Divorce and Defined Contribution Retirement Plans

By Jean M. Mahserjian, Esq.

There are two general types of pension or retirement funds that are involved in divorces. Those are: defined contribution or defined benefit plans. This article addresses defined contribution plans and the division of those retirement plans in divorce.

A plan that your employer and/or you put your contributions into and which remains a defined fund is a defined contribution plan. Those defined contribution retirement plans are divided in a divorce. They are the following: IRA, Simple IRA, 401k, SEP Account, Profit Sharing, and so forth. In these retirement plans the participant might be the person adding monies to the fund or an employer can be adding monies to the retirement fund. In both instances, there is an "amount" in the retirement fund that is determinable and which can be withdrawn at retirement. With a defined contribution plan, there is no guarantee of a specific payout at the time of retirement.

In divorce, dividing a defined contribution retirement plan is somewhat easy. The plan gets divided by whatever percentage is agreed upon or ordered in the divorce. Thus, if the plan will be divided equally, the non participating spouse will receive 50%. That 50% will be rolled over into a Rollover IRA set up by that non participating spouse after the divorce is finalized. One of the attorneys will have to draft an order called a Qualified Domestic Relations Order - or as they are commonly called, a QDRO. That order is usually submitted to the court at the time of or shortly after the divorce judgment is signed. As a result of a QDRO being signed, the non participating spouse's percentage in this defined contribution retirement plan can be paid over to the rollover IRA without any tax or penalty becoming due.

When parties are getting divorced, two issues arise with regard to these defined contribution retirement plans. The first is what will happen to employer contributions that have not been made yet as of the date of divorce judgment or divorce agreement. For example, the employer might make all contributions on December 31st in each year to the retirement plan. If the divorce is going to be finalized in October, it would not be unreasonable to assume that some of that contribution has been "earned" because the employee has been at work with that employer all year. So, you must address this issue, either in the court room with the Judge or in the divorce or separation agreement drafted by your attorney.

The second issue that will arise in the context of the divorce with regard to the division of a defined contribution retirement plan is how to address appreciation and depreciation. For example, if there is $20,000 in an IRA and it will be divided equally, it is not proper to simply prepare a QDRO that provides for an equal division or a QDRO that provides for a $10,000 rollover. In both of those instances, there will be a problem with the division because the QDRO and the actual division will always occur later in time than the actual valuation. The participating spouse might put additional funds in the account, and/or the funds will either appreciate or depreciate by the date of the actual rollover.

To properly address this second issue, the QDRO should identify the percentage division of the defined contribution retirement plan but also specify the actual amount of the non participating spouse's share and the date on which the percentage division was effective. Thus, in the above example, the QDRO would state that the non participating spouse was receiving 50% of the retirement plan as of a specified date, which amount equals $10,000. In addition, the QDRO should also state that the non participating spouse will receive any appreciation or depreciation on that person's share of the retirement plan when the rollover does finally occur. This protects both parties in the divorce. If the agreement on the amount of the rollover is finalized, but for some reason the QDRO does not get drafted or submitted for weeks, or months or even longer after the divorce, both spouses receive all of the interest earned, or depreciation realized on their share of that retirement account in the intervening days, weeks, or months.