If you are going through a divorce, you will probably negotiate a property settlement agreement with your ex-spouse to govern the distribution of the marital assets. The property settlement will need to account for the division of retirement assets.
You must give special consideration to transfer retirement plans effectively and complete the assignment without tax consequences.
Plans with an administrator
When you enroll in a retirement plan, there are restrictions on withdrawing any funds invested. To transfer funds from one spouse to another from a plan, the parties will have to get a Qualified Domestic Relations Order (“QDRO”). The QDRO instructs the pension or retirement plan administrator on the proper division of the account. Retirement assets passed through a QDRO do not create a tax liability for the transferor or receiver.
Self-funded retirement
If you have a self-funded retirement plan, such as an Individual Retirement Account (“IRA”), you can transfer part or all of the account to your ex-spouse without tax consequences if you follow IRS requirements. The assignment of your IRA assets is a withdrawal by you as the owner. Usually, you would have to pay a 10% penalty on a withdrawal if you take it before you turn 59 1/2. You must make the transfer as part of your written divorce decree or property settlement agreement to avoid the penalty.
Retirement funds are often one of the most significant assets in a marital estate. You need to correctly execute any property settlement involving retirement assets to get the best tax treatment.