Most people seem to think that divorce is just about dividing up property and debts and dealing with the parent-child issues. That very broadly describes the process, but it really only touches the surface. One of the issues everyone should seriously consider is retirement, and they should go deeper that just splitting everything equally. To get people thinking about approaches on retirement, here are three questions to examine.
1. Should all retirement assets be divided 50-50? I would suggest that there are a number of factors to consider when dividing assets.
- Big picture. It helps to look into the future to decide what is and will be important to you. Are there short-term needs, such as education and training, buying new housing, starting a new business, etc., that will need immediate funding? How is your health? Are there any special needs for you or any family members? Are there any long-term or later-in-life needs that you are expecting? Are you the beneficiary of a trust? Are you expecting a significant inheritance? Does your spouse have special needs? Is your spouse expected to be a beneficiary of a trust? Are you likely to be able to create more retirement assets, such as adding to a 401K account, after the divorce? Can your spouse create more retirement assets post divorce? You should develop the financial context for your life in great detail so you can act in your best interest.
- Tax aspects. Some assets will come tax-free and others will require payment of taxes when the payments are received. You should look at your projected cash flow and living expenses upon retirement. Taxes need to be accounted for in determining the net resources you will have available. While your tax rate should be lower after retirement, you may have trouble affording the taxes because you will probably have less income then. If, during the divorce, you have the option of choosing an asset with taxes owing vs. an asset that is non-taxable, and the values are considered the same, the you should take the no-tax item, unless there are other disadvantages with the asset, such as being very risky. That brings up another consideration.
- Risk toleration. You probably need a trained advisor to help you determine the extent of your risk toleration. Generally, the higher risk associated with an asset, the greater the possible return, and the safer the asset, the lower the return is. Financial planners often look at your age, you needs, the value and nature of your assets, and other factors, in helping you decide how risky you want to be. Many people have assets with various levels of risk. You should consider how much risk you want or need.
- Employment prospects. Another important factor is your job situation. If you are already employed, it may be fairly easy to project your income into the future. If you are unemployed and/or just rejoining the job market, your future may be less certain and much harder to predict. Even people who have had secure jobs for a long time may be less certain in the current financial crisis. If you are trying to decide on a career after being out of the work force for a long time, you may have trouble just figuring out what to do. Also, quite a few people going through a divorce also go through job changes. For various reasons, there's a lot of job uncertainty during times of family turmoil, and that makes it hard to plan.
2. How do you make decisions on retirement plans during a divorce? The best answer is to get a financial advisor. It may be expensive, but it will pay for itself in the long run. If you are in a litigated divorce, each side usually hires their own expert or experts. There might be more than one if the experts have to testify. In Collaborative cases, the two sides jointly hire a neutral financial planner who works for both parties. In either approach, your attorney should be able to help you find someone, and probably will want to decide who to bring in. While there is cost involved in using a financial advisor, you will probably save money in the long term by being able to make the best possible financial decisions for you.
3. How do you carry out the decision? There are several possible ways to do so.
- Some retirement plans will need a Qualified Domestic Relations Order (QDRO). A QDRO is a court order that divides an existing account in a plan into two separate accounts which are independent of each other. Each of you will manage your own plan and you will separately be responsible for any taxes owed on your share.
- The terms of the agreement will be specified in the Decree of Divorce or in a separate Agreement Incident to Divorce (AID). The decree is the regular final court order that normally spells out the terms of the divorce and has the details of how the assets are divided.
- Sometimes, we use an Agreement Incident to Divorce. That is a separate document that is approved by the parties and then the court, but which is usually not filed with the court papers. It is used most often to protect the privacy of the parties and to give a little extra flexibility to the division of property. You can ask your attorney about whether it is something you would want.
- Finally, some investment accounts can be divided by the companies by the parties signing forms once the companies get a signed copy of the divorce decree. You can check with your agents to find out what they require.
Rather than making a knee-jerk response and just dividing all retirement assets 50-50 each, it would probably benefit the parties if they bring in expert help to figure out the best mix of assets to fit in with the opportunities and needs of the parties. Even if your spouse doesn't choose to think about these issues, you and your attorney should think seriously about your retirement when you are going through a divorce.