Protecting your retirement savings during a divorce may not be at the top of your mind when you are going through the process of splitting up with your spouse. The emotional toll on you and your family, after all, likely takes precedence. Still, your financial well-being matters, and that includes making sure that your retirement savings, including any money you have in a 401(k) or other retirement savings plan, are protected. There are some financial advisors who are certified divorce financial analysts (CDFAs) and can help you through this process. If you need an advisor, find one with SmartAsset’s free financial advisor matching tool.
How Retirement Accounts are Split During a Divorce
Assets are split differently depending on a number of factors, such as the type of account and when the earnings were received. Before defined contribution plans can be split, the court must issue a qualified domestic relations order (QDRO). You can get a blank copy of this from your plan administrator. In most instances, your attorney drafts the QDRO before sending it to the divorce Court.
Once a judge signs it, the QDRO makes the asset split official, and it allows plan administrators to enforce it. However, these administrators must first accept the QDRO. This applies to all plans governed under the Employee Retirement Income Security Act (ERISA) of 1974. These include the following:
- 401(k) plans
- 403(b) plans
- Thrift Savings Plan (TSP)
Marital Property vs. Separate Property
Assets are split differently for individual retirement plans or accounts. These are almost always considered to be property that is part of the marriage and is split evenly.
The framework varies based on different factors like plan type and state law, but the typical scenario looks like this. The judge analyzes “marital property” and “separate property.” In most cases, money contributed toward the plan after the official date of marriage as well as the earnings it generates is considered marital property. Anything contributed or earned prior to or after the marriage is separate. That’s the portion the judge would split.
Fortunately, however, the QDRO allows you to roll over your portion into your own qualified plan penalty and tax-free. You should continue contributing to this plan or roll it over to a Roth IRA via a trustee-to-trustee transfer.
TSP plans for employees of the federal government and armed services follow slightly different rules. The divorce decree must clearly detail how much of the account balance each spouse is entitled to in order to meet QDRO rules.
How to Protect Your 401(k) in a Divorce
You’ll need a QDRO to split the assets in a 401(k) account, per the rules for a defined contributions plan above. The rules for how the money in your 401(k) will be distributed will depend on the state you reside in. Most states follow a marital property law that divides assets equitably. Some states follow the community property law that will divide all marital assets 50/50.
Both laws are applied the same way for your 401(k). Everything you contributed and earned prior to your marriage is yours to keep, but everything that was earned during the marriage will be split evenly. The good news is that you may not have to liquidate your 401(k) and pay a penalty.
If you and your spouse have equal, or close to equal, amounts in your own individual 401(k) accounts then you could both mutually agree to just retain your individual accounts without anything changing.
It’s when one has significantly more than the other that something must happen. You can either agree to liquidate or split the account dollars into two new accounts, one for each of you. Your spouse may not like the latter option because they won’t be able to contribute new dollars to that account. But, everything is up for negotiation in a divorce.
How to Protect Your IRA in a Divorce
You don’t need a QDRO to split Individual retirement accounts (IRAs) and Roth IRAs. If you already had one or more of these accounts during your divorce, the court would likely split under the “incident to divorce” provision in the tax code This allows the balance to be split among both ex-spouses tax-free within a year following the official divorce date.
In any case, you should continue to invest whatever portion of your retirement plan you keep. If you still have a long way to go before retirement, this money will continue working for you by growing in the market. If you’re closer to retirement, consider buying an annuity.
How to Protect Your Pension Assets in a Divorce
According to most state laws, pension assets that are in the plan during the marriage are joint or marital property. So the court would typically split distributions of these assets in half. However, you keep the portion you contributed and earned before the marriage. So if you and your employer contributed toward the plan for 10 years before you got married, that money remains yours.
However, pension plans work differently across states and you should be aware of how yours functions. Pay attention to how the plan makes distributions. You usually can choose between a lump-sum payment or a monthly annuity payment.
If your plan allows a joint-life payout, your ex would receive payments even after your death. On the other hand, your ex-spouse can get to the option of your choice with a single-life payout.
Several pensions also allow survivor benefits. The framework of these can get very complex in a divorce proceeding. For instance, some states allow the ex-nonworking spouse to keep his or her survivor’s benefit even after divorce. So you should consult your employer to learn all about the rules of your particular pension. A financial advisor can then help guide you through the right moves to make for your plan.
Negotiating Retirement Assets in a Divorce
As you can see splitting retirement assets can be costly and time-consuming for both parties in a divorce. Keep in mind we haven’t covered legal fees. And plan administrators typically charge fees for QDROs as well. So if you and your spouse are relatively the same age and have similar retirement account balances, it may be best to agree that each walks away with what’s already theirs.
If there’s a wide gap, you may need to negotiate. Consider trading in other assets of equal or greater value than your ex-spouse’s portion of your retirement savings. Maybe you can transfer some of those funds from other accounts like a brokerage one. Remember, such accounts don’t enjoy the same tax treatment as your 401(k) or Roth IRA. And it can be easier to regain that loss if you’re still working. It’ll be harder to make it up when the paychecks stop rolling in. Or if you’re living in a mortgage-free home, you may want to hand over the keys to your ex-spouse in exchange for leaving your hefty retirement benefits intact.
When it comes to evaluating your assets and deciding which ones you can put on the negotiating table, a financial advisor would come in handy.
Know the Rules and Regulations of Your Retirement Plan
You and your ex-spouse can decide how to split up certain retirement plans such as a 401(k) in a divorce along with other financial assets if applicable. Of course, agreement rarely comes up during a divorce. That’s why it’s best to seek professional legal and financial help to make sure you come up with a clean divorce agreement that won’t leave you open to loopholes that can suck your hard-earned cash.
Divvying up retirement accounts in a divorce is different from splitting other types of assets, because specific tax laws and regulations governing these plans. The court can’t simply order you to split retirement accounts in half.
In any case, your summary plan description would give you some details as to where your assets would go in a divorce. If you receive retirement benefits from work, you can get it from your employer. Otherwise, you can contact your plan administrator.
But, we’ll cover the basics of how you can protect specific retirement plans below. We’ll also cover other steps you can take to shield your entire financial picture.
Close Out Your Joint Accounts
Early on in the divorce process, you will want to close any joint accounts you and your spouse share to prevent further spending or cash-grabbing. This includes savings and checking accounts, along with credit cards or any other debt accounts you may share. Unfortunately, not all divorces are amicable, and one of the best ways to protect your finances is to begin ensuring your spouse does not have access to them.
With that said, you should move forward as fast as you can with the divorce proceedings. If you may get a hefty share of your ex-spouse’s 401(k) or IRA, your ex may borrow against it. You should also check with a divorce attorney about all financial moves you are planning to make once the divorce proceedings are underway.
Divorce can be detrimental to your finances. Luckily, there are ways to repair your credit and protect your personal assets and retirement savings. Following the steps above and getting help from experienced professionals can help you move on from a divorce with your savings intact.
Tips for Retirement
- Divorce is an emotional roller coaster, but your finances don’t need to go off the rails. You can enlist the help of a financial advisor to make sure you are on track to reach your financial goals, even during this difficult time. Finding a qualified financial advisor doesn’t have to be hard. SmartAsset’s free tool matches you with up to three financial advisors who serve your area, and you can interview your advisor matches at no cost to decide which one is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.
- No matter what type of retirement plan you prefer, you should open one as soon as possible. To help you narrow down your choices, we published a study on the best Roth IRA accounts around. You can typically open these at banks and other financial institutions.
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