Retirement savings represent years of careful money management. Professionals set aside a portion of their wages to ensure their comfort and financial stability in their golden years.
401(k)s and similar tax-deferred retirement savings accounts are common. They offer tax benefits, and some employers make matching contributions to augment the savings accumulated by employees. People preparing for divorce may hope to preserve as much of their retirement savings as possible. However, early withdrawals from a tax-deferred account can lead to both income tax consequences and a financial penalty.
Is it possible for people to protect retirement resources as they negotiate property division matters for a pending divorce?
Dividing an account isn’t mandatory
Typically, spouses can expect the courts to treat any retirement savings set aside during the marriage as marital property. While the account may technically be in the name of one spouse, the contributions are marital income.
Therefore, they are part of the pool of marital property. They influence the overall distribution of assets and the allocation of responsibility for marital debts. Spouses can potentially settle property division matters with an agreement that allows each spouse to keep their own 401(k).
Even if only one spouse has an account, they could retain it if their spouse receives other marital assets to offset the value of the account or the spouse with the 401(k) assumes responsibility for more marital debts. It is possible to integrate the value of the account into a settlement without splitting the account.
Paperwork can protect savings
If the spouses agree to split a tax-deferred retirement account or if the courts order the division of an account, it is still theoretically possible to avoid tax consequences and early withdrawal penalties. Early withdrawals usually result in a 10% penalty in addition to the income tax impact.
After the courts approve a final property division order, the spouses can have a lawyer draft a qualified domestic relations order (QDRO). When signed by all necessary parties and properly submitted to a financial professional, a QDRO can facilitate the penalty-free division of retirement savings. Each spouse can receive a portion of the account balance, and neither has to worry about immediate income tax consequences or a 10% penalty.
Preserving key resources, including retirement savings, can help people rebuild their lives after a divorce. People preparing for divorce may need legal guidance and insight as they set goals and start planning for the future, and that’s okay.
