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Understanding the implications of dividing a 401(k) in divorce

On Behalf of | Jan 15, 2015 | Firm News

Texas residents who are seeking a divorce may be interested in the issues surrounding one type of property that can be divided when the marriage ends. Due to the potential tax issues surrounding the division of retirement accounts, care should be taken in ensuring that the process is followed correctly.

When a married couple divorces, there are many questions that must be resolved, either by agreement or through a judge’s decision. Some of the biggest questions have to do with asset division, particularly in high-asset divorce cases. When one or both of the ex-spouses have a retirement plan, like a 401(k), this asset may be subject to division.

If a former spouse or dependent is ordered by a court or by agreement to have access to that 401(k), the court will issue what is known as a Qualified Domestic Relations Order. This QDRO is then verified by the administrator of the 401(k). The administrator then follows a procedure for notifying the spouses and separately accounting for the new payee’s portion of the retirement account.

When a former spouse is given a portion of a person’s 401(k), they will generally not be penalized for that former spouse’s early withdrawal of funds. The ex-spouse, however, will be subject to tax penalties if they take their portion of the 401(k) as a lump sum. A better solution is usually to wait before withdrawing the funds.

One serious issue occurs when the QDRO is not valid. This could lead to a 10-percent penalty on those funds, imposed on the original owner of the account. Accordingly, an attorney may be helpful in ensuring the validity of the QDRO. The attorney may also be able to represent that person throughout the divorce process, including the important asset division phase.

Source: 401k.org, “401(k) and Divorce”, Accessed on Jan. 13, 2015