Our San Bernardino Divorce Lawyers Answer Your Questions
During divorce, marital assets are divided. Commonly, assets are divided according to their classifications as separate or community property. However, when it comes to the division and disposition of employment-related benefits, there multiple laws and regulations at play: local community property laws, local family laws, and the federal and state laws that regulate employee benefit plans.
As a result, it is important to consult with an experienced divorce attorney in San Bernardino who has the knowledge to navigate the complex policies and procedures of employee benefits division during divorce.
The Law Office of Michael R. Young has demonstrated knowledge and skill in helping resolve QDRO distributions during marriage dissolution.
What Is a QDRO?
A QDRO (pronounced “quad-row”) is a state court order that meets certain requirements under the federal Employee Retirement Income Security Act of 1974 (“ERISA”). A QDRO is used to divide and assign one spouse’s interest in a qualified retirement plan (i.e., 401(k), 403(b), pensions, ESOPs) to the other spouse. QDROs are typically applied to satisfy alimony, child support, or marital property obligations.
A QDRO is required under federal law in order to distribute retirement benefits from the employee spouse. In order to be “qualified,” a court order must create and recognize the right of an alternative payee who is to receive the benefits and is not a plan participant. In other words, a court order meets the definition of a QDRO when it complies with ERISA requirements by instructing the benefits plan that the non-participating ex-spouse is entitled to all or a portion of the benefits under family law rules.
- Additionally, a QDRO must not require the benefits plan to:
- Provide any form or type of benefit not otherwise provided by the plan;
- Provide increased benefits; OR
- Pay benefits to an alternate payee that must be paid to another alternate payee under another order that has been determined to be a QDRO.
In other words, the QDRO does not have the ability to alter the conditions of the benefits to be received under the plan, or the plan’s structure. Nor may the QDRO assign the rights of the ex-spouse to another individual who has a pre-existing QDRO from that spouse. This issue is discussed further below.
What ERISA Plans May be Divided Pursuant to a QDRO?
QDROs apply to “qualified” benefit plans: those regulated under Federal ERISA laws.
Furthermore, ERISA has granted California the ability to apply its community property laws to companies and employees who operate within California’s jurisdictions, in order to divide and assign portions of benefits plans to a former spouse. The following are examples of ERISA plans that are subject to QDROs.
ERISA Defined Benefit Plans—Pensions
A defined contribution plan is commonly known as a pension. Pensions are private, tax-deferred retirement accounts created by a company, union, or individual, designed to provide steady monthly income to an employee for life upon retirement. In a divorce where one spouse has a defined benefit plan, a QDRO will be drafted specifically to address the characteristics of the pension.
Typically, the former spouse will not receive benefits as an alternate payee until he or she reaches their earliest retirement age or if he or she actually retires, or any time in between. The benefit is then distributed in monthly increments for the life of both the employee spouse and the former spouse.
ERISA-Defined Contribution Plans
A defined contribution plan is a savings account created by a company, union, or individual that is designed to provide supplemental income upon retirement of the employee.
- The most common examples of these are the following:
- Profit Sharing Plans
Upon divorce, these plans are distributed in a lump sum. These distributions may occur immediately, upon the retirement of the employee spouse, or at another time permitted by the plan.
Federal Government Retirement Plans
Person who are employed by the federal government are typically members of either the Civil Service Retirement System or the Federal Employee’s Retirement System.
These persons include U.S. Postal workers, members of the Federal Aviation Administration, civilian personnel on military bases, and many more. Benefits will be paid to a QDRO alternate payee upon the retirement of the federal employee’s retirement, continuing for life of the employee. In some cases, the alternate payee may be entitled to receive a Spouse Survivor Annuity, which is a monthly annuity that begins upon the death of the employee spouse, continuing for the life of the alternate payee.
United States Military Plans
- Uniformed members of the U.S. Armed Forces receive benefits under the Military Retirement System, including:
- Marine Corps
- Air Force
- Coast Guard
- National Guard
- Public Health Service
Monthly benefits are provided to an alternate payee upon retirement of the service member’s former spouse, and may be entitled to a Survivor Benefit Plan Annuity. The annuity begins upon the death of the former member spouse, continuing for the life of the surviving former spouse.
Who Qualifies as an “Alternate Payee?”
Under both ERISA and the Internal Revenue Code, an alternate payee is defined as a person to whom benefits are ordered to be paid under a QDRO:1
- Former spouse
- Other qualified dependent
The first three are self-explanatory and unambiguous. But who is a “qualified dependent?” It is not uncommon for two people to engage in a long-term, committed relationship without engaging in actual marriage or producing children. In 2009, the 9th Circuit of Appeals found that a woman who had been in a long-term, “quasi-marital relationship” met the definition of an alternate payee.
However, it is important to note that these qualified dependents may not be entitled to all benefits as alternate payees. For example, only a spouse or a former spouse can qualify for a surviving spouse annuity.2 Additionally, in 2013, the U.S. Supreme Court held that same-sex spouse is defined as a “spouse” for federal law purposes and therefore qualifies as an alternate payee.3
What Are the Basic Procedures for Dividing Benefits?
- In dividing benefits through a QDRO, the first step is to consult with a lawyer who will help the parties identify the plan(s) and administrator(s) for the specific benefits that need to be divided.
- Second, the attorney will prepare a draft QDRO document, which will typically be agreed upon by the parties (a “stipulated order”) and define the manner for dividing the benefits.
- Third, the attorney will submit the draft QDRO to the Plan Administrator, who will review the draft to ensure that the order is in compliance with ERISA laws and the terms of the plan and will be deemed “qualified.” Should the draft be deemed “unqualified,” the attorney will then work to modify and revise the draft to satisfy the Plan Administrator’s requests.
- Next, once the draft has been deemed “prequalified” by the Plan Administrator, the parties will sign the stipulated QDRO, and the attorney will file the QDRO with the court.
- After filing, the QDRO will be served on the Plan Administrator to process the division.
How Are Benefits Divided?
The most common question regarding QDROs is what formula is used to divide benefits?
Typically, benefits are divided using either (1) the “time rule,” or (2) by addition the contributions earned as a result of employment during marriage and investment earnings/losses. The latter method generally applies to profit-sharing plans, such as 401(k)s. The “time rule” is generally applied for defined benefit pension plans. Pension plans operate on a time basis; an employee earns benefits for each year that they work for to their employer. If a pension is earned completely during the time of the marriage, then the entire value of the pension is considered community property in California.
However, if only a portion is earned during the marriage, the time rule will be applied to determining the division of pension benefits. Following divorce, the employee-spouse may continue employment and continue to receive pension benefits. Any pension benefits earned before or after the marriage are the separate property of that spouse and are not divisible to the former non-employee spouse.
What Are the Advantages of QDROs?
QDROs are essential in order to divide an ERISA-regulated benefits plan. Without a QDRO, the non-employee spouse has no ability to obtain benefit payments directly from a plan. This is because a QDRO has the effect of ordering the plan to make direct payments to alternate payees. In doing so, the QDRO preserves the special (“qualified”) tax status of the payments.
- The following are the principal advantages to a QDRO:
- Allows for liquidity of funds that would not otherwise be available
- Reduces the risk of benefit loss for a plan participant who is in bad health
- Allows for an exemption from additional taxes on early distributions
- Preserves the benefits from an IRS tax lien
- Protects the benefits from loss due to a pre-retirement death
- Allows for increased flexibility during retirement and estate planning
Why Not Just Assign Benefits After They Are Distributed?
This is not recommended. A QDRO cannot assign rights after distribution. In other words, the ERISA plan has no control over what happens to distributions after they have been liquidated from the plan. Furthermore, once benefits are removed from the plan, they lose their ability to qualify for special tax status. If the employee-spouse has already received distributions, prior to dissolution, those distributions have become a part of the community property and are subject to those division laws.
What QDRO Provisions Are Prohibited?
As stated briefly above, there are certain actions and provisions that are prohibited under the laws governing QDROs. First, the QDRO is not allowed to provide the alternate payee with any benefits that are not already covered under the benefits plan. For example, if the employee spouse is not yet eligible to receive a particular benefit, the alternate payee is not eligible for the benefit either. This is the most common prohibited provision in QDROs. For example, in the case of pensions, if the employee spouse is not yet eligible for monthly distributions under the pension, the alternate payee is not eligible either.
Normally, under defined contribution plans (i.e., 401(k)s), the alternate payee is prohibited from receiving a lump sum cash distribution or rollover into an alternate account upon distribution. However, it is not uncommon for Plan Administrators to allow such distributions or rollovers because the Plan Administrator will typically amend the plan documents to allow such activity.
Plans are prohibited from providing increased benefits in excess of the value of the employee spouse’s interest in the plan. Again, these issues are generally common with defined benefit retirement plans.
For example, suppose Bob is 55 years old at the time of divorce. His wife, Samantha, is 45. Bob’s pension states that he will receive $1,000 per month upon his retirement at 65, and the QDRO states that Samantha will receive 50 percent of Bob’s pension. Due to the 10 year age difference between the two parties, Samantha will not reach retirement age for 20 years, while Bob will retire in 10 years. As a result, instead of receiving $500 per month, Samantha’s monthly amount will be lowered using actuarial adjustments because her projected benefit would otherwise be considerably greater than Bob.
A QDRO must not require the retirement plan to make benefits payments to an alternate payee when those benefits are already required to be paid to another alternate payee under a preexisting QDRO.
For example, John has a 401(k) plan and that 10 years ago, he divorced his first wife, Jill. During that divorce, a QDRO ordered that Jill was to receive a division of John’s 401(k) plan pursuant to a QDRO. Now, John is divorcing his second wife, Jane, and still has the 401(k) plan, but now also has an ESOP plan with his employer. The new QDRO can order than Jane receives distributions as an alternate payee, but cannot require that the 401(k) plan make distributions while Jill is still entitled to receive those distributions.
Finally, QDROs are not permitted to require a plan to make payments to an alternate payee in the form of a joint survivor annuity based on the lives of the alternate payee and subsequent spouse. The reasoning surrounding this rule is that the original purpose of the retirement plans are to provide benefits to the employee spouse, and survivor benefits to only spouses and former spouses.
The plans cannot take into account unrealized future, subsequent spouses.
Can a Court Require QDRO as a Condition of Divorce?
The short answer is: YES. The California Family Code grants the court authority to impose a variety of conditions prior to granting dissolution of marriage.4 This authority includes forcing the benefits plan to be included and requiring the entry of a temporary or provisional QDRO.
What Tax Considerations Affect QDROs?
Remember, all qualified plans subject to IRS section 401(a) are subject to QDROs; defined benefit and defined contribution plans, pension and profit sharing plans, 401(k) and employee stock ownership plans (ESOPs), and 403(b) plans for public schools and exempt organizations.
The Retirement Equity Act of 1984 (REA) provided solutions regarding many of the hurdles between federal retirement laws and state laws. One major issue that was resolved was the effect on the alternate payee’s taxation when receiving an employee spouse’s benefits following a QDRO.
REA provides that the alternate payee spouse who receives benefits from a plan shall be taxed in the same manner as the employee participant is taxed. However, we must take into account that minor children or other dependents may be deemed alternate payees under QDRO.
In those circumstances, any distributions are taxed only directly to the participant spouse. Under the QDRO rules, special tax treatments apply only to spouses or former spouses.
Are There Early Retirement Withdrawal Penalties?
Typically, when we think about retirement accounts—such as 401(k)s, 403(b)s, or pensions—there are penalties in addition to regular tax rates that are applied for early withdrawals. These early withdrawals are subject to an additional 10 percent taxation if made prior to the participant’s age of 59 ½.
Where a QDRO controls a distribution, the early withdrawal tax penalty is inapplicable to those distributions to an alternate payee, regardless of that alternate payee’s age.
It should be noted, as a matter of clarification, that if the alternate payee who receives these distributions subsequently rolls those funds into an individual retirement account (IRA, or equivalent benefits plan), any later withdrawal with then be subject to early withdrawal penalty taxations.
What Other Tax Implications Surround QDRO Distributions?
In addition to avoiding early withdrawal tax penalties, an alternate payee may avoid immediate taxation with proper structuring. This is commonly achieved by rolling all or part of those funds into an IRA or other ERISA qualified plan upon distribution from the employee spouse’s plan. Doing so will prevent current taxation on the distributed amount. If the alternate payee fails to elect this direct transfer of funds to a qualified plan, the plan must withhold 20% of the gross distribution for income tax purposes.
Technically, the alternate payee has 60 days to “roll over” the distribution in order to avoid taxation liabilities, but this still creates potential problems. When a rollover, or direct transfer to qualified plan, is made, the entire “gross” amount must be rolled over. This means that if the direct transfer is elected following transfer, the original will have withheld 20% from the gross amount, requiring the alternate payee to come up with the additional 20% to “gross up” the withheld amount. Otherwise, the alternate payee will be subject to immediate taxation of the amount not rolled over.
These are only a couple of the tax implications that surround QDRO distributions. Whether you are the employee spouse or alternate payee spouse or dependent, it is critical those QDRO distributions are handled properly and that all potential taxation issues are addressed. Retirement and other benefits plans are common in nearly all marriages. Regardless of the amount of funds currently present in those accounts, navigating the complexities of their division requires careful and proper handling.
An experienced San Bernardino divorce lawyer can help you resolve these important issues. The Law Office of Michael R. Young has the knowledge, skill, and experience to handle the preparation, execution, and tax implications of Qualified Domestic Relations Orders. Call (909) 315-4588 now!
1ERISA § 206(d)(3)(K); 29 USC § 1056(d)(3)(K); IRC § 414(p)(8);
see also Owens v. Automotive Machinists Pension Trust (9th Cir. 2009)
551 F. 3d 1138, 1147.
2See ERISA §205(f) (29 USC §1055(f)). See also Hamilton v Washington State Plumbing & Pipefitting Indus. Pension Plan (9th Cir 2006) 433 F3d 1091, 1099.
3U.S. v. Windsor (2013) 570 U.S. ___, 133 S. Ct. 2675.
4Cal. Fam. Code § 2337(d)(1)
- Thinking about filing for divorce
- Concerned about custody of your children
- Worried about the division of your property
What is a contested divorce
When spouses don’t agree on an issue, whether it involves child custody or spousal support, a divorce is considered contested. It is the most complicated type of divorce, as a couple will need to go through numerous steps to finalize their divorce. Since contested divorces often go to divorce court with a judge, having legal representation during the trial is crucial.
How is spousal support or alimony calculated
There are numerous factors considered when a judge is determining how much and how long alimony should be paid. Some of those factors include the earning capacity of each spouse, how long the marriage lasted, the standard of living during the marriage, each spouse’s health and age, marital debts and property, and the sacrifices each spouse made during the marriage (such as staying at home with the children so the other spouse could work).
Who pays child support and how is child support determined
The noncustodial parent will be responsible for child support if the court determines it is necessary or parents come to an agreement to be approved by the court. The factors used to determined child support include the income / earning capacity of each parent, the number of children shared, each parent’s expenses, child care expenses, and other related issues.
How is property divided
California is a community property state. That means each spouse is given 50% ownership of the property accumulated during the marriage. This can include homes, vehicles, art, checking accounts, retirement / pension funds, small businesses, and other valuables. Items, accounts, or valuables that were kept separate throughout the entire marriage may be considered separate property and are therefore not subject to property division laws.
How long does it take for a divorce to be final
This can depend on a number of factors, such as whether it is a contested or uncontested divorce. Even if a divorce is uncontested, there is a six-month waiting period in California for the judge to grant a divorce. Likewise, those seeking contested divorces must wait six months for a trial to be ordered. How quickly a divorce is finalized will also depend heavily on how easily spouses agree on matters such as child support, property division, alimony, child custody, and other important matters.
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Going through a divorce or family law dispute can be complicated, confusing, and emotional. Regardless of whether spouses or family members think they are on the same page, having an attorney who is looking out for the best interests of the client can be invaluable. When you hire an attorney, you can have peace of mind knowing your rights and interests will be protected throughout the process. It can also take a great burden off your shoulders during a volatile or emotionally challenging time.
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