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How Your Retirement Accounts Will Be Divided in a Divorce

  • Nov 26, 2021
  • The Harr Law Firm

Woman tearing $100 bill in halfDivision of assets in a divorce can get complicated very quickly. While certain assets—like cash savings—are simple to divide, many other asset types can often be difficult to distribute equitably. Retirement accounts are an example of a financial asset that can be complicated during the division process, as many of these accounts are in one spouse’s name, and liquidating them for equal division has tax implications. So how are retirement accounts usually divided in a divorce? Keep reading to learn more.

Equitable Division Is Still the Goal

Despite the complexity, the ultimate goal in dividing retirement assets is to divide them equitably. However, the value of each retirement account (401k, IRA, pensions, etc.) are often just a snapshot of their long-term worth. Fluctuating markets can quickly change their worth, and while some accounts are taxed when you withdraw from them, others are taxed prior to contribution, making distributions tax-free. Therefore, it’s important to consider the final value of each account as best as you can, taking eventual taxes into consideration.

Once the true value of each account is determined, division can begin. In some cases, you may opt to have one spouse keep a retirement account in exchange for another asset of roughly equal value. This is often the simplest option (especially if the account remains with the primary account holder), as it does not require any funds to be moved. However, there are other options available.

The Importance of a QDRO

When dealing with retirement account division, most types of accounts will require a qualified domestic relations order, or QDRO; this includes pensions and 401k accounts. This documents serves as the foundation for how the account’s funds will be divided, and can help you avoid high penalties for taxes and early withdrawal fees.

What many people don’t realize is that transferring funds from one retirement account to another is typically viewed as a withdrawal. So, if you decide to split your 401k down the middle, keeping half in the existing account and moving half to a new retirement account for your spouse, the half that is transferred will be taxed and fined for early withdrawal; it doesn’t matter if the funds are going to another 401k or into a regular savings account.

If you have any retirement accounts that you need to divide during your divorce, it’s incredibly important that you obtain a QDRO. This benefits both parties by ensuring that you don’t incur unnecessary costs during your divorce.

How IRAs Are Divided

Both Roth and traditional IRAs are considered joint property if the account was opened after you were married; if you opened the account before getting married, only contributions made during your marriage are considered marital funds. IRAs received as an inheritance can remain separate from marital property, as long as it was never combined with marital assets.

It’s important to consider the different tax implications of IRAs when determining their value for asset division. Roth IRA contributions are post-tax contributions, which means you won’t be taxed when you withdraw from them in retirement; traditional IRAs, on the other hand, are pre-tax retirement accounts, and you will be taxed when you take disbursements. This would mean that, if you have a Roth IRA and traditional IRA with the same amount of funds in them, the Roth IRA would ultimately be worth more, as the funds won’t be taxed when you use them.

You do not need a QDRO to divide either type of IRA. A divorce decree is usually sufficient for moving these funds around.

How 401k Plans Are Divided

401k plans are typically set up through an employer. They are one of the most common types of retirement accounts and, like IRAs, are considered a joint asset. So, in a divorce, the employee’s spouse has legal claim to half of the funds in the 401k account. Conditions and rules for plans can vary, so it’s a good idea to familiarize yourself with the details of your (or your spouse’s) 401k. For example, some plans can be divided by percentage of earnings or by shares. Additionally, while some plans allow for distribution when your divorce is finalized, others won’t be dispersed until the employee retires.

In most cases a 401k can be divided between two spouses, fully or partially liquidated to pay off a spouse, or rolled into an IRA. There are pros and cons to each option, and we invite you to reach out to one of our attorneys for help in determining which is best for you.

Give us a call today to schedule a consultation and learn more about how your retirement accounts will likely be divided in a divorce.