Dividing Pensions in a Divorce: Shared vs. Separate Interest
Dividing pensions in a divorce can be confusing. For starters, some clients that I see are often confused (even after negotiating their divorce settlement) regarding what type of retirement account(s) that they have. In this blog, I am referring specifically to defined benefit plans. Defined benefit plans are retirement plans where the employee spouse has earned a monthly benefit, which will be paid out once s/he retires. In some divorce cases, the employee spouse and his/her former spouse agree to divide the future benefit via a Qualified Domestic Relations Order (QDRO).
Unfortunately, most settlement agreements that I see where pensions were divided do not adequately address the options allowed by the defined benefit plan. To be clear, the options are not consistent across all plans. Thus, it does take some research to know what the options are before they can be considered. The easiest way to avoid some very common mistakes is to request a copy of the plan summary document and written Qualified Domestic Relations Order (QDRO) procedures prior to negotiating the details regarding how a plan will be divided. One commonly missed issue is whether or not there will be a shared interest or a separate interest in the divided pension. Why does it matter? There is a big difference!
There are many pensions that do not require the former spouse to wait to start taking the pension until the employee spouse is retired. Under a separate interest QDRO, the benefit for the former spouse is "separated" from the employee spouse's benefit. This means that the portion of the pension benefit that is awarded to the former spouse is actuarily adjusted for the life expectancy of the former spouse. Thus, if using the separate interest approach, electing a joint & survivor annuity should not be required by the employee spouse as part of the settlement agreement. The former spouse will already be eligible for survivor benefits based on the separate interest if s/he is predeceased by the other.
Additionally, the former spouse is able to make his/her own decisions regarding the timing and form of the benefit. For example, one spouse could take a lump-sum distribution while the other may elect to receive the monthly benefit. Neither choice has an impact on the other spouse's benefit. Each spouse is still bound by the rules of the plan administrator (in terms of timing and form of the benefit).
On the other hand, the timing and form of benefit are determined by the employee spouse under a shared interest Qualified Domestic Relations Order (QDRO). The former spouse receives their benefits at the same time as the employee spouse. It's important to note that a shared interest QDRO is the only option if the employee spouse already started receiving pension benefits. Should the former spouse predecease the employee spouse, the benefit amount reverts back to the employee spouse. However, if a joint & survivor annuity was not elected when determining spousal benefits, if the employee spouse predeceases the former spouse, the benefits to the former spouse would cease. In some cases, this may not be avoidable. Regardless, it's important to fully understand for informed negotiating and financial planning.
If you need assistance understanding your options, contact me for a no-cost consultation. It does not have to be confusing. With clear information and guidance, you can feel confident that you are making informed financial decisions.
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