Pensions and Divorce

The Basics of Pension Plans

It is not the purpose of this overview to furnish legal or accounting advice. It should be considered merely a guideline, as accuracy is affected both by new legal decisions and by factors which have been omitted for the sake of brevity.

A pension plan is a tax deferred savings plan. Typically, during years of employment, monetary contributions are made by the employee and/or on behalf of the employee by the employer to a retirement plan. The contributions and the earnings generated accumulate over time, tax free, until retirement. Upon retirement, the employee will receive a specific monthly income for life or a lump sum payment. There are two general types of retirement plans: the Defined Benefit Plan and Defined Contribution Plan.

Types of Retirement Plans

Defined Benefit Plan
This type of plan promises that upon retirement the employee will receive a defined (known) monthly income for the duration of their lifetime. The yearly contributions necessary to provide the promised monthly benefit upon retirement are unknown, however, these contributions are dependent upon a number of variables, such as:

• the amount of the monthly benefit to be received upon retirement;
• the number of years an employee has left until retirement;
• the length of time benefits will be received after retirement;
• the amount of income that can be earned from the accumulating yearly contributions;
• etc.

Defined Contribution Plan
This plan is one in which the contributions to the plan are known (defined). However, the amount of money to be distributed upon retirement is unknown. This amount of money will be dependent upon the manner in which the yearly contributions have been invested and how much they have grown in value over the years of employment.

EXAMPLE: The employee and/or the employer contributes yearly into the plan a fixed percentage of the employee’s earned income each year. The money contributed to the plan is used to purchase stock, bonds, mortgages, certificates of deposit, treasury notes, etc. The value of these investments and the interest generated as a result will be distributed to the employee upon retirement.

How Pension Benefits Can Be Divided

The “Immediate Offset” Approach

Under this method, the present value of the pension benefit is calculated, and a determination is made as to that portion of the present value that was earned during the marriage (marital portion). The marital portion is divided equally between the parties. The parties may choose to offset the marital portion of the non-employee spouse with other property. Thus, the employee spouse’s retirement is awarded to him/her.

Advantages of offsetting with property

1. It results in a final settlement of the distribution of the retirement benefits.
2. Continuing court enforcement and supervision is not required.
3. The parties to the divorce are free from future entanglements.
4. The non-employee spouse does not have to establish and maintain contact with the pension plan administrator.
5. The non-employee spouse does not have to worry about and/or guard against the possibility of the employee spouse changing pension plan beneficiaries.

Disadvantages

1. The employee spouse bears the brunt of the risk of not receiving the pension benefit in the future.
2. Offsetting pension benefits with liquid assets affords the non-employee spouse an opportunity for greater immediate economic gain.

The “Deferred Distribution” or Reserve Jurisdiction Approach

Under this method, the court allocates the benefits between the parties and the parties use a Qualified Domestic Relations Order (“QDRO”) for the allocated division. The non-employee spouse may choose to have his/her benefits moved into another retirement account or keep them with the same retirement administrator, and in a separate account, until retirement.

Advantages

1. Each spouse shares equitably in the risk of forfeiture.
2. The court can divide and distribute the pension benefits in terms of monies actually paid.

Disadvantages

1. The parties incur additional cost for having to divide the retirement using a QDRO.