Navigating the financial aspects of divorce can be overwhelming, especially when it comes to dividing retirement assets. As we discussed in our latest podcast episode, approximately half of all marriages in the United States end in divorce, with an increasing trend of “gray divorces” – couples separating after age 50 and often after 25-30 years of marriage. This timing creates unique financial challenges since these couples typically have accumulated substantial retirement savings that must be divided appropriately.
Understanding what constitutes marital assets is the first crucial step in this process. Any assets earned or accumulated during the marriage – including retirement accounts, pensions, savings, investments, and business interests – are generally considered marital property subject to division. However, there are exceptions, particularly with inherited assets. If you inherited money or property and consistently maintained it separately from marital finances, those assets may remain yours exclusively. The waters become muddier when inherited assets have been commingled or regularly used for marital expenses over decades, potentially transforming them into divisible marital property. This gray area is precisely why specialized legal advice becomes necessary in long-term marriage dissolutions.
The division of retirement accounts requires meticulous attention to detail and specific legal procedures. For qualified plans like 401(k)s and pensions, a Qualified Domestic Relations Order (QDRO) is essential. This specialized court order directs the plan administrator how to divide the retirement assets between former spouses. Many attorneys aren’t intimately familiar with these documents, which can lead to costly mistakes. Fortunately, major recordkeepers like Fidelity, Empower, and Vanguard now offer portals with sample language that attorneys can use, potentially saving thousands in legal fees and preventing back-and-forth disputes over wording. These providers typically charge significantly lower processing fees when their standard language is used, making the division process smoother and less expensive.
Another critical consideration is how the assets within retirement accounts are allocated. Most QDROs specify equal division of all assets within an account, regardless of whether they’re Roth (after-tax) or traditional (pre-tax) contributions. If your divorce agreement specifies that one spouse should receive more Roth assets while the other receives more pre-tax assets, verify that your plan administrator can accommodate this arrangement. We’ve seen cases where despite clear stipulations in divorce decrees, recordkeepers simply divided all assets equally because their systems weren’t designed to handle asymmetric divisions. By the time such errors are discovered, correcting them becomes virtually impossible.
Individual Retirement Accounts (IRAs) follow completely different rules than employer-sponsored plans. They don’t require QDROs but instead are transferred “incident to divorce.” Using QDRO language for IRA divisions can create problems and delays. The proper procedure involves specifying the division in your divorce decree, having your ex-spouse open their own IRA, and then arranging a direct transfer between institutions. One nuanced but important detail: an ex-spouse cannot make new contributions to an IRA received through divorce during the year of the divorce. They would need a separate IRA for any new contributions until the following year. This requirement helps the IRS track and verify the legitimacy of the transfer through Form 5498 reporting.
Perhaps the most overlooked aspect of post-divorce financial hygiene is updating beneficiary designations. Failing to remove an ex-spouse from bank accounts, credit cards, life insurance policies, and retirement accounts can lead to unintended consequences if you pass away. While some states like Tennessee have provisions that automatically disregard ex-spouses as beneficiaries after divorce, these protections vary by state and account type. The safest approach is thoroughly updating all financial documents and designations after divorce. Similarly, estate planning documents like powers of attorney should be revised to remove ex-spouses from positions of financial authority in your life.
