There has been a trend toward a greater proportion of divorcees than widows and widowers among Boomers. According to Dr. Susan L. Brown with Bowling Green State University, the divorce rate for those older than 50 has doubled in the past 20 years. “Lifelong marriages are increasingly difficult to sustain in an era of individualism and lengthening life expectancies; older adults are more reluctant now to remain in empty shell marriages.”
While older adults are looking for at the alternative to remaining married, they are conscious of not having enough time left to rebuild lost retirement assets. They are also concerned about children’s college costs, age-related health costs and the inconvenience of starting over. People going through divorce are often unaware of the key bits of information relating to their personal financial situation. The assumptions that people make about these details lead to increased pain and frustration in the process of dividing the pie. Divorce at this age can be frightening.
Perhaps the least understood area is the maze of options for dividing the treasured retirement benefits. There are complex rules for dividing retirement accounts. Some benefits cannot be divided.
Retirement Account Conditions
It is important to know which of the three kinds of conditions applies to your retirement benefits. These conditions are about vesting and maturity.
Nonvested and nonmatured. This status exists when the employee has terminated employment and only has rights to the amount of his or her contributions to the plan and the interest earned. If the benefits in one of these accounts will vest soon, it might be a good idea to delay the divorce until after they are vested.
Vested and nonmatured. This status exists when the employee has terminated employment but, in addition to the contributions, the employee can receive some benefits at a certain age. Nonemployee spouses can be awarded certain benefits that may turn out to be different than anticipated.
Vested and matured. This status exists when the employee has terminated employment but is currently entitled to certain benefits in addition to prior contributions.
Next you have to know whether the account or benefit can be divided, or whether it must be traded with another asset. Whether an account can be divided is determined by the retirement plan’s administration and/or by state or federal rules. When a tax-deferred defined contribution retirement account, such as a 401(k), is not going to be divided, it can be offset with other tax-deferred retirement accounts or with non-retirement assets. Tax-deferred retirement accounts will have income taxes due on the future withdrawals. Most non-retirement accounts do not have income taxes levied on withdrawals. To create a level field, you would want to estimate future income taxes on the retirement account, deducting them from the value of the retirement account. The resulting effect will be for the retirement account value to be converted from a taxable value to a non-taxable value (or an after-tax value) while the non-retirement account is also shown at a non-taxable value (because it has no future taxes due). It has the effect of making the offset closer to a trade between two like-kind assets. (There are some exceptions where a non-retirement account will have some taxes due. Those are handled accordingly in the calculations.)
With a pension benefit, such as TRS or ERS, you can split the future monthly benefit checks, if allowed by law. If a trade or offset is preferred, a CPA or actuary can calculate the present value of the benefit checks. This calculates the amount of money you would have to invest now in order to generate future monthly benefit checks identical to the pension benefit. The calculation includes details and assumptions resulting in the present value calculation. Since the calculation includes current interest rates, these results are likely to change almost daily. (This is not a do-it-yourself project.) The present value amount can be traded for other assets. Again, it can be important to estimate future income taxes on the benefits if you are trading for a non-retirement account.
Qualified Domestic Relations Orders
When a retirement account is not going to be traded with another asset, a Qualified Domestic Relations Order (QDRO) could be needed to create the split. QDROs are court orders telling the retirement plan administrator to divide the account between the employee and the employee’s spouse (the alternate payee). QDROs are used for retirement plans such as 401(k), 403(b) and pensions. They are not required for IRAs.
If you know people who are going through a later-life divorce, be a good friend and steer them to a CPA with a special expertise in divorce issues. We are uniquely qualified to guide others through this minefield of retirement account choices, because we can offer specific financial advice that differs from the legal advice provided by divorce attorneys.