Who gets 401k in divorce?

Divorce can take an emotional toll on you, especially when you and your spouse have to agree on how to share your marital assets. If you have accumulated a large nest of 401(k) funds over the years, these funds can be at the center of a divorce settlement, unless you have a valid prenuptial agreement that excludes 401(k) assets from marital assets.

Any funds contributed to 401(k) during marriage are marital property, and are subject to division between spouses. The 401(k) assets may be split equally between both spouses, or the account owner may decide to retain the 401(k) assets while the spouse takes other marital assets of comparable value. If both spouses had 401(k)s, both spouses may agree to keep their 401(k) as separate assets and share other marital assets.

What is a Qualified Domestic Relations Order in a Divorce?

If you want to divide your 401(k) retirement savings with your ex-spouse, you must have a Qualified Domestic Relations Order (QDRO). A QDRO is an order by a judge that creates the right for the non-employee, who is your ex-spouse, to receive part of your 401(k) money.

Once the court determines how 401(k) assets will be shared, it issues an order on how the retirement assets will be divided. The spouses must then draft a QDRO instructing the 401(k) plan administrator to divide the asset; this order must be returned to the court for approval before it is mailed to the plan administrator.

The ex-spouse can choose to cash out their portion of retirement savings, defer taking distributions until the 401(k) owner retires, or rollover their share of retirement assets to a new 401(k). Depending on the option that the ex-spouse chooses, the plan administrator must honor the court order.

Common 401(k) Options During a Divorce

Here are the common options of how 401(k) assets are shared between spouses:

You keep 401(k) and spouse takes other 401(k) assets

If you have multiple assets that you acquired during marriage, you can agree to keep the 401(k) assets while the ex-spouse takes other marital assets of equal value. This option is less complicated since it leaves your retirement assets intact. For example, if you have $200,000 in your 401(k), your spouse can take other assets of comparable value such as real estate property.

You split the 401(k) assets

If you agree to split the 401(k) assets equally, you will need a QDRO to execute the order. You will retain your 401(k) account but with a reduced balance, and you can continue contributing to the account. On the other hand, the spouse can decide how their share of 401(k) money is invested, but they cannot make further contributions to the account. When you retire, your ex-spouse will be eligible to start taking distributions from their account.

Cash out the portion of 401(k) needed to satisfy the QDRO

If your spouse insists on taking a distribution of their share of 401(k), you will be required to liquidate the portion of 401(k) required to satisfy the QDRO. This share is paid out as a lump sum to the ex-spouse’s bank account. However, this option will have tax consequences, and you will need to agree with the ex-spouse on who will bear the tax burden.

Rollover over ex-spouse's share to IRA

If you are above age 59 ½, you can rollover the ex-spouse’s share from your 401(k) plan to an IRA managed by the spouse. You can rollover the money without incurring income tax or tax penalty. By transfer the share of 401(k) to an IRA, the ex-spouse gets greater control over their money, and they can invest in different types of investment options.

What is a Divorce Cash Out?

A divorce cash out is the money withdrawn from a 401(k) to fund the divorce. You can take out money from your ex-spouse's retirement account to cover living expenses, pay down payment for a new house, or pay an attorney handling the case. You are allowed to withdraw the money as part of the divorce settlement and use it to fund services related to the divorce case.

In most cases, taking an early withdrawal from a 401(k) attracts a 10% penalty tax. However, early withdrawals made as part of a divorce settlement may be excluded from this penalty if it follows specific rules relating to divorce proceedings, including using a Qualified Domestic Relations Order. You will still be required to pay income taxes on the distribution.

Is it legal to cash out 401(k) before a divorce?

Once the divorce proceedings start, you will not be allowed to cash out the 401(k) since it is considered part of marital property. If you go ahead and cash out from your 401(k) during divorce proceedings, any money you withdraw from your 401(k) will still be counted as part of the divorce settlement. Therefore, you will still be required to pay the share of 401(k) to your ex-spouse, even if you had withdrawn the money.