WHAT IS A QDRO?

hindsonmelton — Thu, 20 Feb 2014 05:23:26 +0000

Retirement plan benefits are frequently divided between husband and wife as part of divorce. The court order dividing a retirement plan is called a Qualified Domestic Relations Order or QDRO for short (QDRO is pronounced “quad-row”).

There are two basic types of QDROs – a separate interest QDRO and a stream of payment QDRO. The most common type is a separate interest QDRO.

A Separate Interest QDRO actually divides the employee’s (plan participant’s) interest in the retirement plan. A portion, or separate interest, is awarded to the spouse (called the alternate payee) and transferred into the spouse’s name. The separate interest QDRO results in a portion of the plan participant’s benefit being removed from the employee and assigned to the spouse. The advantage of a separate interest QDRO is that the alternate payee spouse can choose when to start receiving plan benefits and how they will be paid.

By way of contrast, a Stream of Payment QDRO is much less flexible for the non-employee spouse. This form of QDRO says that “when or if” the employee starts receiving pension payments, a portion of each payment will be paid to the former spouse by the plan instead of 100% being paid to the plan participant.

Either type of QDRO must be signed by the judge as a court order. The QDRO will be reviewed by the retirement plan administrator to make certain that the QDRO meets the requirements of the law. The plan administrator’s review also confirms that the language of the QDRO is consistent with the options available under the specific retirement plan. Most large employers have sample QDROs available from the plan administrator.

An IRA can be divided as part of the divorce without a QDRO. The receiving spouse’s portion can be rolled over into a pre-existing IRA or into a newly established IRA account. This rollover of all (or part) of an IRA requires less attorney work than a QDRO, but there are some advantages to dividing a qualified retirement plan instead of an IRA when you have a choice.

Distributions from both IRAs and Qualified Plans before age 59½ are called early withdrawals. Such early withdrawals are usually subject to a 10 percent income tax penalty. However, such a distribution under the terms of a QDRO to an alternate payee can be made without being subject to the penalty tax on early distributions. Consult with your tax advisor if you need to take a retirement plan distribution to make certain that you meet all of the requirements of I.R.C. § 72(t)(2)(C). If the QDRO distribution is rolled directly into an IRA, and the alternate payee then withdraws funds from that IRA before age 59½, the IRA distributions would be subject to the penalty tax.

Most often, if permitted by the retirement plan, keeping a separate account within the plan would be preferable for the payee spouse to rolling the spousal share over into an IRA. Certainly this is the case where the receiving spouse anticipates an early withdrawal. Many divorcing parties have both retirement accounts and IRAs. In dividing marital assets, such considerations can help determine whether the receiving spouse would rather receive a portion of a retirement plan under a QDRO or an award of IRA assets as part of the equitable division.

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ESTATE TAXES AND IRAs

hindsonmelton — Thu, 13 Feb 2014 05:22:29 +0000

Here are some tips about estate taxes and IRAs. If your estate is large enough to be subject to estate taxes, you need to know that a traditional IRA is subject to estate tax on the IRA value prior to income tax being paid. This can amount to a tax on a tax, since estate tax will be paid on any amount used to pay income tax. By contrast, on a Roth IRA no income tax would be due, effectively reducing the size of the taxable estate. So, for example, if an account owner converts to a Roth IRA shortly before dying, the income tax cost of the conversion is completely removed from the account owner’s taxable estate.

Deathbed conversions are not the typical Roth scenario. A Roth IRA achieves the most benefit if it’s owner (or the surviving spouse named as designated beneficiary) lives for many years following the creation of the account.

Whether or not you have concerns about estate taxes and IRAs, a Roth IRA allows you to build wealth that you can pass to beneficiaries. By contrast, traditional IRA owners must take required minimum distributions (RMDs), which cut into the tax-deferred growth of the account.

If you have traditional IRAs with assets that you are likely never to need during your lifetime, you should evaluate (with the advice of a qualified financial advisor) whether it might be advantageous to convert some or all of your IRA to a Roth IRA. Since 2010, there are no income limits for conversions to a Roth IRA.

If you name your spouse as beneficiary of your Roth IRA, your spouse can roll the IRA over into his or her own Roth IRA. A spouse beneficiary is not required to take distributions during his or her lifetime. This makes continuing growth possible. The surviving spouse can name children or grandchildren as beneficiaries, further leveraging the benefits of the account.

You might consider a Roth IRA conversion in a year when you have low taxable income due to job loss, business losses, or recent retirement. Consider Social Security benefits in the year of the conversion rollover. The income from the rollover could increase the amount of Social Security benefits subject to tax or trigger taxation of Social Security benefits by increasing the AGI to the taxable threshold.

While there are no income limits for conversions to a Roth, there still are income limits for making contributions to Roth IRAs. In 2014 the AGI phase-out range for Roth IRAs is $114,000 to $129,000 for singles and heads of household, and $181,000 to $191,000 for married couples. (Married couples earning more than $191,000 cannot contribute to a Roth IRA for 2014; between $181k and $191k the allowable amount decreases). However, investors who earn more than these income limits sometimes use what is known as a “backdoor” strategy by contributing to a traditional non-deductible IRA and then immediately converting to a Roth. Be sure to talk to your advisor about the pro rata rule before pulling the trigger on a conversion.

While you must have “earned income” to contribute to a Roth IRA, you can contribute at any age and there are no mandatory distributions. A non-working spouse can contribute based on the working spouse’s income. It is also possible to contribute and convert in the same year.

One other idea is to fund a Roth IRA for a minor grandchild who has earned income from a part-time job. The annual contribution would be limited to the lesser of the child’s earned income or the $5,500 maximum contribution.

Your IRAs, tax planning, and beneficiary designations are part of your overall estate plan. Consult your estate planning attorney and financial advisor to maximize the effectiveness of your plan and benefit for your family.

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Hindson & Melton LLC » IRA

WHAT IS A QDRO?

ESTATE TAXES AND IRAs