Divorce requires the division of marital property. The more success that spouses have enjoyed during a marriage, the more difficult it can become to properly address marital resources.
If either spouse made tax-deferred contributions to a employer-sponsored savings plan, such as a 401(k), they may need to address their retirement savings as part of the marital estate. Those who make early withdrawals from specialized retirement accounts are potentially vulnerable to penalties and tax consequences. A qualified domestic relations order (QDRO) could help reduce the financial consequences of divorce.
A QDRO eliminates early withdrawal penalties
A tax-deferred retirement savings account, like a 401(k), makes it possible for individuals to reduce their taxable income while they work. They make pre-tax contributions to the account. They pay income taxes on the funds as they use them during retirement.
If people make withdrawals from a tax-deferred account before reaching retirement age, they are at risk of tax consequences and possibly a 10% penalty. The use of a QDRO that reflects the terms of the final property division decree over divorce allows for the penalty-free division of the account between divorcing spouses.
The spouses can also avoid the tax consequences of an early withdrawal by leaving their share of the funds in their own accounts until they reach retirement age. Many people preparing for divorce try to preserve retirement savings to the best of their ability.
Drafting and properly utilizing a QDRO can go a long way toward preserving retirement savings during a divorce. Experienced legal as well as financial guidance can help with planning strategies to preserve resources to provide for a more comfortable post-divorce life.