DIVORCE 911 consulted with Steve Shewmaker of Shewmaker & Shewmaker for this blog. We also have a video covering this topic.
A 401k is one of several types of retirement plans. Under principles of federal law, a 401k is formed and it is only titled in the name of one person. You can have a personal 401k but you can not have a joint 401k with someone else, the way a bank account can be joint ownership. It is not a legal option. In a divorce, it is not uncommon for both parties to have 401k’s. It is also not uncommon for only one person in the marriage to have a 401k. Even if they both have 401ks, people don’t always save evenly. It’s very common to have the husband’s 401k have 2 or 3 hundred thousand dollars in it and the wife may not have a 401k or have very little.
There is a common misperception (in a divorce), that taking money out of a 401k will result in taxes and penalties. That is not necessarily true. If a 401k is divided by a court order, entitled a Qualified Domestic Relations Order, there will be no taxes or penalties. A Qualified Domestic Relations Order or “QDRO” is simply a piece of paper signed by the superior court judge that is a directive. It directs the 401k plan administrator to divide the 401k and to transfer money to the recipient spouse and into another retirement account, usually an IRA. This is tax-free. Usually, there will be no penalties and no taxes assessed on that transfer.
Now, what is not widely known, with the 401k (unlike the IRA or other investment accounts) you are allowed (as the recipient spouse) to take out cash in this transfer one time without a 10% penalty. You will be assessed ordinary income tax on it but not the 10% penalty. This is not true with an IRA or other types of retirement. There’s a way to get creative and sophisticated here. For example, suppose the parties were going to divide a 401k evenly but they had $20,000 in credit card debt that they wanted to pay off. They could transfer more money in the 401k transfer and the recipient spouse could take that money out in cash to pay off the $20,000 credit card debt. This could be useful for both parties and be successfully implemented by mutual agreement.