Divorce can not only take a substantial emotional toll—it can also have a lasting impact on your finances. Separating your assets from your spouse's can be particularly tricky if your pension plan is at stake.
A pensionearned by one spouseis generally considered a joint asset, which means it's subject to division in divorce. If a marital split is in the works, here are four ways to protect your pension benefits as much as possible.
Key Takeaways
- Review your state's laws to determine the best way to protect your pension in a divorce.
- A qualified domestic relations order (QDRO) may be necessary to grant your ex-spouse pension benefits.
- The pension plan may specify the terms governing how the pension is divided.
- You may be able to propose alternatives rather than dividing your pension.
- Consider consulting a professional, such as a Certified Divorce Financial Analyst, to help with the division of assets.
1. Review the Laws of Your State
The first step of managing your pension while going through a divorce is knowing what the rules are in your state. Though a pension can be divvied up between spouses during divorce, that division isn't automatic.Your soon-to-be ex would have to make a specific request for a share of whatever you've accumulated before the divorce is finalized.
The spouse needs to file a document known as a qualified domestic relations order (QDRO) before any financial benefit from a pension or other retirement accounts, such as a 401(k), can be granted.
In terms of how much either spouse is entitled to, the general rule is todivide pension benefits earnedduring the course of the marriage right down the middle. Though that means your spouse would be able to claim half your pension, they are limited to what was earned during the course of the marriage.
If you were enrolled in adefined-benefit plan for 10 years prior to tying the knot, for example, any contributions you or your employer made on your behalf during that time wouldn't count toward the amount a spouse could seek in adivorce.
2. Check the Details of Your Pension Plan
When you're familiar with the rules governing the division of pensions in your state, the next step is to take a closer look at how the plan works. There are two key elements to focus on here. The first is to verify the method by which payments are distributed, and the second is whether the plan offers a survivor's benefit.
With a defined benefit pension plan, for example, you normally have a choice between receiving a lump-sum payment or a monthly annuity. If your planfeatures a single-life payout and you choose the annuity option, the payments stop at your death. If the plan has a joint-life payout, the payments continue for the life of the surviving spouse.
A QDRO must comply with the Employee Retirement Income Security Act (ERISA) in addition to the spousal laws within the state that has jurisdiction. ERISAprovides a regulatory framework for employer-sponsored retirement plans to provide protections for beneficiaries and participants.
It's important to understand how the plan works because it affects how you'll divide up the assets as part of the divorce. For example, if you have a single-life payout, your spouse is subject to whatever payment option you chose when you signed up.
If your plan offers survivor benefits, the easiest course may be to persuade your spouse to maintain that benefit, rather than seeking a lump-sum distribution. Your ex would have to include those benefits in their gross income but may be able toclaim a marital deduction for the estate tax.
3. Propose an Alternative
Consider offering your spouse other assets if you don't want to hand over half of your pension. You may offer ownership of a mortgage-free home that you own together. Or consider buying a life insurance policy equal to your pension benefits naming your ex as thebeneficiary. In either case, you offset what your ex would get from the pension with something else of equal value.
Also, your spouse may have a pension or other retirement assets to protect. If both of you have retirement accounts that are relatively similar in size, agreeing to walk away with what you already have can be a less time-consuming way to resolve the issue.
4. Consult a Professional
It's always a good idea to consult a professional about your options regardless of your situation—whether you're about to separate or are in the middle of divorce proceedings. There are individuals in the industry who specialize in the division of assets when spouses split up. These people are called certified divorce financial analysts (CDFAs).
CDFAs are trained professionals who provide divorcing spouses with the expertise they need to manage their assets. They work in conjunction with lawyers to make important decisions about the division of assets.
Certified Divorce Financial Analysts do not provide legal advice or assistance and should never be hired in place of an attorney or mediator.
When you consult a CDFA, they will gather all of your financial information, help you set a budget and key objectives, and determine any investment risk you may sustain. They will then review all of your assets, including retirement plans, and advise you about how the division of assets will affect your future and any tax implications you may face.
Can My Spouse Take Half My Pension If We Divorce?
Generally, your spouse is entitled to half of the earnings generated during the marriage. This may vary state by state. Some states are equitable distribution states, though this does not always mean a 50/50 split. Community property states stipulate a 50/50 split.
How Are Pensions Valued in Divorce?
This depends on several factors. The details of valuing a pension can get complex, so it's wise to seek out a professional.
Should I Cash Out My 401(k) Before My Divorce?
Generally, no. Cashing out your 401(k) before age 59½, will typically result in a 10% penalty as well as income taxes on the withdrawal. This will significantly reduce the value of your account. Some withdrawals, such as hardship withdrawals, are allowed sans penalty. However, a divorce is not eligible for a hardship withdrawal.
The Bottom Line
Getting divorced is stressful, and it pays to be smart about how you tackle the various financial issues involved. That's especially true when your retirement is on the line. Before signing off on a division of your pension, take time to understand what your rights are and what options you have for working toward a compromise that will satisfy both you and your future ex-spouse.
When in doubt, make sure you consult someone who can help guide you through the proceedings. Financial professionals, such as CDFAs, specialize in the division of assets during divorce proceedings.
