Forget the house. Many soon-to-be ex-spouses are following the example of Lorna Wendt, former wife of Conseco Inc. chairman and chief executive Gary C. Wendt, and focusing on getting a share of retirement plans and other company benefits.
Lorna Wendt got a much publicized $20 million divorce settlement in 1997, when Gary Wendt was a top executive of General Electric Co. Now she is waging a legal battle for a portion of some lucrative GE benefits that weren’t included in that earlier agreement.
But while her battle is inspiring many to head to court, it should be prompting others to head to their filing cabinets. That is because those who fail to make sure all parties in a divorce proceeding dot the i’s and cross the t’s may never get a penny of retirement-plan money, no matter what the courts award them.
Indeed, flawed retirement-plan paperwork is a “ticking time bomb waiting to go off” in tens of thousands of divorce cases across the country, says attorney Edwin C. Schilling III, whose Aurora, Colo., practice specializes in pension valuation and division.
Former spouses often don’t find out until it is too late that documents formally dividing retirement plans are improperly drawn, incomplete or even non-existent.
“Then it’s like trying to put toothpaste back in the tube,” he says.
Understanding this paperwork is particularly important given the huge amounts now at stake in stock market-fattened retirement plans.
The rules, however, are both complex and different for each type of retirement plan. People who run afoul of these regulations can trigger big tax bills and penalties, or worse, actually eliminate their right to claim any retirement assets.
One of Schilling’s clients, for example, lost half his pension after 30 years on the job because of a badly drafted document filed during his divorce. Another client lost $200,000 of her divorce settlement because lawyers never filed the necessary retirement-plan paperwork. When her former husband died, the benefit she expected went to the second wife. Both wives are now in court.
Having high-priced legal help is no guarantee, either.
Marjorie A. O’Connell, a Washington family-law and tax attorney of the firm O’Connell & Associates, says she was flabbergasted when some “very high-priced talent” representing the other side left basic paperwork unfiled. “He just never followed through,” she says, even though his fee exceeded $100,000.
Most problems center around the “qualified domestic relations order,” or QDRO. This document is required whenever a “qualified plan” — tax-law language for a company-retirement plan that qualifies for special tax treatment — is divided as part of a divorce settlement. It establishes the ex-spouse’s right to a certain share of the asset.
To be valid, this special order must be signed by the court and approved by the plan administrator. Without that document, signed and approved, O’Connell explains, “you’re entitled to nothing.”
With so much at stake, how can a QDRO simply get overlooked?
Sometimes, it is one of “the loose ends that doesn’t get attended to,” says Mary H. Schmidt, partner with Boston law firm Packenham, Schmidt & Federico. “The parties themselves are sick of the divorce. They don’t want to spend more money. It’s unpleasant. They don’t make sure the lawyers do it.”
The biggest problems occur in old-fashioned defined-benefit plans. Unlike defined-contribution plans, where there is a pile of cash that can be immediately divided, these traditional plans provide a set benefit that may not start until the participant reaches retirement age. That means it may be years before an ex-spouse even realizes there is a problem.
A lot can go wrong during those years. The participant could die, Schilling says. Without a properly worded QDRO the benefit would then simply disappear. If the participant remarried and died leaving the “survivor benefit” to the new spouse, the benefit would go to the new spouse. Or the participant could remarry, divorce and file a properly written QDRO for the second spouse, eliminating any claim by the first spouse.
If caught in time, ex-spouses can renegotiate, although unearthing old files may be difficult and opening old wounds can be painful. But once the benefit has lapsed or been qualified fully for someone else, there are no second chances, O’Connell says.
In such cases, “the law is really clear that you can’t reformat orders or redo distributions,” she says. “There is going to be no begging at the state court and no begging at the plan.”
Problems show up sooner in defined-contribution plans, such as 401(k)s and profit-sharing plans.
That is because assets in these plans can be divided immediately, with each spouse getting his or her own share in a separate account. Still, those who dawdle over the QDRO or don’t pay attention to the terms can get nailed.
Thomas Alvarado, director of counseling services at TIAA-CREF, which handles such paperwork for about 2,000 divorces a year, says he has seen cases where the participant died after changing the beneficiary but before signing the QDRO. That leaves the ex-spouse with a court battle, he says. Alvarado says he also has seen participants take loans or make withdrawals fully aware that proper legal work wasn’t yet in place.
Typically, QDRO language will benefit one spouse over the other, explains Iva Hauck Girtman, a certified divorce planner in Lakeland, Fla.
In a defined-contribution plan, for example, a QDRO can determine whether existing loans against the plan must be repaid before division. It also sets the exact date and method of the split and determines in advance who will suffer from a decrease in value if tech stocks plummet between the date of separation and the final division.
Perhaps the easiest retirement plan to divide in a divorce is the individual retirement account. Since an IRA isn’t a “qualified plan,” it isn’t governed by a QDRO. The only requirements: The division must be subject to a divorce or separation order and the transfer must be made directly to the spouse’s IRA account.
Still, if the rules aren’t followed the results can be disastrous.
“You move an IRA the wrong way and it triggers immediate taxation,” says Ed Slott, a Rockville Centre, N.Y., accountant and publisher of Ed Slott’s IRA Advisor.
That is what happened to Michael G. Bunney, a California man who was ordered by the divorce court to give his wife half of his “interest” in his IRAs. He, however, cashed out his IRAs, withdrawing $125,000 and giving her most of the proceeds. The Internal Revenue Service then hit him with income taxes on the full amount plus a 10 percent penalty because he took the money out before reaching age 59 1/2.
“Both people got hurt,” says Slott, noting that the big tax bill was only part of the damage. The ex-wife got the money, but lost the ability to let it grow tax deferred. “Once it’s out, you can’t get it back in.”
