Timothy C. Voit, Financial Analyst
In divorce, pensions as marital assets can be undeniably the most controversial issue, second only to child custody or maintenance. With pensions typically being the largest asset of the marital estate, the importance of marital settlement language as it relates to pensions cannot be overemphasized. For instance, we have found that in the majority of cases, a Qualified Domestic Relations Order (QDRO) is drafted after the divorce has taken place and generally without regard to the specifics of what is to be divided. In other words, we have all too often observed in the Marital Settlement Agreement (MSA) one statement devoted to this asset: that is, the pension is to be divided 50-50.
Before exploring this issue further, a few special terms must be defined. A QDRO is a court order dividing retirement benefits of a pension plan participant and awarding a portion to a non-participant spouse or dependent. QDRO's are limited to private non-governmental plans since governmental plans are exempt from QDRO provisions. Although some governmental plans may accept the title Qualified Domestic Relations Orders, or QDRO, the same rights and provisions cannot be secured for the Alternate Payee in a government court order. An Alternate Payee, in QDRO terminology, is typically the ex-spouse of the pension plan participant. In addition, there are basically two types of pensions. A pension which is defined by the account balance, or Defined Contribution Plan, such as 401(k) savings plans, profit sharing plans, or ESOP's. This excludes governmental plans which sometimes have account balances associated with them, but where the value is derived mainly from the monthly retirement benefit. The second type, and the one most often misunderstood, is a pension which has no account balance but rather pays a specific monthly retirement benefit at a certain retirement age, based on years of service and salary, or otherwise referred to as a Defined Benefit Plan. Dividing a monthly benefit as opposed to an account balance would require two distinctly different QDRO's and settlement language.
Defined contribution plans are seemingly the easier plans to deal with in terms of offsetting the value against other marital assets or dividing the account balance by way of a QDRO. However, issues related to these types of plans still need to be addressed in the settlement agreement. Although it may sound simple, awarding the alternate paying earnings, interest, dividends, etc. on their awarded portion until a distribution is made is often overlooked and cause for future amendments. Should the settlement agreement fail to address this issue, and subsequently the QDRO is drafted without awarding gains, interest, or earnings, it is possible that an alternate payee client would not receive any growth in their awarded share. This especially could cause a problem if the plan does not allow for a distribution to the non-participant spouse until sometime in the future. It also cannot be assumed that a distribution can be made to an alternate payee immediately. Many times the plan will specify a certain age, such as age 50 or 55, as the earliest age at which a distribution can be made.
In another example, a profit sharing plan will have an account balance which may or may not be divided as of a specific date, usually only on the plan's valuation dates. Therefore, the settlement agreement should contain language suggesting that the account balance(s) should be divided as of the date of divorce or, if not allowed by the plan, the closest valuation date of the plan. In keeping with the same example, a profit sharing plan will usually receive employer "company contributions" a few months after the year in question is over, since the contributions quite possibly are based on the profits or earnings of the company for the prior year. If a divorce takes place at any point during a particular year and a QDRO is subsequently drafted to divide the account balance as of the date of divorce, and language is not included to address the contribution that will be made after the year is over, the non-participant spouse will not receive any portion of the contribution. This, since the parties, or the attorneys, only agreed to divide the account as of the date of divorce. For instance, the parties may have been divorced on June 30th of 1997 where one spouse is a participant in a profit sharing plan. The unsuspecting attorney would have simply stated in the settlement agreement that the account balance of the profit sharing plan is to be divided as of the date of divorce, June 30th, not knowing that a contribution for the year is yet to come and the alternate payee may be entitled to 50% of the portion accrued up to the date of divorce. If not addressed in the settlement agreement, the participant spouse can rightfully say that the non-participant spouse is not entitled to any additional contributions. Neglecting to address the issue of the once a year company contribution has been observed many times and can easily amount to tens of thousands of dollars lost that otherwise would have been payable to your alternate payee client.
The problem most often observed with defined benefit plans is that the attorney representing the alternate payee did not address issues relating to the death of the participant/employee and whether or not the non-participant alternate payee spouse should be deemed a survivor. Even worse, an attorney who, because the divorce is over, is in no hurry to draft a QDRO and the participant dies unexpectedly. As mentioned, QDRO's are generally drafted after the divorce has taken place, which is not recommended but often times unavoidable. If survivor benefits are not addressed in the MSA, the time may come when the participant spouse is to sign off on the QDRO and they rightfully contend that they never agreed to make the non-participant spouse the beneficiary or the survivor should they, the participant, die before or after retirement. For instance, language addressing survivor benefits may state that should the plan not recognize an independent interest or separate interest for the non-participant, the non-participant spouse shall be treated as the surviving spouse of the participant (petitioner or respondent) pursuant to Section 401(a)(11) and 417(c) of the Internal Revenue Code to the extent of the award up to the date of divorce. In addition, if a plan were to pay a regular, special, or temporary early retirement supplement, or subsidy, that too may be included in the settlement language. For instance, if the court awards any and all benefits associated with a participant's pension benefits, you may want to include language indicating that the non-participant alternate payee is awarded 50% of the total of any such early retirement supplement or subsidy based upon a formula with the numerator being the number of years of service credits as of the date of divorce and the denominator being the number of years of service at the date the participant applies for early retirement benefits. Additional language may include whether cost-of-living-adjustments are to be applied to the non-participant's share as well, or better yet, any or all enhancements associated with the accrued benefit. Also, the method in which the benefit is to be divided, such as fixing the benefit as of the date of divorce by a dollar amount or a percentage, or pro-rating the actual retirement benefit by using the above mentioned fraction. The suggested language contained in this paragraph is not suitable for defined contribution plans, military plans, federal plans, or any other governmental/non-ERISA type plan. A point applicable to non-governmental defined benefit plans and defined contribution plans, is what should happen to the non-participant's awarded share should he or she die before receiving their awarded portion subject to the terms and conditions of the plan.
With regard to Military or Federal Government retirement plans, not including the Federal Thrift Savings Plan, the amount of benefits awarded to the non-participant spouse is quite limited. Both types of plans will not allow the non-participant to receive their portion until the participant spouse does. Other problems have occurred when the non-participant spouse was not named as the beneficiary or surviving spouse when the subsequent court order dividing the retirement benefit indicated otherwise. Therefore, it is advisable to name the non-participant spouse as the survivor in the settlement agreement, as well as in the order dividing the retirement benefits, if this is the court's intent, with regard to both the federal government retirement plans and the military. The Military, for example, will only allow one surviving spouse to be named as a survivor unlike many traditional private pension plans which allow more than one spouse to be deemed a survivor to proportionate shares. Also, it may be advisable to order the participant, within the marital settlement agreement, to retain their former spouse as a survivor since governmental and military plans are somewhat lax on the rules permitting the participants to change their beneficiaries. To reinforce the subsequent Military Order dividing the retirement benefit, the settlement agreement should clearly state whether or not the non-participant spouse should be awarded any benefits received by the participant spouse in lieu of his retirement benefit such as a lump-sum distribution or any type of separation or disability pay.
Regarding governmental plans, it should be noted that many of the municipal plans cannot be divided, therefore a careful check or telephone call to the plan is advisable before stipulating to an award which cannot be accomplished.
If an attorney is unsure as to what the pension will allow, accept or reject, pursuant to a QDRO, it is always advisable to address as many of the gray areas or issues in the marital settlement agreement as possible, regardless of whether or not the plan can provide certain benefits or options. This will define more clearly the intent of the parties and lessen the exposure for the attorney. This can be accomplished by using the never too overused verbiage of, "If any" or "Should the plan allow Š". This is especially true regarding post-judgement orders dividing military retired pay and government orders.
Many of the problems related to the drafting of QDRO's, not to mention the number of related malpractice claims centered around QDRO's, could be avoided simply by addressing all of the relevant issues in the MSA. Decisions as to what is to be awarded should be made prior to the divorce and incorporated in the MSA. Of course, many other issues may need to be addressed in a MSA relevant to a specific pension plan and not every type of pension plan can be covered within the scope of this article. Therefore, the suggestions contained within this article, or suggested language used here, may need to be altered to fit the specific circumstances of your case.
Consideration, however, must also be given to exactly what the plan will allow so as not to violate the plan's terms and conditions. We have observed where some attorneys will address in the MSA, or instruct the defined contribution plan in the QDRO, to divide an account balance as of the date of divorce less contributions made to the plan during a pay period, or have other special requirements. The plan, in all likelihood, will not be so specific and will simply divide the account as of a certain valuation date, which may be once or twice a year, or possibly the first or last day of the month in which the divorce occurred. The point is not to be too specific, where the process will be delayed, and additional cost incurred, simply because an argument is being made over a claim which may not be possible to award under the terms and conditions of the plan. The attorney should not make assumptions about how a particular plan will divide retirement benefits without first verifying such methods of divisions with the plan.
Tim Voit is a Financial Analyst and Managing Partner of Voit Econometrics Group, Inc. located in metropolitan Milwaukee area, Charlotte, NC, Naples, FL, and Chicago, IL. A sample questionnaire/authorization directed to pension plans, asking many of the questions addressed here, can be obtain by writing to Mr. Voit at 12700 W. Bluemound Road, Elm grove, Wisconsin or by calling (262) 784-2937 or Toll-Free: 1-800-557-8648. e-mail address: email@example.com