Dividing Retirement Accounts
A Qualified Domestic Relations Order (QDRO) is a legal document that tells a retirement plan administrator how to divide retirement benefits between two people who were married. Lawyers pronounce QDROs “quad-rows.”
Retirement benefits accumulated during a marriage are considered marital assets. Unlike many marital assets, retirement benefits are governed by a combination of federal and state law. Employee Retirement Income Security Act (ERISA) is a federal law that sets rules for most private-sector retirement plans, like 401(k)s and pension plans. ERISA requires that QDROs be used to divide certain types of retirement plans (qualified plans).
A qualified plan is a retirement plan that meets certain requirements set by ERISA. The requirements include things like how much money can be contributed to the plan, who can participate, and how the money is invested. Examples of qualified plans include 401(k)s, 403(b)s, and pension plans. An unqualified plan is a retirement plan that does not meet all of the requirements of ERISA. These plans are often self-funded by individuals or small businesses.
The distinction between qualified and unqualified plans is important in a divorce because the way retirement benefits are divided can be different depending on the type of plan. To divide the benefits of a qualified plan, the couple must obtain a QDRO from the court. The QDRO is typically prepared by one of the lawyers after the divorce is finalized. Unlike qualified plans, there is no need for a QDRO to divide the benefits of an unqualified plan. The couple can simply agree on how to divide the benefits and notify the plan administrator. Non-qualified plans may have more complex investment structures than qualified plans, such as investments in real estate, private businesses, or other illiquid assets. These complex investments can be difficult to value, especially if there is no recent market data or comparable sales information. Unlike qualified plans, which are subject to strict regulations under ERISA, non-qualified plans may have less regulatory oversight. This can make it more difficult to obtain accurate information about the plan's assets, liabilities, and financial condition. Qualified plans require a QDRO and often have favorable tax implications, while unqualified plans do not require a QDRO and may carry unfavorable tax implications.
When a retirement account is being divided in a divorce, it is generally preferable to use a percentage rather than a fixed number or specific amount from the account. The primary reason is that retirement plan values fluctuate based on the performance of the investments in the plan. The amount of money contributed to the plan by the employer can also affect its value. Using a percentage allows for the retirement account to grow or shrink over time without requiring constant adjustments to the divorce asset balance sheet. If the account value increases, the percentage will automatically result in a larger share for each party. Conversely, if the account value decreases, the percentage will ensure a proportional division based on the current value. A percentage-based division helps maintain fairness and equity between the parties, especially in situations where the account value fluctuates significantly. It ensures that each person receives a share that reflects their proportional contribution to the account, regardless of the account's performance. By using a percentage, the parties can avoid potential future disputes that may arise if the account value changes significantly after the divorce is finalized. A percentage-based division ensures that the original agreement remains fair and equitable, even if the account's value fluctuates.
