Fourth in a series: Dividing retirement plans and IRAs

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In the event of a divorce, the court has the authority to divide or allocate all the property and assets belonging to both parties. This includes pension plans, IRAs, and other retirement assets.

Pension plans, profit-sharing plans, 401(k) plans, 403(b) plans and other "qualified plans" are all subject to an "anti-alienation provision" under federal law that provides that the plans can not be assigned or subject to any type of attachment, garnishment or levy. In general, creditors, including divorcing spouses, cannot reach these plans. There is an exception for a Qualified Domestic Relations Order ("QDRO" pronounced "KWAD-row").

Under a QDRO, a spouse, former spouse, child or any other person who is a dependent may receive qualified plan assets belonging to the participant. A QDRO is a specific type of domestic relations order from a court that creates an alternate payee's right to receive all or part of the benefits payable under a participant's plan. It does not alter the amount of the benefits under the plan.

There are precise procedural rules governing how a QDRO must be created and administered. The QDRO must contain 1. the name and last known mailing address of the participant and each alternate payee; 2. the name of each plan to which the order applies; 3. the dollar amount or percentage (or the method of determining the amount or percentage) of the benefit to be paid to the alternate payee; and 4. the number of payments or time period to which the order applies.

A QDRO may not require a plan to provide an alternate payee with a form of benefit that is not otherwise available under the plan. A QDRO cannot require a plan to provide for increased benefits. It cannot require a plan to pay benefits to an alternate payee that are required to be paid to another alternate payee under another order previously determined to be a QDRO. (For example, a QDRO for the divorce from the second spouse can't change a QDRO for the first spouse.) Lastly, the QDRO cannot require a plan to pay benefits to an alternate payee in the form of a qualified joint and survivor annuity for the lives of the alternate payee and his or her subsequent spouse.

Since IRAs are not subject to the "anti-alienation provision" a QDRO is not necessary to divide an IRA. IRA assets may be divided in accordance with a court decree or a property settlement agreement approved by the court. The former spouse who receives part or all of the IRA is required to treat the assets as his or her own IRA. Be careful. If an individual gives IRA assets to a former spouse without a court decree or a property settlement agreement approved by the court and authorizing the change in ownership, the former spouse who withdrew part or all of the IRA will be required to include the transferred amount in income — that is, the IRA is treated as distributed to the owner.

An amount distributed to the former spouse from a Roth IRA is tax- and penalty-free, but an amount distributed in accordance with a separation agreement that was not approved by a court is not eligible to be rolled over or transferred to an IRA of the former spouse.

Divorcing spouses must remember to change all of their beneficiary designations. Under Pennsylvania law, a designation of the former spouse as a beneficiary before the divorce is not given effect.

The designation is interpreted as if the divorced spouse had predeceased and the life insurance annuity, retirement plan or other contractual arrangement is payable to the next named contingent beneficiary. This is not the law in many states, so it is important to make sure that, after the divorce, all beneficiary designations are changed appropriately.

Also, while Pennsylvania law provides for the designation of the divorced spouse to be ineffective, it protects an insurance company or other financial institution that pays the benefit to the ex-spouse.

That leaves the next contingent beneficiaries with a lawsuit against the divorced spouse — not a very good position to be in.

E-mail: Patti@spencerlawfirm.com