Untying the Financial Knot: QDROs & Beneficiaries

Susan Copeland, CFP®, CDFA®
Avantax Senior Financial Planner 

Divorce is undoubtedly one of the most stressful times of a person’s life. As a client’s trusted financial professional, it’s an opportunity to relieve some of that burden from your client and help them plan for their financial future as newly single.

While your client is preoccupied unraveling various intricacies related to their marriage dissolution, you can play a pivotal role by providing guidance on the finer financial specifics, including details surrounding a qualified domestic relations order (QDRO) and ensuring beneficiaries are updated on all their accounts, assets and policies.  

QDROs – Details and Misconceptions

A QDRO is a legal document instructing the plan administrator how to pay out a portion of a retirement plan to another person, such as a spouse or dependent. ERISA-governed retirement plans, including a 401(k), 403(b), and SEP IRAs can’t be split without this order.

Avantax Planning Partners℠ Senior Financial Planner and Certified Divorce Financial Analyst (CDFA®) Susan Copeland highlights two common misconceptions about QDROs:

• Contrary to popular belief, you don’t need a QDRO to split an IRA. Because IRAs do not fall under the ERISA umbrella, a QDRO isn’t necessary – just the divorce decree.
• Clients aren’t subject to the 10% early withdrawal penalty if they’re under 59 ½ when a QDRO is involved.  Before assets are transferred to an IRA on behalf of the spouse, the Internal Revenue Code allows a unique, one-time opportunity for the receiving spouse to withdraw funds received from the spouse’s qualified retirement plan and avoid paying the 10% early withdrawal penalty– regardless of their age. However, once the funds pass from the 401(k) into the IRA, the 10% early penalty waiver no longer applies if the owner is under 59 ½. 

As you meet with your client to understand their post-divorce cash needs, you can plan accordingly for the one-time, penalty-free withdrawal from the QDRO. For example, does your client anticipate buying a home after the divorce is finalized or do they have a vehicle they plan to pay off? Along with these types of substantial financial needs, you’ll also want to account for their daily cash-flow requirements.

Beneficiary Review and Updates 

Although it’s important to periodically review beneficiaries with every client, it’s especially crucial for those going through a divorce – beneficiary reviews should include portfolio asset accounts and life insurance policies.

Some divorce judgments contain a provision terminating a spouse’s interest, but other insurers and ERISA plans aren’t required to follow the divorce judgement. If beneficiaries haven’t been updated since a client’s divorce, this discrepancy could result in the assets going directly to your client’s ex-spouse.

Susan once had a client in this exact scenario:

“She was nearing retirement and had been divorced for over a decade, so this was purely a retirement planning discussion and nothing related to her divorce. Upon reviewing her 401(k) investments and beneficiary designations, I noticed she had the primary beneficiary set to a name that I didn’t recognize on any of her paperwork – her ex-husband. This client was certain her divorce decree had language excluding him as the beneficiary from all accounts – she even had her estate planning documents redrafted after the divorce, naming her sons as beneficiaries. She was shocked that her prior advisor had failed to tell her that the estate planning documents do not supersede assigned beneficiary designations.”

Luckily, Susan was able to get this adjusted for her client in short order – but the outcome could have been much different if Susan hadn’t asked the right questions.

Every client is unique, but those going through a divorce may require extra care and attention to detail. Taking time to review more nuanced financial matters with your clients – such as QDROs, beneficiaries and specific divorce provisions – can help solidify your position as their trusted financial professional.

Be sure to check out the other blogs in this series here.