QRDO editValuing and dividing retirement accounts is more complex than most divorcing couples expect. Below are common questions we receive regarding retirement accounts and divorce.

1. Can a retirement account be divided without triggering taxes?

A tax-free division is possible, but each plan or account has different requirements. While the division of marital property generally is governed by state domestic relations law, any assignments of qualified retirement interests (for example, a 401(k) plan) must also comply with Federal law, namely the Employee Retirement Income Security Act of 1974 (ERISA) and the Internal Revenue Code of 1986 (the Code).

A qualified retirement plan under ERISA will require a Qualified Domestic Relations Order (QDRO or “Quadro”) to divide the investments in the account. If prepared properly, the QDRO outlines every detail of the split so the plan administrator can complete the transaction accurately.

Other retirement plans, such as many traditional IRAs or Roth IRAs, may not require a QDRO. Many of these plans require a copy of the divorce decree and custodian specific forms to divide the account.

2. Is a retirement plan more or less valuable when compared to other assets?

Retirement assets are only one part of a family’s total financial picture. In divorce, unnecessary expenses and taxes can be avoided. Moreover, liquidity is key to starting a financial life over again. A Certified Divorce Financial Analyst® or CDFA® can be a enormous asset in the process of seeking the best after tax outcome in divorce matters.

Pension plans typically rate the lowest on the list of assets to obtain because those funds are not liquid today (unless you are at retirement age). Further, each company offering a pension will have rules surrounding availability of the pension funds to the ex-spouse. It’s wise to know the rules of each pension plan before you sign any binding documents.

Traditional or Rollover IRA’s typically rank lowest on the scale of available, liquid assets because withdrawals are usually taxed at the owner’s highest marginal tax rate and incur a 10 percent penalty until age 59.5 (although there are exceptions).

ERISA regulated plans (such as 401k’s) are one step above the Traditional IRA regarding assets available for liquidity as you can redeem cash from your ex-spouses 401k plan without paying the 10% penalty, but you still must pay taxes. There is also a federally mandated 20% withholding on all cash distributions. For example, if you want $80,000 in cash from your ex-spouses 401k, you’ll need to withdrawal $100,000 as 20% ($20,000 in this example) will automatically be forwarded to the IRS. Lastly, 401k’s follow QDRO rules and it takes time for the QDROs to finalize. Expect the QDRO process from beginning to “cash in hand” to last at least 3 months, if not longer.

ROTH IRA’s are the most advantageous retirement asset for liquidity needs during or after divorce. The principal put into a ROTH IRA can be withdrawal, separately from the growth or earnings, tax and penalty free. You’ve already paid tax on the principal in a ROTH IRA, you are not taxed on it again nor are you penalized on this portion of the ROTH IRA. The earnings on the ROTH IRA will likely be subject to taxation and the 10% early withdrawal penalty (before age 59.5). ROTH IRA’s have other quirky rules regarding a 5 years timeline. Check with a CDFA on the specific rules surrounding your situation.

Non-retirement assets are generally better to obtain than retirement assets in a divorce. Brokerage accounts will typically have some amount of principal which is already taxed, and the earnings may be taxed at a lower capital gain rate.

The home sale is proceeds nearly always rank high on the list of desirable assets. A large share of gain from the sale of a primary residence (after closing costs are paid) is not taxed and, unlike most retirement plans, these proceeds are available to divorcing clients before age 59.5 without penalty.

Cash savings and checking accounts are, obviously, the most liquid.

divorce and your 401k

3. Is a retirement account separate property?

I hear so many people who own retirement accounts declare something along the lines of, “I worked. I pulled in the money. The 401k is mine! I earned it.” We agree, you have earned it! However, in the State of Texas if you earned it during the marriage, it is a marital asset. Typically, any funds brought into the marriage whether those assets went into a bank account, a hard asset or a retirement account are a marital asset subject to division in a divorce.

In contrast, retirement assets earned prior to the marriage are typically considered separate assets in Texas and not subject to division in the divorce. In addition, the growth on those separate assets during the marriage is considered separate property. However, any income (defined as dividends and interest, even if reinvested) attributable to the separate assets are considered marital. Sound confusing? We agree. It is and separate versus marital can become a very complex, very quickly.

For an accurate appraisal of what portion of a retirement account is separate versus what portion is marital, a forensic engagement needs to be performed. If the parties choose to keep things simple, a CDFA professional can assist attorneys by using the coverture fraction. The coverture fraction can be used to calculate the community share and is defined as the ratio of the married years of earning the benefit and the employed spouse’s total earning period. This way of performing the separate versus marital calculation is not as exact as a forensic engagement, but it gives the parties a good idea of how each tranche of assets should be characterized.

4. Can you avoid the IRS penalty for early withdrawal in divorce?

When the receiving spouse is awarded a share of a qualified plan like a 401(k), the share is most often moved to an alternate payee account inside the plan. Under IRS rule 72(t)(2)(C), the alternate payee of a qualified plan can withdraw pursuant to divorce without early withdrawal penalties (10 percent), but ordinary income taxes will still need to be paid. For a spouse with little or no income in the first year of divorce, this can be a source of liquidity to support his or her lifestyle.

The plan administrator will often withhold 20 percent because the alternate payee will be required to pay marginal taxes on any withdrawal. The more the spouse withdraws, the higher taxes owed.

The alternate payee can often use a two-step withdrawal process to avoid penalties. First, withdraw the cash needed and then either (1) leave the remaining proceeds in the alternate payee account or (2) roll over the account to a new IRA. At the end of the year, the recipient spouse should receive a 1099 from the plan administrator for the withdrawal which indicates the 72(t)(2)(C) exemption.


tax law changes

5. Should you “tax affect” retirement accounts when dividing assets in divorce?

Many attorneys will “tax affect” retirement plans (discounting the account by the recipient’s highest marginal tax rate). Left unchecked, the spouse receiving more of the retirement accounts may benefit (possibly unfairly) in negotiations from this practice.

In order to properly “tax affect” each plan or account based on economics, the parties would need to know when and how much will be withdrawn, future tax rates for each party, and the rate needed to discount the tax expense back to today’s dollars—even when the recipient is very close to retirement.

By preparing financial projections, a CDFA professional can assess the amount and timing of the recipient’s anticipated withdrawals from retirement accounts. This is an excellent way to handle retirement accounts and divorce. By discounting the future tax expense, the analyst can assess whether and how much to “tax affect” or discount the value of retirement assets.


Retirement accounts and divorce are exceptionally complicated. Properly tax affecting and characterizing your estate is critical in divorce negotiations. Having the right people on your team is one of the best ways to ensure you are receiving the settlement that’s best for you.