Posts Tagged ‘qualified retirement plan’

Divorce and Your Retirement Accounts

Posted on: July 8th, 2010 by

CPA Rockville - Financial PlanningDivorce is a major financial transaction; that being said, it can have major tax implications and some pitfalls you will want to try and avoid.  This is especially true when splitting up tax-favored retirement accounts between you and your soon-to-be ex-spouse.  You are going to have to plan ahead to make sure that the tax results work out favorably for you.  For example, if you have a qualified retirement plan at work or a self-employed business retirement program, you’ll probably have to divide up your retirement account(s) between you and your ex as part of the divorce property settlement.  However, if you do so carelessly, if can create a real tax fiasco for you.

To divide up qualified retirement plan accounts the tax savvy way, you need to establish domestic relations order, or QDRO.  The QDRO establishes your ex’s legal right to receive designated percentages of your retirement balance or designated benefit payments from your plan.  The good news is that the QDRO also ensures that your ex, and not you, will be responsible for the related income taxes when he or she receives payouts from the plan.  The QDRO arrangement also permits your ex-spouse to withdraw his or her share of the retirement plan money and roll it over tax-free into an IRA.  That way, your ex can take over the management of the money while postponing income taxes until withdrawals are taken from the rollover IRA.  If the money in your qualified retirement plan gets into your ex-spouse’s hands with out a QDRO being in place, however, you will be facing a potentially disastrous tax mess.  You will be treated as if you received a taxable payout from the plan and then voluntarily turned the money over to your ex.

You don’t need a QDRO, however, to divide up an IRA between you and your soon-to-be ex without dire tax consequences.  All you have to do is arrange for a tax-free rollover of money from your IRA into an IRA that you can set up in your ex’s name.  Then your ex can manage the rollover IRA and defer taxes until he or she begins taking money out of the account.  You still need to be careful though.  The tax-free rollover deal only applies when your divorce agreement requires the rollover.  If the money important that you never transfer IRA money to your ex in advance of a legal requirement in your divorce papers to do so or you could, again, get hit with all the taxes.

So the question remains, are you going to divide up your tax favored retirement account money in the smart way or the dumb way?  Unfortunately, many competent divorce attorneys know little or nothing about taxes, so you will need to find a legitimate tax professional who has handle lots of divorce-related tax issues.