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What is a QDRO in a New York Divorce?
One of the most significant assets in a divorce is generally the pension, 401(k), 403(b), IRA, or other retirement plan. It may be subject to division during a New York divorce. A Qualified Domestic Relations Order (QDRO) is a crucial legal instrument used in these situations to allocate retirement benefits between the parties. I apologize at the outset, this is a complex area of law, and many good attorneys have made some really bad mistakes. So, I’m going to take it slow and try to break it down.
Understanding QDROs
A Qualified Domestic Relations Order (QDRO) is a specialized court order issued during a divorce that directs the division of retirement benefits between the involved parties. It is necessary to have one in place to ensure that an ex-spouse can legally receive a share of the retirement benefits without potential tax consequences. It provides specific instructions to the retirement plan administrator on how to divide the retirement benefits and allocate the share to the non-employee spouse (also known as the alternate payee).
Pensions versus 401(k)s
Before we go any further, we have to address the difference between a pension and a 401(k) or other form of deferred compensation.
A Pension is what is known as a “defined benefit plan.” This means that if you work for a minimum period of time some employers, mainly the government, agree that when you retire, it will pay you a monthly amount until you die. The main pensions are FERS, Military Retired Pay, New York State and Local Pension, NYPD Pension Fund, FDNY Pension Fund, NYCERS and similar programs.
Almost all private employers have switched to some form of deferred compensation system, like a 401(k) or 403(b). These are known as “defined contribution plans.” Here the employer contributes money to the retirement account.
Unlike the pension, the defined contribution plan is an actual account where money (or stock) is maintained. What this means is that upon divorce, the other spouse can remove their share in a lump sum from the account and deposit it into a retirement account of their choice. However, as explained in this article a special court order is needed to accomplish that.
Key Components
The Order must contain certain essential elements, including:
- The name and mailing address of the participant (the spouse who earned the retirement benefits) and the alternate payee (the spouse receiving a portion of the retirement benefits).
- The name of each retirement plan involved in the divorce.
- The dollar amount or percentage of the benefits to be distributed to the alternate payee.
- The method used to calculate the alternate payee’s share, such as the marital coverture fraction or a specific formula.
- The duration (length of time) or number of payments to be made to the alternate payee.
New York State Law and Pensions
New York State law governs the division of retirement assets and their implementation in divorce cases. The State Court of Appeals determined that retirement benefits acquired during a marriage, such as those under the New York State and Local Retirement System (NYSLRS), NYPD and FDNY Pensions (to include the Variable Supplemental Fund), for example, are marital property and subject to equitable distribution upon divorce (The Majauskas formula). Consequently, a New York court may decide that an ex-spouse is entitled to a portion of a member’s retirement benefits and issue a QDRO accordingly.
The way a pension, the defined benefit plan, is divided is a simple formula. The court divides the years of participation in the pension plan by the overlapping years of the marriage, (“the marital share”). For example, 10 years of marriage and 20 years in the plan, give us 50%. The spouse gets half of that or 25%. If there were 20 overlapping years of marriage and 20 years of in the plan, then the percentage is 100% and the spouse gets 50%. Again, the court could award less than 50% of this martial share, see this article for rules governing the distribution of assets.
Deferred Compensation
Private retirement plans, such as 401(k)s and IRAs, are subject to division in a New York divorce. A QDRO is necessary to divide these retirement benefits between the spouses.
The division of these are a bit more tricky and we have seen mistake made. The Majauska formula is often mistakenly used for these. Never, never use the Majauska formula for these time of retirement plans.
If the entire retirement account was earned during marriage, then the entire amount is subject to division. That often is a 50/50 split. Though not always. Here’s some articles where I discuss how assets are divided.
The tricky part is when the account was started before marriage. In this situation we need to know the value of the account on the day of the marriage. Then, we hire a specialist to trace that money, and that money alone to determine its present value.
Let me break it down with an example. Suppose that on the day of the marriage, the account has $100,000. Then 15 years later there is $500,000 in the account. A common mistake would be to deduct the $100,000 and give that to the owner spouse, and then divided the remaining $400,000 in half. The owner spouse would get $300,000 and the other spouse would get $200,000. Again, this is wrong.
The proper way is to hire that specialist I referred to, and they will trace that $100,000 for the next 15 years, as if no other money had been added to the account. Suppose, that $100,000 grew to $300,000. That would mean that only $200,000 in the account was marital money. In this case, the owner spouse would get that $300,000 and split the remaining $200,000, for a total of $400,000. The non-owner spouse would only receive $100,000.
There is one problem, we need all the account statements from the date of marriage to the filing of the divorce. While that may see simple, it is not. Many employers change plans over time. Your plan may start with Fidelity, go to JP Morgan, and end up at Schwab. Unfortunately, your historical records were not kept.
I have had cases where because the records were not kept, we simply cannot work out the proper calculation. In that case, the parties will just have to compromise and made the best guess.
Social Security Benefits
Social Security benefits are not subject to division in a New York divorce. Whether a former spouse is entitled to social security based upon the other spouse cannot be determined in a divorce. The Divorce judge has not power or authority to make any determination about social security benefits. However, social security benefits can be considered income when determining child support.
The Process of Obtaining the Order
Obtaining the order in a New York divorce involves several steps, which are outlined below:
- Step 1: Drafting
The first step is to draft the order, which must include all the necessary information and adhere to the specific requirements of the retirement plan. It is crucial to work with an attorney experienced as any errors or omissions may lead to delays or denial of the order. Most times, attorneys will hire or the court will order the parties to hire an outside expert to draft the order.
- Step 2: Pre-Approval by the Plan Administrator
Before submitting it to the court for approval, the courts require that we send the draft to the retirement plan administrator for pre-approval. Only after we get the approval letter from the plan can it be submitted to the court for signature.
- Step 3: Court Approval
Once the retirement plan administrator has pre-approved must be submitted to the court for final approval. Upon approval, the court will issue a signed it and then it must be forwarded to the plan administrator. Unfortunately, this stage can take a while. It can take many months for the court to sign the order. In the case of a pension, the defined benefit plan, the owner spouse must make out-of-pocket payments until the plan states making the payments. If the spouse does not make the payment then they will owe the money to the other spouse.
- Step 4: Implementation by the Plan Administrator
Upon receipt of the signed order, the retirement plan administrator will implement the order, dividing the retirement benefits.
Common Mistakes to Avoid
Mistakes can lead to delays or denial of the order. Below are some common mistakes to avoid:
- Failing to include all necessary information.
- Not adhering to the specific requirements of the retirement plan.
- Not obtaining pre-approval from the plan administrator before submitting it to the court.
- Not promptly forwarding the court-approved it to the plan administrator for implementation.
Potential Tax Implications of QDROs
The division of retirement benefits through a QDRO may have tax implications for both parties. Generally, the distribution of retirement assets to the alternate payee is treated as a taxable event, and the recipient may be responsible for paying any associated taxes. However, there are exceptions and strategies to minimize or defer tax liabilities, such as rolling over the funds into an IRA or other qualified retirement plan. It is essential to consult with a financial advisor or tax professional to understand the potential tax implications and develop a strategy that aligns with your financial goals.
To be clear, the owner spouse will not be liable to the tax man for monies taken out through a QDRO. The receiving spouse should roll the money over as soon as possible into another tax-deferred account otherwise they may have to pay taxes and penalties. When we represent the receiving spouse we always recommend consulting with an investment advisor before receiving the money.
The Impact of QDRO on Death Benefits and Survivor Benefits
A QDRO may also impact the distribution of death benefits and survivor benefits associated with a retirement plan. In some cases, a QDRO may require the member spouse to designate the alternate payee as the beneficiary of pre-retirement or post-retirement death benefits. It is crucial to ensure that the QDRO explicitly addresses these issues to avoid any confusion or disputes in the future.
This is more of an issue for the defined benefit plan. With the deferred compensation account, there is an account with money, so the death of the owner spouse will not affect the receiving spouse. However, with a defined benefit plan, payments end on the death of the owner. Most pensions have a survivor benefit option. It is important to get that option placed in the Divorce agreement and judgment of divorce. If the survivor benefit is not chosen, then upon the death of the owner the receiving spouse’s payments will end.
Conclusion
In a New York divorce, retirement benefits are a significant asset that may be subject to division between the spouses. A QDRO is a vital legal instrument that ensures the proper allocation of these benefits. Understanding the concept of a QDRO, its significance in a New York divorce, and the intricacies of pensions and retirement benefits is crucial for anyone involved in a divorce proceeding. Call Port and Sava at (516) 352-2999 for a free 15-minute telephone consultation.
