What happens to retirement accounts in an uncontested divorce can vary greatly. It often depends on whether the retirement accounts are marital or nonmarital property, or a mixture of both. If a spouse started contributing to his or her 401(k) four years before the marriage and contributed for 10 years during the marriage, the portion accrued during the marriage usually is divisible in Oakbrook Terrace, IL.
The treatment of 401(k)s, pensions, IRAs, and other retirement accounts in a divorce can make a big difference for your financial future. Call Erlich Law today to understand your rights and avoid expensive mistakes.
How Retirement Accounts Are Divided in an Illinois Uncontested Divorce
Illinois divorces follow the concept of equitable distribution. It calls for the fair but not necessarily equal division of marital assets, which often include retirement accounts.
Equitable distribution applies whether the divorce is contested or uncontested. When a divorce is uncontested, the spouses agree on asset division, but the court still must approve the settlement to ensure it is fair.
Retirement Accounts: Marital vs. Nonmarital Property
A major step in the treatment of retirement accounts in an uncontested divorce is determining whether the accounts are marital property.
- As a general rule, any part of a 401(k), pension, or IRA a spouse earned during the marriage is subject to division. This is usually the case regardless of whose name is on the account. The law views retirement account contributions during the marriage as joint efforts, even if one spouse is working and the other is not. Both spouses may be contributing to the marriage through working, child-rearing, managing the household, and other efforts.
- Contributions a spouse made before the marriage typically are nonmarital property and may not need to be divided.
- A valid, enforceable prenuptial or postnuptial agreement can override default equitable distribution rules by clarifying that retirement accounts, or portions of them, are nonmarital, even with contributions made during the marriage. Such agreements can state that growth or interest earned in retirement accounts during the marriage stays with the original spouse.
It is common for spouses to have made contributions to a retirement account both before and during marriage. If both spouses work and contribute to their accounts, they may decide to keep their own accounts as part of the divorce settlement. An uncontested divorce lawyer can help you determine if this approach is fair in your situation. It might not be if one spouse earned more than the other, contributed in greater amounts, or experienced financial imbalances that allowed the other to save much more for retirement.
QDROs and Dividing Retirement Accounts
Spouses in Oakbrook Terrace, IL, often use a Qualified Domestic Relations Order (QDRO) to divide retirement accounts in an uncontested divorce. QDROs are legal orders directing retirement plan administrators to divide retirement accounts without penalties or taxes for early withdrawal.
With QDROs for 401(k)s and pensions, spouses can receive their shares with minimal delays and no financial losses. The most common option is for the receiving spouse to roll over his or her share of the 401(k) or pension into an IRA. The IRA can be one the spouse already owns or one newly opened for receiving the QDRO funds. As long as the funds transfer is directly into the IRA, the rollover should be tax-free and penalty-free.
The receiving spouse can opt for a lump-sum cash distribution from the QDRO without the usual 10% early withdrawal penalty, even if the spouse is younger than 59½. However, income taxes still apply to the distribution, and it reduces retirement savings. Therefore, the lump-sum option generally is not advisable unless needed for immediate reasons such as moving costs, a down payment on a new home, or a car after the divorce.
IRAs and Dividing Retirement Accounts
IRAs do not require QDROs because the federal Employee Retirement Income Security Act (ERISA) does not govern IRAs like it does employer-sponsored retirement plans such as 401(k)s and pensions.
However, divorce settlements often still need to address IRAs. A transfer incident to divorce allows for a tax-free transfer. This type of transfer uses the divorce judgment or marital settlement agreement. It should follow IRS rules and clearly state the division of the IRA.
To avoid taxes and penalties, the division should be a direct trustee-to-trustee transfer, with the funds going directly from one spouse’s IRA into a new or existing IRA in the other spouse’s name.
Understanding the Impact of an Uncontested Divorce on Your 401(k) and Pension
Retirement accounts in an uncontested divorce can represent decades of hard work and savings, and often are one of a person’s most valuable marital assets.
401(k) Plans
Accounts such as 401(k)s can fluctuate in value, especially during economic volatility. One important consideration when dividing 401(k)s is whether to use a set dollar amount or a percentage to calculate the share.
Suppose the spouses agree on Spouse A getting $50,000 from Spouse B’s 401(k). This could be straightforward, particularly if the account value is stable or the account recently was appraised. However, if the 401(k) drops in value before transfer, the receiving spouse may get more than the intended share. Conversely, if the account grows before the transfer, the recipient might miss out on gains that would have come with a percentage share.
A percentage share tends to be fairer over time since it adjusts automatically with the market. It can reduce disputes over timing or value changes, too. However, it may require more calculation, especially for figuring out the portion that is marital vs. nonmarital. Furthermore, timing the transfer can still matter due to market shifts.
Pensions
Pensions offer monthly retirement payments based on salary and years of service. They can be complex to divide in divorce and may require actuarial valuation and QDROs. The non-employee spouse might receive his or her portion when the employee spouse begins receiving benefits, or the spouses might agree to offset the value with other marital property.
Some pensions offer survivor benefits, which is something else to consider during negotiations. Improper planning could mean that the non-employee spouse loses his or her benefits if the other spouse dies before retirement.
Traditional and Roth IRAs
Like with 401(k)s, an important factor for traditional and Roth IRA division can be whether to use a fixed-dollar amount or a percentage. There are additional tax nuances to consider, too.
With a traditional IRA, which is funded pretax, withdrawals in retirement are taxed. Splitting these accounts during a divorce may involve considering future tax liabilities. For Roth IRAs, qualified withdrawals are tax-free. A Roth IRA of the same face value as a traditional IRA could offer more after-tax value.
Why You Need a Lawyer to Ensure Fair Division of Retirement Assets in Oakbrook Terrace, IL
Every Illinois employer with five or more employees must offer a retirement plan or facilitate Secure Choice. Legal guidance helps spouses divide them fairly.
- Financial security: Even an agreement that seems fair may lead to financial consequences if it is structured improperly or overlooks tax liabilities. An attorney can ensure your division protects your long-term financial stability and advise you on whether trading one asset for another, such as a house for a pension, makes financial sense.
- Taxes: Incorrect retirement account division can trigger tax penalties and early withdrawal fees. A lawyer is aware of the IRS rules to follow and the proper use of QDROs and rollovers.
- Valuation: The true value of retirement accounts is not always evident. Lawyers can help with accurate valuation and how retirement accounts may figure into the overall property settlement. Retirement accounts can play into how debt is divided in a divorce, for example, if one spouse keeps an entire 401(k) but takes on more joint credit card debt or the mortgage.
- QDROs: It is easy for laypeople to make mistakes if they try to draft QDROs themselves. Plan administrators have strict requirements, and many attorneys work with QDRO specialists to get documents accepted on the first try.
- Costs and fees: Clients often have questions such as, “How much does a divorce cost?” and “What happens to retirement accounts in an uncontested divorce?” Uncontested divorces generally cost much less than contested divorces, and uncontested divorce lawyers often work for flat fees. Hiring a lawyer for a set fee to help with asset division, paperwork, and QDROs can prevent losses.
Choosing the right family law attorney when you have retirement account concerns involves looking for experience with retirement accounts, since not all divorce lawyers have extensive knowledge of retirement division or QDROs. Ask questions about how the lawyer calculates the present and future value of retirement benefits and approaches debt division.
Erlich Law has years of experience dividing retirement accounts in uncontested divorces. Contact us today.
