By: Josh Slocum, McClellan Wealth Management
If you’re considering legal separation from your spouse, you may have questions about finances including your savings, property and even retirement accounts.
Retirement accounts are often targeted by spouses, especially if one has taken years off from working to raise children, for example.
How is a 401k distributed in a divorce? It depends.
Property Division 101: Community Property vs. Equitable Distribution
Depending on where you live, each state has different laws.
In the nine “community property” states, including Texas, Washington, and New Mexico among others, all assets and debts acquired during the marriage are considered community property and will be divided 50/50 between each party. This can include contributions to 401(k) accounts during the marriage.
The majority of states, including Alabama, follow “equitable distribution” laws, meaning the courts will divide property between the spouses in the way the judge presiding over the case feels is fair, but this may not always mean equality.
When it comes to dividing property, first, all property must be categorized as joint property or separate, then the judge moves forward with division of property and assets. For the property declared separate, the judge will assign one spouse the property and will not divide it.
Getting A Plan In Place
In planning for your divorce, you’ll want to gather and review the appropriate paperwork and information regarding your retirement accounts. Retirement accounts are typically one of the largest assets a person has, and in most cases, both themselves and their employer are making contributions.
Dividing The Accounts
If you and your spouse are still maintaining open lines of communication, mediation or other collaborative methods of divorce negotiation may save everyone time, money and frustration.
In mediation, you’ll have a little more freedom in creating the separation agreement. You and your spouse could even make trade-offs. For example, you could negotiate to keep the entirety of your 401(k) in exchange for another asset.
If lines of communication have become strained, hostile or dissolved completely, turning things over the courts may be necessary. Having a judge deciding the fate of the terms of separation agreement ultimately depends on where you live.
Other factors that may influence a judge’s decision include one spouse’s income vs. the other’s and each spouse’s contributions to the accounts.
A Decision Has Been Made. Now What?
Once a decision has been reached, typically the next step is for each spouse to draft a Qualified Domestic Relations Order (QDRO), directing the retirement plan administrator to divide the assets as outlined. Generally, a specific QDRO company is hired to draft the documentation with state-specific language and case-specific details.
QDROs are the most common method of dividing retirement assets.
Spouses can choose several different ways of taking possession of the funds:
#1 Immediate cash-out. This option may come along with certain penalties if taken before a certain age.
#2 Deference. You can choose to defer taking any payments until the account owner retires
#3 Transference. This option is the most common in where the spouses take their portions of the assets and roll them into a new 401(k) account
Your attorney or financial advisor can help you decide which option may be best for your post-divorce situation.
Contact McClellan Wealth Management for Financial Advice During Divorce
McClellan Wealth Management is here to help throughout all phases of the divorce process. If you have questions about securing your future, we are here to help. Contact us online today or call us at 205.208.9868.
This material is provided as a courtesy and for educational purposes only. Please consult your investment professional, legal or tax advisor for specific information pertaining to your situation. Advisory services offered through McClellan Wealth Management, a Member of Advisory Services Network, LLC.