Published in the December 18, 2017 edition of the Chicago Daily Law Bulletin
When dividing martial assets during a divorce, certain assets require special attention such as 401(k)s and other retirement accounts, employer-provided deferred compensation, life insurance policies and college savings accounts.
In this edition of “Discourse on Divorce,” I take a closer look at what laws govern different benefit plans and other unique assets and how they should be handled in a divorce.
Retirement accounts — such as 401(k)s or pension plans — are an important part of many divorce cases. The federal government heavily regulates these accounts, including restrictions as to a creditor’s (including a former spouse) ability to attach those monies. In addition, the funds in 401(k) accounts and other profit sharing plans cannot be accessed from the accounts without financial penalty until the account holder is at least 59½ years old, and withdrawals are subject to tax.Retirement accounts are always in only one spouse’s name, but there are laws in place to ensure the accounts can be divided in the event of divorce without taxes or penalties. Under federal ERISA law, a qualified domestic relations order gives legal recognition to joint marital ownership interest in many retirement plans. Under a QDRO, money can be taken out of the retirement plan and transferred to an IRA. The transferee can be a former spouse, a child, or other dependent. For the retirement account owner to avoid being taxed or penalized on the withdrawal, the transferred funds must be placed into a rollover IRA. However, if the transferee spouse withdraws some or all of the funds in the IRA, there may be a penalty for the withdrawal if the transferee is not at least age 59½, and taxes may be assessed.
It is important to note that QDROs do not cover IRAs themselves. However, there are federal tax laws that allow an IRA to be divided in a similar fashion with the avoidance of tax and penalty.
Deferred compensation awards, such as restricted stock units and options, may be part of a marital estate and should be divided amongst the parties. This type of employee benefit is generally awarded to highly compensated employees and, as a result, the employee benefit plan is not covered by QDROs.
Deferred compensation is always awarded by the employer to the employee and cannot be titled in both parties’ names, even if the spouses want to split them in the divorce. Due to its unqualified nature, non-employee spouses cannot transfer their shares via a QDRO. Therefore, allocating these awards in a divorce requires special knowledge about corporate benefits and tax laws.
Any college savings accounts should be part of a negotiated settlement, even where the parent is only acting as a fiduciary. These accounts include 529s, custodial accounts, uniform minor accounts, and money in savings accounts intended to pay for college. All 529 accounts are in one person’s name as the owner of the account for a named beneficiary, generally a child of the parties.
There are various terms that should be considered as part of a settlement, which is of particular importance to the spouse who isn’t the named owner. These terms include for what purpose funds may be withdrawn, whether advance notice of a withdrawal must be given, who has discretion to make investment decisions, and the periodic tendering of account statements to monitor the account’s activity.
While a court generally doesn’t require parents to continue to contribute to a college savings account after a divorce, terms for continued contributions can be negotiated as part of the overall divorce settlement. Parents can set guidelines as to what constitutes an agreed upon college-related expense and what limits, if any, are imposed.
For example, are the expenses related to studying abroad for one semester a college-related expense? It should be noted that in Illinois, the court cannot order the parents in aggregate to pay more for college expenses than the going rate to attend the University of Illinois at Urbana-Champaign. Notwithstanding, the parents can agree to more liberal limits.
Life insurance policies are frequently used in divorce cases to secure spousal or child support obligations in the event that a spouse passes away before satisfying his or her child support or maintenance obligation. Courts can mandate one or both parents to maintain life insurance policies to secure their child support obligation.
When securing maintenance payments, the court can only require a spouse to keep an existing policy, but it cannot require a spouse to take on a new policy. However, a court may order a spouse’s cooperation in applying for a new policy so long as the other spouse is responsible for the premium payments. Where life insurance is employed for security purposes, common terms requiring negotiation are the following: the amount of the insurance, the reduction of the amount of insurance at specified times often tied to events such as a child’s emancipation, when the obligation will terminate, who will be the beneficiary, and restrictions prohibiting borrowing against any cash surrender value.
For life insurance policies with cash surrender ownership of the policy, the division of the cash value should be covered in a divorce settlement. Often, a portion of the cash value can be withdrawn to pay a spouse his or her share. In other cases, a spouse may be awarded other assets to compensate for an interest in the policy.
Although not an asset to be divided, health insurance is another important divorce topic. Assuring that all members of a family remain covered by health insurance while a divorce case is pending is critical. Divorce is a terminating event for a spouse who is listed as a dependent. Divorce agreements should outline who will maintain health insurance for children and who will pay the premiums. Further, the agreement should anticipate and make certain the rules providing continuation coverage under COBRA are followed so that a spouse whose coverage will be terminated if no longer eligible as a dependent will not unknowingly forfeit that right.
If the spouse losing dependent coverage has his or her own employer insurance plan, he or she should be able to be added to it even if it isn’t during the open enrollment period. Another option is procuring coverage through the insurance exchange market, but options there can be limited. In many cases, the person who wasn’t covered may choose to return to the workforce primarily to find coverage.
Attorneys counseling clients should ensure that their clients are aware of their options for health insurance before the divorce is finalized.
Dividing benefits is often a complex, but important, aspect of any divorce settlement. When an attorney in any field of law is working with a client who happens to also be going through a divorce, it is helpful for that attorney to be aware of any issues that may arise that intersect with their representation of their client.
