Why Do I need a QDRO in a Divorce?

Protecting retirement assets from unnecessary loss during a divorce may require the use of a Qualified Domestic Relations Order.

Regardless of someone's financial status, getting a divorce in Texas can have serious financial implications for spouses during and for many years after a divorce is over. Among the many marital assets that may be split between divorcing spouses today are retirement accounts. Despite what some people may think, simply having the divorce decree specify a retirement fund division may not be enough.

Understanding the QDRO

Two things can make dividing a retirement account in a divorce tricky. One is the fact that such accounts are owned by only one person (the employee) and therefore distributions from the retirement account may only be given to that person. The other is that distributions may be subject to early withdrawal penalties and taxes.

A Qualified Domestic Relations Order (QDRO), can establish as an alternate payee non-employee spouse. This allows the spouse designated as the alternate payee to receive funds from the other spouse's retirement account. It can also help to prevent early withdrawal fees from being assessed.

In short, a QDRO will instruct the plan administrator of the retirement plan on how to pay the non-employee spouse's (alternate payee's) share of the retirement.

When the QDRO is necessary

Any transfer of retirement interests must comply with Federal law, specifically the Employee Retirement Income Security Act of 1974 (ERISA) and the Internal Revenue Code of 1986.

A QDRO is not necessary for every type of retirement account. Only those designated as Employee Retirement Income Security Act qualified will require the use of a QDRO.

For a Qualified Domestic Relations Order to be valid, the plan administrator for the retirement account must approve the QDRO. If the spouse who receives funds from the retirement account per the QDRO simply takes a cash payout, that person may still owe income tax on the amount. In order to avoid such taxation, distributed funds should be reinvested or rolled over into another qualifying account. An alternate payee may be able to roll over tax-free all the distribution from a retirement plan that she received under a QDRO.

If dividing individual retirement accounts or stock ownership plans, for example, a QDRO will not be required. For other accounts, a transfer incident to divorce may be the way to initiate distributions without taxation. Most often companies have preferred forms to divide or transfer funds or stock.

Not just for account division

It is also possible to use a QDRO when retirement funds are needed in order to satisfy spousal or child support awards. Funds distributed to children may still be taxed to the account owner while funds distributed to former spouses may be taxed to the recipient. Early withdrawal fees will not be applied in these cases.

There are many intricate details involved to splitting retirement accounts or to using these funds to make payments pursuant to a divorce decree. Working with an attorney is recommended in order to ensure that the proper steps are taken.