Faced with an impending divorce, a person understandably begins to take stock of their life in an effort to figure out what it may look like as a newly again single person. This includes everyday matters like where a person will live to broader topics relating to what their financial situation may be.
Splitting assets may contribute to challenges and the loss of some financial stability and that may even include retirement savings when a 401K account must be shared by both spouses.
401K withdrawals for non-retirement purposes
Retirement accounts are, as the name indicates, established with the goal of funding a person’s eventual retirement. An account owner must meet certain criteria prior to taking money from the account or they may be assessed early withdrawal penalties. When a divorce decree stipulates that a 401K account owner must share a portion of the funds with their partner, this exposes them to losing even more of their hard-earned savings.
Fortunately, the U.S. Department of Labor indicates that by using a qualified domestic relations order, a person may avoid the early withdrawal fees when splitting a retirement account pursuant to a divorce settlement. The QDRO names the spouse as a qualified payee on the account, allowing money to be paid directly to that person per the agreement.
Taxes and 401K splits during a divorce
Income taxes may generally be assessed on any withdrawal made from a 401K account. According to the Internal Revenue Service, when using a QDRO, the recipient spouse assumes responsibility for the taxes. By reinvesting the money into another retirement account, the payment of taxes may be avoided at the time of receipt.