "community estate" equally between the spouses. The community estate (also referred to as the marital estate) consists of all property (for example, homes, rental properties, cars, furniture, savings, checking accounts, stocks, and retirement accounts) acquired by either spouse during the marriage. It doesn't include "separate property," which is property owned prior to marriage and property acquired by gift, inheritance, or after separation. Generally speaking, community property is divided equally, but spouses get to keep their separate property after divorce.
Divorcing couples don't always have to ask a court to divide their property though. Spouses are free to enter into agreements that spell out how they want to divide their community estate. If they can't agree, they'll end up in court, and a judge will make the decision for them.
With respect to retirement benefits, courts must issue whatever orders are necessary to make sure both spouses receive their full community property share of any retirement plans. Certain plans (spelled out below) cannot be divided between spouses without a Qualified Domestic Relations Order (QDRO).
What is a QDRO?
A QDRO is a special type of court order that divides certain retirement plan benefits in a divorce. A QDRO is issued in addition to a marital settlement agreement (MSA) or final judgment granting your divorce. It contains specific directions to the retirement plan administrator regarding how the plan should be divided between the spouses. It's essential that your QDROs are accurate and complete. If your QDROs fail to cover all of the community retirement assets, you may not be able to receive them later.
Is a QDRO Needed for all Types of Retirement Plans?
No. You don't need a QDRO to divide Individual Retirement Accounts (IRAs), deferred annuities, or government retirement plans (military pensions and federal, state, county, or city retirement plans).
You will need a QDRO if you’re trying to divide the following types of plans:
- 401(k), 403(b), and 457 plans
- thrift plans
- profit-sharing plans
- money purchase plans
- employee stock ownership plans
- tax-sheltered annuities, and
- business/corporate defined benefit or pension plans.
Why Do I Need a QDRO?
In the divorce context, the spouse that earns retirement benefits through his or her employment is called the “employee spouse” or “participant.” The other spouse is referred to as the “non-employee spouse” or “alternate payee.” Federal laws governing retirement plans prohibit certain types of plans (mentioned above) from paying benefits to anyone other than the participant, unless the plan has been directed to do so under a QDRO. In short, a QDRO allows the retirement plan administrator to pay benefits to the alternate payee.
Who Should Prepare the QDRO?
On the surface, QDROs may seem easy to prepare, especially where the spouses are cooperating with one another. Many attorneys (and non-attorneys) try to use a “one-size-fits-all” approach to drafting QDROs, or use a plan’s model QDRO without a full appreciation of the legal and financial consequences of certain provisions.
However, the rules governing QDROs and retirement plans are complex and constantly changing. There are a variety of plans and each has unique requirements and features. A QDRO must be drafted to meet specific legal criteria and tailored to the particular type of plan it’s supposed to divide. Using a generalized approach to a QDRO can result in an improper division of benefits, the loss of important rights under a plan, and a total or partial loss of benefits upon the death of the participant.
Although the need for a QDRO arises out of divorce, many experienced family law attorneys will readily admit that they can’t prepare QDROs and will refer clients to an attorney engaged in the QDRO subspecialty. This is similar to how the health system works. You wouldn’t ask your family doctor to treat advanced heart disease; you would see a cardiologist. The bottom line - if you need a QDRO, hire a QDRO attorney.
Will the QDRO Specialist Compute the Amount Payable to the Alternate Payee?
Unless the MSA or final judgment of divorce include the specific amount payable from the retirement plan to the alternate payee, the QDRO preparer will use a formula that instructs the plan administrator how to compute the amount payable. A formula has the advantage of accounting for adjustments to the benefit over time.
How is Payment Made to the Alternate Payee?
With plans that allow lump-sum distributions, alternate payees can elect to receive their share in one payment or rollover their share to an IRA or other eligible plan. This is typical with 401(k) and profit-sharing plans.
Defined benefit plans and pensions generally pay benefits in monthly installments. With these types of plans, the alternate payee will typically receive monthly payments for a set period of time.
Is a QDRO the Only Way to Divide Retirement Plan Benefits?
No. As noted above, there are several types of retirement plans that don’t require a QDRO. Alternatively, you can avoid dealing directly with the plan by entering into a “buy-out” agreement with your spouse. In a “buy-out,” the employee spouse keeps the plan and pays the non-employee spouse the value of his or her interest in the plan. Both spouses must agree to the terms of a buy-out, and the agreement should be confirmed in the MSA and/or final judgment of divorce.
If you’re considering a buy-out, you’ll need to know the current value of the plan and the marital or community portion owed to each spouse. For a defined contribution plan like a 401(k) or 403(b), you can find the current value by looking at account statements or contacting the plan administrator.
With a defined benefit plan or pension, a current value calculation isn’t that simple. Because these benefits are paid in the future, it’s harder to know what they’re worth today. You’ll probably have to hire a pension actuary to determine present value.
You’ll also need to figure out what portion of the current value you’re entitled to. Talk to your attorney and/or QDRO expert about determining your share. They may refer you to an actuary, CPA, or financial planner who can perform this calculation for you.
If you’re going to keep the retirement plan, make sure you consider potential tax consequences. If you forget to account for future benefit-related taxes in your buy-out agreement, you may end up with less than what you bargained for. If you need help figuring out tax issues, consult a CPA. You should be able to use the information regarding tax liabilities to negotiate a fair buy-out amount.