Dividing Retirement Benefits
Deferred compensation comes in many forms. Retirement benefits is one of the great benefits of employer provided or employer supplement assistance to their employees.
Employers view this as a way to keep their employees tethered to the company. Employees may or may not recognize the enormous value of this benefit at all stages of life. The more knowledgeable you are about you and your spouse’s retirement benefits, the smoother your journey to dividing these assets will be during and post-divorce. Feinberg Sharma has long believed in the value of keeping an interest in these assets for our clients. We are well-versed in finding, valuing and dividing both qualified and non-qualified deferred compensation plans.
Types of Plans
There are two main types of retirement plans: the Defined Benefit Plans (DBP) and Defined Contribution Plans (DCP). When most people think of retirement plans, they are usually thinking of defined contribution plans which include Individual Retirement Accounts (IRAs), 401(k) and 403(b) accounts, and profit-sharing plans. A defined contribution plan is an employer-sponsored plan with an individual account balance for each participant. The benefit is based on contributions made by either or both the employee and the employer into an individual account. The investment gains or losses on those funds are directly attributed to this account. These plans are not taxed at the time one contributes to the account. They are taxed when the withdrawals are made. These plans are the easiest to value and the easiest to divide – especially IRA accounts which do not require a Qualified Domestic Relations Order to effect a division of the asset.
A defined benefit plan often is referred to as a “pension plan.” These types of plans have no “account balance” and require a mathematical equation to value. The benefit is calculated using a fixed formula to calculate monthly lifetime payments that typically factor in an average of the employee’s last five years of salary, the number of years of service with the employer and some employer determined benefit factor.
Non-Qualified Plans are awarded to very high-level corporate executives. Often, these plans are not “funded” but remain a liability on the corporate books, paid upon a variety of factors that need to occur over various time. Today, Feinberg Sharma, P.C. finds more companies willing to accept Domestic Relations Orders to secure the rights of the non-employee former spouse. However, no such requirement is mandated by law and this is dependent upon the good will of the executive team.
How Your Account is Valued
A defined contribution plan is easily valued as an exact cash balance exists. Defined contribution plans are divided as either a percentage or dollar amount to the other spouse. In either case, care must be taken to divide increases or losses that occur between the valuation date and the date of distribution.
A defined benefit plan is valued as a future stream of payments based on a benefit formula. Many defined benefit pension plans will not pay a lump-sum amount and will only pay a spouse on a monthly basis for a lifetime, starting at the retirement age of the participate or a lesser amount if the payment stream is allowed to begin before that time based on the alternate payee’s earlier requested start date. The Plan has the right to decide if it will allow a lump sum payment or not.
How Your Account is Divided
When dividing assets, you will consider whether to divide retirement accounts or whether to negotiate a trade-off of other types of assets such as a home. Be cautious when contemplating a trade-off. Defined contribution retirement accounts will be taxed as income when funds are withdrawn, so they have a “pre-taxed” value, whereas a home’s net value is paid from post-tax currency, which is not inclusive of possible capital gains on the home. In addition, if retirement benefits are withdrawn “early” meaning before retirement age, an additional 10% penalty may be imposed.
Few assets in marriage can be dually characterized. Retirement accounts can be both “marital” and “non-marital”. If retirement benefits were earned prior to the marriage, they will be considered non-marital – and thus, not divisible. This can complicate the division process. With a defined contribution plan, it often is possible to determine the account balance at the time of the marriage. Tracing the growth (or losses) of those funds is best left to the accountants. Anything contributed after the marriage is considered marital. When it is not possible to ascertain the balance at the time of the marriage, a formula can be used to determine the non-marital portion of an account; but this is not an ideal solution.
Defined benefit plans also can be both “marital” and “non-marital.” Only the marital portion is divided - being the percentage of time that the employee spouse participated in a plan during the marriage. This provides an ever-decreasing percentage of the future benefit to the former spouse. The up side of this is that it is likely that the final benefit awarded will continue to grow after divorce as the employee’s salary increases. When valuing and dividing a pension plan, it is important to include a share of benefits that exist outside of the obvious - such as cost of living adjustments and early retirement buyouts.
The instrument that allows division of Qualified plans (401k’s; profit sharing plans; 403b’s and Defined Benefit Plans) is a Domestic Relations Order which the Plan Administrator “Qualifies”. Then the company will divide the benefits, hopefully assuring the former spouse of the employee that the benefits will be paid out to that former spouse. The former spouse employee has no control over the division. You will hear your attorney use the word, “QDRO” to reference this document. IRA’s do not require a QDRO. A certified copy of your Judgment and Marital Settlement Agreement is what is required to divide an IRA. Each company has their own division requirements.
Often, Feinberg Sharma, P.C. will refer clients out to a pension division specialist to draft and implement the QDRO. This saves you money. We have found that our fees for a QDRO often far exceed what specialists charge. We want you to be assured that you have this important benefit secured as part of your divorce.
© 2020 Joy M. Feinberg for Feinberg Sharma, P.C.