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Retirement and Pension Plans in Divorce

When determining the splitting of assets in a divorce case, all assets of both parties must be accounted for. One such asset is the couple’s retirement and pension plans, which are often among the largest assets in the case. There are various types of plan, and each must be addressed in slightly different fashions. 

Qualified Vs. Nonqualified Plans

One way to categorize retirement plans is between those that are “qualified” and those that are not. A qualified plan is one that meets certain qualifications set by the Internal Revenue Code, and is thus deductible by the employer or employee. 

Employer-sponsored, tax-deferred retirement plans, in which contributions are not tax-deductible, are considered nonqualified plans, as are self-funding plans that fall outside of the Employee Retirement Income Security Act (ERISA). Nonqualified plans provided by employers are typically only available to chief executives. Contributions to these sorts of plans are typically not deductible on the part of the employer, in addition to being taxable to the employee; however, they do permit the employee to defer taxes until retirement.

The four main types of nonqualified plan are:

  • Executive bonus plans
  • Split-dollar life insurance plans
  • Group carve-out plans
  • Deferred compensation plans

Why is it so important to determine whether a plan is qualified or not? Well, this is the factor that determines whether or not a Qualified Domestic Relations Order (or QDRO) is in order, and that’s important to know before you proceed.

Defined Benefit Plans Vs. Defined Contribution Plans

Defined benefit plans are a type of employer-sponsored plan that defines how much a participant will receive after retirement. There are various factors that determine this calculation, generally relating to the employee’s tenure, compensation, and age of retirement. Some common types of defined benefit plan include:

  • Traditional privately sponsored pension plans
  • Cash balance plans
  • 412(e) plans (formerly known as 412(i) plans)
  • Taft-Hartley plans

A defined contribution plan is a little different. This term refers to plans qualified under ERISA and the Internal Revenue Code, and which provides contributions directly to an account for the participant. A few types of defined contribution plans are:

  • 401(k) plans
  • 403(b) plans (exclusively for public schools, public hospitals, 501(c)3, etc.)
  • Profit-sharing plans
  • Stock bonus plans
  • Employer-sponsored IRAs

You might note that this list covers many of the most common types of retirement and pension plans. Essentially, any plan that is not a defined contribution plan, is a defined benefit plan. 

Their Role in Divorce

If neither party in a divorcing couple is in retirement, then neither of them can access any part of a defined benefit plan. Thus, this part of the process of splitting assets is not the same as dividing up, say, stocks, or a home. But retirement plans are often worth a large sum, and as such are crucial to account for. 

There are many, many factors necessary to consider when attempting to qualify and quantify the value of a retirement plan, and decide where it should go. These include:

  • Date of marriage
  • Date of employment
  • Date of divorce
  • Date when benefit are to be received
  • Employee’s age
  • Terms of the plan
  • Value of the plan at date of marriage
  • Value of plan currently
  • Expected value of plan at date of retirement
  • Earnings history of the employee

All these dates and values, in addition to a host of other factors, must be thought about during the divorce process. Because there are so many mutable factors, the methods of calculation can vary. Each state has its own specific rules and regulations regarding how precisely the value of a retirement plan should be calculated. As a CPA, it’s of vital importance that you understand how these matters work in your state.