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What is a QDRO and 5 Distribution Strategies Thumbnail

What is a QDRO and 5 Distribution Strategies

Divorce Finances

Scenario: I am 52 years old, divorcing and our retirement assets are in  my spouse’s 401(K), now what?

Lack of money is a fear many have when divorcing over 50 years old, aka “Gray Divorce”. In Gray Divorces the division of marital property is often front and center, as both spouses are reluctant to and fearful of change in standard of living and anchor to what they believe they are “owed”  or is “theirs”. Employer sponsored retirement plans are often one of the larger marital assets, causes confusion and requires a court order for the division.  The court order is called a Qualified Domestic Relations Order (QDRO). 

Employer sponsored retirement accounts (those governed by ERISA) require a QDRO to meet the mandates of the plan and specify how retirement assets will be divided between the divorcing spouses. The QDRO outlines details such as the time frame for the distribution, percentage each spouse will receive, and how the distribution will be received.  A QDRO that is not written correctly may cause lengthy delays in distribution, unanticipated penalties and/or tax consequences. 

Here is a simplified overview of how the QDRO process generally works:

  1. Drafting the QDRO: The divorcing couple with their attorneys or QDRO professional draft a QDRO that outlines how the retirement assets will be divided. This document needs to be approved by both parties and reviewed by the court.

  2. Plan Administrator Approval: The QDRO is submitted to the administrator of the retirement plan for review. The plan administrator ensures that the QDRO meets the plan's requirements and complies with relevant laws.

  3. Court Approval: Once the plan administrator approves the QDRO, it is sent back to the court for final approval. The court ensures that the QDRO is fair and complies with the divorce settlement.

  4. Division of Assets: Once the court approves the QDRO, the retirement plan assets can be divided according to the terms outlined in the QDRO.

How can I receive distributions specified in the QDRO?

The following are common distribution strategies, however, please be sure to comply with Plan documents and regulations.

  1. Lump Sum Distribution: This option involves taking the entire designated portion of the retirement account as a single lump sum payment. While this provides immediate access to the funds, it could also result in tax implications.

  2. Direct Rollover to an IRA: The recipient spouse can choose to have their designated share of the retirement account transferred directly into an Individual Retirement Account (IRA). This allows the funds to continue growing tax-deferred, avoiding immediate taxes and penalties.

  3. Partial Direct Roll-Over to an IRA and Partial Cash Out: This strategy is If the receiving spouse would like to cash out a portion of the Plan assets and roll-over the remainder into an IRA. The assets specified to be distributed outside the IRA may result in tax implications – however, not a penalty.

  4. Direct Rollover to a Qualified Plan: If the recipient spouse is employed and has their own employer-sponsored retirement plan, they might be able to directly roll over their share of the QDRO distribution into their own qualified retirement plan.

  5. Delayed Distribution: In certain cases, the recipient might be able to delay the distribution until they reach the retirement age specified by the retirement plan.

Note:  If you are 59 ½ you are able to take the distribution without penalty at any time, however, there may be tax consequences.  

It is best to seek advice from professionals who are knowledgeable about your specific financial situation and federal and state regulations to ensure that the QDRO and division of marital assets are handled correctly and that all legal and tax implications are considered.  Not only can this process be complicated and overwhelming, but also emotional. If you are not working with a Certified Financial Divorce Analyst (CDFA) or a financial professional to assist you with the division of marital assets and a Divorce Financial Plan, please reach out to us for questions and a complimentary consultation.