Dividing the marital estate during a divorce generally means that people experience a reduction in their personal holdings. Those who have saved for retirement may need to split those assets in addition to their other personal holdings.
Many working professionals have 401(k) accounts that they rely on for financial stability in their golden years. If people make premature withdrawals from a 401(k), they may be at risk of a 10% penalty and an increase in income tax obligations. Can people avoid those costly consequences?
The right documents make a big difference
Generally speaking, even personal emergencies do not protect people from financial penalties if they pull funds out of a 401(k) before they retire. However, there are exceptions in rare cases. A divorce is one of the scenarios in which people can withdraw funds from a 401(k) without any additional penalties.
Provided that the spouses have a property division order requiring the division of the account, they can have a lawyer draft a qualified domestic relations order (QDRO). When approved by both spouses, signed by a judge and properly submitted to the professional managing the account, a QDRO allows for the penalty-free division of retirement savings.
The professional managing the account splits the balance into two accounts in accordance with the order. Provided that the spouses leave the funds that remain in their accounts, they do not have to pay a penalty or report the amount they withdrew from the original account as income. In some cases, it may be possible to make arrangements for property division that do not involve spouses splitting the account.
Addressing property division matters carefully with the assistance of a professional familiar with the law can help people prevent unnecessary economic setbacks during a divorce. It is possible for spouses to split a 401(k) without losing a portion of their funds to penalties and taxes.
