How much are the retirement assets worth in divorce?
Dividing retirement assets in a divorce is a complicated process. Many executives have defined benefit plans (pensions), defined contribution plans (usually 401k or profit-sharing), non-qualified deferred compensation and stock incentive plans. Unfortunately, it is common to overlook these assets or overlook the tax aspects of dividing these assets in divorce negotiations.
Qualified plan assets (pensions, 401ks and profit sharing plans) have tax deferral features that usually require tax to be paid when funds are distributed. In many cases, these assets make up most of the divisible property in a marriage. The first step in the process is to place a valuation on these assets that considers future cash flow, projected growth and tax implications of distributions. Understanding the net present value of these assets will aid your attorney in negotiating the settlement. It might be more advantageous in the short term for one spouse to take the marital home and the other to retain the pension or 401k but when both are retired, how will the expenses be paid by the spouse living in the home?
Valuations of pensions usually require an actuarial calculation done by an actuary or a qualified forensic accountant. This process is complicated but a reasonable valuation can be a major negotiating advantage. If the spouse receiving the pension is close to retirement and has worked for their employer for many years, the value of this asset could be far greater than the marital home.
Profit sharing and 401k plans are often valued at the market value of the investments held by the plans. This method does not take into account the impact of taxes when funds are withdrawn and the potential penalties for withdrawals prior to age 59 ½. One tactic to avoid early withdrawal penalties is for the spouse who does not own the plan to take a distribution from the plan at the time of divorce. This strategy avoids to 10% early withdrawal penalty but it does not avoid the taxes. Depending on the state where you reside, the taxes could easily reduce the value of this asset by 30% or more.
Roth IRAs and Roth 401k’s are very desirable assets because they do not have a future tax liability when funds are distributed. While $1 in a traditional 401k or IRA might only be worth 65 to 75 cents, funds in a Roth IRA are worth the full $1. Other assets that are often are overlooked are employer plans that offer deferred compensation or significant appreciation potential through ownership of stock options. If these assets were acquired during the course of the marriage, they are generally considered marital assets and subject to division between the spouses.
Most attorneys are not experts in the financial issues of dividing retirement assets. If you are faced with the types of issues, your attorney should hire a forensic accountant and a Certified Divorce Financial Analyst® (CDFA™) to help guide you through the process. If you do not know the value of your spouse’s assets, you will probably not get your fair share.
Cary B. Stamp is a CERTIFIED FINANCIAL PLANNER® and Certified Divorce Financial Analyst®. He specializes in helping independent women make informed decisions and take charge of their financial lives. Mr. Stamp is a twenty year veteran of the financial industry and practices in Palm Beach Gardens, FL.