Ask a hundred people on the streets what a qualified domestic relations order (or QDRO) is and probably all one hundred will stare at you blankly or ask you if you are insane. Ask a hundred lawyers or judges and you might get a few who are familiar with the concept, but they’ll tell you that you have to go elsewhere for something so obscure.
A QDRO is a court order that divides retirement accounts. Not all retirement accounts will require a QDRO — IRA accounts, for instance, do not typically need a special court order to divide — but most do, or will require a similar type of court order called a DRO, COAP, RBCO, or some other acronym. No matter which acronym is used, these are all the same thing: court orders to divide retirement accounts. To keep it simple, we will call all of them QDROs.
When do you need a QDRO? Most commonly, they are used as part of your divorce to divide retirement accounts as marital property. Much like you would split a checking account, or have to buy out the other party from the house or car, each party is considered to have an interest in the retirement accounts in a divorce, and the account must be split. Because of the numerous laws protecting retirement accounts from creditors and predators, these special court orders are necessary to split the account. They are also needed to allow the parties to receive their fair share of retirement funds without incurring early withdrawal fees or taxes. And they can be used to ensure that the non-account holder receives the same benefits as the account holder, such as death benefits or investment returns.
It is important to understand when and under what circumstances a QDRO would be used in order to ensure that the appropriate benefits are received by the parties involved.
When retirement assets are divided as part of a divorce
When it comes to divorce proceedings, the division of property is one of the most important topics to consider. After all, would you ignore the value of your house? Or of your cars? Ironically, people fight for hours in court over trivial items like silverware, while completely ignoring retirement accounts that are worth six figures or more. Both divorcing parties and their lawyers would be better served to try to secure the larger assets, such as the house or retirement plans, rather than enabling parties to burn legal fees and time over small personal property items. And yet, somehow, at least weekly we hear from someone who claims that their divorce lawyer never even mentioned retirement assets as part of the divorce and now they are trying to address it on their own years later.
The QDRO is most often used when it comes to dividing a portion of retirement savings or other retirement-related benefits as part of the divorce. This is because, in most cases, the law dictates that retirement funds cannot be divided without a QDRO. A QDRO is typically used to divide a portion of retirement savings, such as pensions and 401Ks, in a way that is fair and equitable to both parties in the divorce. This could include transferring the funds between the two spouses or creating separate accounts for each spouse.
When one spouse is ordered to pay alimony or child support
It is very common for a party in a divorce to fall behind on alimony or child support payments. Some people let it get so bad that they end up facing criminal charges and jail time because they are behind on child support. Despite the enormity of this problem, very few people think to look to retirement assets as a way to settle this debt. Child support QDROs and spousal support QDROs are a quick way to settle the issue — a single court order to clear hundreds of thousands of dollars of past-due support payments.
In most cases, child support QDROs are drafted by your local child support agency, rather than by private attorneys or parties themselves. And parties who use these orders to catch up on past-due support should be aware of the differences in taxation that may apply — alimony is not taxed to the supported spouse, for example, while a transfer of funds via QDRO will incur taxes, in most cases. On the other hand, in a child support QDRO, if the child is a minor and named as the recipient of the funds, the taxes will usually fall on the employee-supporting spouse, not on the child.
When dividing pension plans
Conceptually, it can be hard to understand how the pension is divided when the employee-spouse is still working. After all, if they cannot access the money, how can the ex-spouse? And how does the retirement plan know how much to pay the ex-spouse when they don’t know the value of the pension yet — pensions don’t become payable until the person retires.
In a pension QDRO, the order itself will contain a formula for how to calculate each party’s share of the retirement account. However, those calculations are typically not done until the employee-spouse is at least eligible to retire, if not actually retired. Essentially, the court is giving instructions to the plan today, which locks in the rights of the non-employee spouse, but the order is calculated and really takes effect at retirement age.
The most common formula is called the time rule or “coverture” formula. With this formula, each party is usually given 50% of the pension’s service time that is earned during the marriage. That service time is calculated as (months working while married divided by the months working total in the job), and this is multiplied by the final monthly pension amount.
Some pension QDROs will call for a percentage of each pension check or a fixed dollar amount from each pension check, rather than this time-based formula.
The pension QDRO should also account for survivorship rights, which are typically included in most orders other than extremely short-term marriages. With these “survivor rights,” the non-working spouse will keep getting his or her pension even if the working spouse dies.
When one spouse has a 401(k) plan
A Qualified Domestic Relations Order (QDRO) is often used when one spouse has a 401k plan and the other spouse is entitled to some of the assets in the plan. The court order must specify which benefits, rights, and/or assets the non-participant spouse is entitled to in the 401(k) plan. The QDRO then directs the plan administrator to pay the non-participant spouse their portions of the assets. Most commonly, these orders will provide either a percentage of the account, or a fixed dollar amount, or they will instruct the plan to make complex calculations to set aside premarital or postmarital shares of the account and split the marital share.
In conclusion, a QDRO is a valuable tool for spouses seeking to divide pensions and retirement accounts in a divorce. It can ensure that the parties involved in the divorce receive the correct amount of assets from the retirement account due to them, even if the account holder has moved, changed employers, passed away, or experienced other changes in their life.
Even though QDRO orders are hard to understand, they are a very useful way to protect retirement assets and pay back child support. Parties who are going through a divorce should explore the QDRO issues as early as possible in the divorce so that they can be settled alongside the other property issues, rather than risk waiting and having someone close an account, pass away, or simple animosity between the parties make this a much more difficult task years down the road.