by Willie Peacock
I serve in a niche that maybe shouldn’t exist. I am a QDRO attorney, a guy who drafts orders dividing retirement accounts as part of (or more commonly, after) a divorce. I exist because most divorce lawyers don’t understand – or don’t want to deal with – the retirement accounts.
If you’re going through a divorce, what is your most valuable financial asset? The house? The cars? Probably not. In most cases, you have far more to lose in terms of retirement accounts, yet most people and their attorneys treat these accounts as afterthoughts. Far too often, I get someone in my office with no remedy left – an ex has drained his account, died, or remarried and divorced again, leaving nothing left in the accounts for the potential client. Or almost as bad, by the time the person comes into my office, so much time has passed that we can’t find the retirement plan records and there’s no way to accurately calculate how much those plans are worth.
Most often, these people tell me that their attorney never explained what a QDRO was and that they knew nothing about the process. Divorce paperwork will often say something spartan and insufficient, along the lines of “retirement plans to be divided by QDRO.” This is the source of most QDRO mistakes.
This article describes the mistakes people make with Qualified Domestic Relations Orders (QDROs) and the retirement accounts to which these orders apply. If you’re going through a divorce, contemplating divorce, or have just finished the process, read carefully – it is my hope that you’ll avoid these mistakes and save yourself thousands – perhaps hundreds of thousands – of dollars in the process.
Failing to research all the retirement accounts.
The first step in researching the retirement accounts at issue in a divorce is to simply sit down and list every employer you and your ex-spouse had during the marriage, no matter how brief. Once you have this list, start with Google: look up the employer name or union name + “retirement benefits” and start outlining the types of plans that may have been available to your ex-spouse. If you can’t find the information, call the employer and ask to speak to human resources.
The time to do this is at the outset of the divorce. You can’t negotiate plan divisions or explore offsets (where you trade, say, the equity in the house for less of the 401(k)) if you don’t know what’s actually in the accounts.
True story: as I was typing this, I got an email from a potential client with unfathomable amount of QDRO issues. It sounds as if there are probably eight retirement plans in dispute, including pensions and 401(k)-type accounts. Particularly problematic was the part of the email that said “I just found out about three retirement plans after the divorce,” and “I don’t know what they are worth, or if he has cashed them out,” and“I have no way of getting this information unless I subpoena the plans or he turns over the statements voluntarily.”
All true. Which is why you have to ask these questions during the divorce process, not after, when you do not have a divorce lawyer to issue subpoenas and fight with the other side for records.
Not Freezing Accounts: Send a Notice of Adverse Interest or Joinder
Once you have a list of potential plans, you should send them all a “Notice of Adverse Interest” – essentially a letter informing them about the divorce and about both parties’ potential interest in the plan. Many plans will “freeze” the account for at least a few months – sometimes eighteen months or longer – while you work out the QDROs and division issues. This notice is governed by California Family Code section 755 (b), which allows a party to send a notice of adverse interest letter to the retirement plan indicating that that spouse has a community property interest in the plan, even if that spouse is not named on the asset, and therefore no funds should be released. This is the bare minimum best practice for most retirement plans.
Additionally, in California, you can (and should) file a joinder on most state and local government and teacher plans. This technically makes the retirement account a part of your divorce case, which not only “freezes” the asset but also allows the plan to feel comfortable communicating openly with both spouses about the assets and division.
A last option is to just do a QDRO. Most plans will put a hold on the assets once they have received a rough draft of a QDRO for review. (The review process is called prequalification, and it is where the plan reviews a rough draft of the order to make sure it contains all of the language that will make them happy. We do this so that we don’t end up having everyone – including a judge – sign something that simply will not work when it is returned to the plan.) If you are in a particular hurry, you can submit pretty much any rough draft QDRO to trigger a hold, and then later submit an amended rough draft once you have everything finalized.
Waiting until after the divorce to do the QDROs.
It is extremely common – almost the rule in California – for attorneys to ignore the QDROs during the divorce and to tell their clients they have to do the QDRO afterwards.
This needs to change. Would you wait, and try to “handle” the family residence until after the divorce is finalized? Bringing in a retirement division attorney early in the divorce process will ensure that you do not overlook any retirement accounts, you have an understanding of what the accounts are worth for purposes of negotiating settlements on other issues, and you can have the QDRO for each plan prepared and signed and attached to your final settlement papers. This ensures that no one will do anything malicious, like cash out an account, right after the lawyers have dropped off the case. It also means you are not left, with no legal advice, trying to track down a lawyer years after divorce to get the QDRO put in.
Two more problems with waiting: lost records and hurt feelings. The companies that manage retirement plans change with some regularity: banks that manage these plans close, are fired and replaced by employers, or they are acquired by a bigger financial institution. When this happens, the older records are often lost or destroyed, as there is no requirement for the new bank to hold on to the old bank’s records. No records mean there’s no good way to calculate separate or community property shares, or gains and losses on those shares.
And let’s not forget feelings. After the divorce is done, the hurt feelings typically persist. Custody and support issues arise. Oftentimes, the relationship getsworse than it was during the divorce. QDROs require collaboration, unless you want to spend thousands of dollars on competing experts, lawyers, and accountants. That collaboration can be tough if the relationship has soured further since the divorce.
Last critical point: during your divorce, your accounts are “frozen” by what are called ATROs (automatic temporary training orders). These are basically automatic orders from the court that nobody is allowed to do anything outside of the normal course of business with their financial accounts. You can pay your bills, but you can’t take out $50,000 and take a vacation with a new lover. The second your divorce judgment is entered, the ATROs disappear. While you can possibly freeze the account with joinders or a notice of adverse interest, those methods aren’t foolproof, and it is better to have the added protection of an active restraining order.
Waiting years (or decades) after the divorce to do the QDROs
I took a case a few weeks ago of a lady who was divorced when I was barely a year old. She waited more than 30 years to do her pension QDRO, and by now, it has already cost her. Because her ex-spouse has already retired, she will not be able to elect to have her share of the pension adjusted to her own lifespan. When her ex dies, she gets nothing. She will also have to fight to get any share of the checks he has already received.
I have had probably half a dozen people from all across the country call after an ex-spouse died from COVID-19. Instead of doing a simple QDRO, these folks now are going to end up spending many thousands of dollars fighting with retirement plans, in hopes that a court will issue a nunc pro tunc (backdated) court order to restore their retirement account rights.
And, of course, I have seen plenty of cases where an account was simply cashed out, or rolled over, or there are no records with the retirement plan because a new company took over. In all of these cases, it becomes very expensive to try to find the lost money and calculate how much is owed.
Using the employer-provided forms.
A lot of people finish their divorce case and either do not have the funds, or the desire, to deal with yet another lawyer. Instead, they contact the retirement plan and the plan offers them a model form for the QDRO.
The real problem with these forms is that they are written for the employer’s benefit and often leave some of your money on the table.
For example, one of the largest QDRO administrators has a sample form that only divides the “vested” portion of a retirement account. If you use their sample language, you are ignoring the unvested portions of the account which both parties, under California law, have a right to. That can mean many thousands of dollars waived with one word.
Another example is the death of a party: I saw one model form where in the event of the death of a party, the funds would revert to the plan. No matter how much you dislike your ex-spouse, wouldn’t it be a better choice for the money to go to your ex-spouse, or to a child, rather than back to a retirement plan? Things like these are written into the forms so that the plan gets a windfall and has an easier time staying funded, at the expense of the families of the retirees.
Using forms off an online template website.
It is really hard to build model forms that work for every plan. This is especially true for those plans that are run by states or local governments.
I know personally of at least half a dozen websites that offer QDRO forms for about $300. They all take the same approach: turn the QDRO into a one-size-fits-all form. The problem is, every single retirement plan has some nuance, especially those pesky local plans. In addition, these sites generally cater to all 50 states. But the law in each state can be drastically different with regards to a party’s right to gains and losses on their share of the account after the divorce, survivorship benefits on pensions, and even a party’s interest in future growth of a pension account after the divorce.
For low value accounts, where there is very little money at stake, these forms may serve an important purpose. But before you buy an online template, call around to a few QDRO lawyers and compare their rates against these template sites. You’ll probably find that it doesn’t cost that much more to have a lawyer prepare the documents and ensure that you aren’t leaving significant money on the table.
Hiring a non-lawyer “consultant” or an out-of-state lawyer.
Another plague on the QDRO industry is the non-lawyer consultant or the out-of-state lawyer that thinks he can practice wherever he wants.
It may seem self-serving for a lawyer to say this, but who you think is going to do a better job on a court order that divides hundreds of thousands of dollars in retirement accounts? A lawyer that works with these types of orders every day, or some consultant named Bob from Jacksonville, Florida? Or some random document preparer without a law degree? Drafting these orders requires an understanding of federal ERISA (retirement) law, state family law, and administrative procedures for courts and retirement plans. These are so complex that most divorce lawyers won’t touch them. And yet, people are willing to risk their retirement accounts on … saving a few hundred dollars by hiring a paralegal.
Let’s say, for argument’s sake, that they are just as skilled as the lawyer. Even if that is true, what happens if they screw up? With a lawyer, you can go to the bar, you can file a legal malpractice claim, and most lawyers, when they do make a mistake, will move heaven and earth to try to fix it. If you are working with a template website, a consultant from out-of-state, or a paralegal office, do you have any of those same remedies?
Not understanding the taxes, rates of return, and liquidity of the retirement plans
“I’ve contributed $50,000 to my pension, and you have $50,000 in your 401(k). I’ll keep mine, you keep yours.”
That’s a bad trade. Most pensions consist of employee contributions and the employer’s contributions, plus they guarantee a monthly payment for the rest of the employee’s life (a payment that even typically includes cost of living adjustments). A 401(k) is typically just cash, plus whatever stock market gains and losses accrue in the meantime. Its main benefit is that it is easier to cash out. The value of these two could be drastically different, especially if the person with the pension dies a week after retiring, or lives another 70 years.
Even comparing two 401(k) plans, one might be invested very wisely and aggressively, and could be getting 10% or 15% returns every year, while the other is invested very conservatively in bonds and only gets 2% or 3% back every year. After even a couple of years, the values will be very different.
There is also the issue of taxation. It is very common for parties to trade equity in the house for retirement assets, or a post-tax IRA for a pretax 401(k). You need to balance the tax issues very carefully. If an asset is pretax, like a 401(k), then the money on your balance sheet is not what you will have in hand at the end of the day. While a QDRO will exempt an ex-spouse from the 10% early withdrawal penalty, there will still be income taxes when that money is cashed out. On the other hand, equity in the house may not have any taxes at all, up to a certain limit on appreciation.
And of course, for people exiting a divorce and rebuilding their lives, liquidity of your assets is extremely important. Some accounts can be cashed out relatively quickly, and if they are done so as part of a QDRO, there won’t be an early withdrawal penalty. On the other hand, I regularly get calls from people want to cash out their pension accounts, only to find out that they can’t touch that money until retirement. (And even if they can, the plan will only offer them pennies on the dollar in a buyout.)
Failing to secure survivorship benefits
By definition, a pension lasts for the life of the employee. If the employee retires, and dies a day later, the pension dies with him. However, most plans have added survivor benefits.
The first type of survivor benefit is called a qualified pre-retirement survivor annuity (QPSA). It typically provides a 50% benefit to the beneficiary for that person’s life. So, if the employee dies one day after retirement, his beneficiary will get half of what the employee would have received, each month, until the beneficiary dies.
The second type of benefit is a post-retirement survivor benefit. Similarly, it is typically about half of the pension amount.
Depending on how your order is drafted, the non-employee may have a “shared interest” (a percentage of each retirement check) that ends at the employee’s death or a “separate interest” (a pension that is tied to the non-employee’s life span – negating the need for post-retirement survivor benefits). And depending on plan rules, even on a separate interest pension, you may need pre-retirement survivor benefits.
As you can see, survivor benefits are not easy to understand. Poorly drafted QDROs and divorce settlement agreements will omit these entirely, leaving the parties to fight about the issue when drafting the QDRO or leaving them unprotected when one spouse dies.
If there is a pension at stake in your divorce, get a firm grasp of the survivor benefit issues before you finalize your divorce agreement. Make sure that the survivor benefits are addressed clearly. Then, make sure those same benefits are put into a QDRO and preapproved by the retirement plan before you finalize your divorce settlement. Why? Little surprises come up, like an inability to assign survivor benefits, plans do not have survivor benefits available, or a new marriage ends with another QDRO entered before you get a chance to enter yours (and the new spouse’s QDRO assigns that person the entirety of the survivor benefits). Lock it up now – do not save it for later.
Failing to secure gains and losses on 401(k)-style accounts
Dividing a 401(k) account should be relatively straightforward: cash in an account, divided by two, right? One of the most complicated factors in dividing these accounts is that the dollar amount in the account varies every minute. If you ever watched a stock ticker, that is exactly what your plan is doing all day, every day.
Some divorce settlements will call for a flat dollar amount: “$50,000 from husband’s 401(k).” But, what happens between the date of the divorce settlement and the time you get around to doing that QDRO? The stock market has gone up or down, changing the value of the overall account. For pretty much the entire history of our economy, over long stretches of time, the market always goes up. If you do not include those gains, you may be setting yourself up for a battle.
Though there is a recent court decision in California that says that the gains and losses should be included on fixed dollar amounts, it is better to get that in writing in the divorce agreement so that there are no misunderstandings or excuses to fight about the order down the road. It is also important to note that you can opt out of gains and losses – whatever you write into your agreement controls. Stock markets do crash. If you, as the non-employee spouse, would rather be certain that you are going to get the exact dollar amount you asked for, put it in the divorce settlement that you will get the exact dollar amount with no gains or losses, or adjustments for market performance.
Not Calling a QDRO Attorney
The last thing most people want after working their way through a divorce is yet another lawyer. However, as you can see, there are a lot of ways to mess up a QDRO. When these are done poorly, the best case scenario is a few thousand dollars lost. When they are done really poorly, it can lead to years of litigation and tens of thousands of dollars lost or wasted on even more legal fees. If there are retirement accounts at stake in your divorce, you need to get a firm grasp of their value, your options for division, and alternatives to QDROs before you sign off on a divorce settlement. For more on QDROs, visit us at PeacockEsq.com and schedule a free consultation.