How do retirement savings and investments get split in a divorce?
Have you heard the phrase “It’s complicated?” Well, when it comes to dividing assets in a divorce, it’s almost certainly complicated. The common idea of a clean 50/50 split fails to account for the finer details of a person’s financial situation. Plus, factors like the laws of the state of residence and the length of the marriage usually come into play. While tax consequences are a significant consideration, what can complicate things is how retirement savings and investments get split in a divorce.
Retirement Savings Accounts
Retirement accounts can be considered marital property which may be subject to division in the divorce settlement. Typically, only the portion of the accounts resulting from contributions made during the marriage and the earnings on those contributions would be divided. It is separate property anything that was in the retirement account pre-marriage. Moreover, state law also affects property division, as most states use the “equitable division” rule, meaning the property is divided based on what’s fair under the circumstances of each case. Just remember that “equitable” doesn’t necessarily mean “equal.” There aren’t many states that require a 50/50 property split in all cases.
Division of Assets
Sometimes the spouse who owns the retirement plan (the plan participant) will retain ownership of that asset. The other spouse (the alternate payee) will get other marital assets to make up for interest in the retirement funds. This is commonly seen to make up for an interest in a defined benefit pension plan, so spouses may completely cut ties from each other. Keep in mind, additional tax implications if you substitute different assets.
Employment Related Savings Accounts
If the account is considered an employment related qualified plan such as a 401(k), 403(b), or a defined benefit pension plan, an attorney must create a Qualified Domestic Relations Order (QDRO) to be approved by the court. This court order spells out how the plan administrator should divide the funds to comply with the divorce settlement. The document is necessary to make the transfers a non-taxable event. The divorce settlement will dictate how retirement accounts like a traditional IRA or Roth IRA should be split. Make sure that the proper form is used to transfer IRA assets to show that it is a “transfer of account incident to divorce” and therefore not a taxable event.
Therefore, you should make sure you have the right professionals on your team. They will ensure that asset divisions and transfers go smoothly and don’t run afoul of any IRS regulations. Your divorce attorney, financial advisor, and CDFA® can help guide you through the complicated details while keeping an eye on your whole financial plan and future.
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Missie Beach, CFP®, CDFA®
Senior Financial Advisor