Jim Byrd from Safe Harbor Financial stopped by Studio10 with a look at how a divorce can affect retirement planning.
Below is a list of some of the questions and answers discussed on Studio10.
1. What are some issues you may have dealing with a Retirement Plan in a divorce?
In a recent court case a taxpayer withdrew funds from his IRA to satisfy a divorce judgment and was required to include the distribution in his gross income. The court also ruled that the distribution was subject to the 10 percent penalty for early withdrawals.
2. What went wrong?
The divorce judgment failed to meet the requirements of a Qualified Domestic Relation Order (QDRO).
3. How should this be handled to avoid taxes and penalties?
In order to comply with the divorce agreement, he attempted to transfer funds directly from his IRA to his former spouse. The spouse however, refused to accept the transfer over concern that the funds would be taxable to her when she withdrew it. Ultimately, the ex-husband simply withdrew the money from his IRA and delivered it directly to his ex-wife. He failed to report it to the IRA on his returns.
4. What should the ex husband have done instead?
Retirement plans made under a QDRO are not currently taxable to the taxpayer making the transfer; the judgment itself was not a QDRO. Because it only directed him to make a specific payment to his ex-wife he should have done a transfer instead of a withdrawal.
5. Are there other problems with Retirement Plans in a divorce?
Yes. A taxpayer was required to pay a certain amount to his ex-wife in exchange for her interest in the equity of the marital residence. The court ruled that this was a taxable distribution.
6. What made these two cases different?
In this case the QDRO was not used appropriately. The ex-wife was a participant in the US Postal Service Federal Employees Thrift Saving Plan. The ex spouse agreement said that the spouse was to withdraw his portion of the TSP and pay it to his ex-wife for her share of the home. The court ruled that it was a taxable event although he had reported the income; he thought it was not taxable. The court ruled against him. The client thought that he was taking interest in the house from his retirement plan. The IRS disagreed and he had to pay taxes on the withdrawal. He did not have to pay the 20% substantial underpayment penalty because he had used a professional tax preparer.
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