How divorce affects retirement benefits

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Since retirement plan benefits are frequently among the most valuable marital assets, it’s important to understand how those benefits may be impacted by a divorce.

Identify all retirement assets
Like houses, cars, and bank accounts, retirement assets can be divided at the time of a divorce. State laws will define just which retirement benefits are marital assets subject to division.

“Retirement assets” is a broad term that covers several different account and play types. You and your spouse may have one or more IRAs, and they may be held by various financial institutions. One or both of you may also be entitled to retirement benefits from past and current employers.

Dividing marital assets
Once the retirement assets, along with all other marital assets, have been identified, you and your spouse can begin negotiating a property settlement agreement (or seek the assistance of the courts). In some cases, one spouse may agree to waive any rights to all or some of the other spouse’s retirement benefits in exchange for other marital assets. This strategy may be appropriate where the retirement assets consist solely of a 401(k)-like plan, where the value of the benefit is clear — generally the account balance — so trading for other marital assets is fairly straightforward.

On the other hand, trading defined benefit pension benefits for other marital assets should be done only if you’re certain you know the full value of those benefits. This may require the assistance of an actuary, who can determine the present value of your spouse’s future benefits. Remember that you may be giving up valuable retirement benefits payable for your lifetime, so make sure you’ll have other adequate resources available to you at retirement.

Qualified plans
If qualified retirement benefits must be divided, the procedure is to submit a qualified domestic relations order (QDRO), to the retirement plan administrator. A QDRO is a court judgment, decree, or order establishing the marital property rights of a spouse, former spouse, child, or dependent of a participant in a qualified retirement plan. There are a number of ways that plan benefits can be divided pursuant to a QDRO.

You’re responsible for any taxes on benefits awarded to you pursuant to a QDRO (although the 10% early distribution penalty tax will not apply.) You may be able to roll certain distributions into your IRA to defer taxes.

IRAs
The QDRO rules don’t apply to IRAs or nonqualified plans. The extent in which IRAs are marital property, subject to division, is a matter of state law. However, federal law does contain rules that govern the taxation of IRA benefits distributed pursuant to a divorce. The general rule is that an IRA owner-spouse must pay tax on any IRA distributions. However, if the IRA benefits are paid to a spouse or former spouse’s IRA pursuant to a divorce decree, then the IRA owner spouse will not be responsible for any taxes on the amount distributed. Instead, the recipient spouse must pay any taxes due when payments are received from the IRA, unless the IRA is rolled over to the recipient spouse pursuant to the divorce decree.

Prepared by Broadridge Investor Communication Solutions, Inc. Copyright 2016.

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