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In this article, we will discuss qualified domestic relations orders in Illinois divorces and answer the following questions:
- What is a QDRO or QILDRO?
- Why is a QDRO important in Illinois divorces?
- At what point in the divorce should I submit a QDRO?
Suppose you and your spouse are nearly at the end of your divorce negotiations. The final settlement is within reach. You’ve worked out parenting time and responsibility, alimony, calculated and agreed on the correct amount for child support, and divided your marital property and debts. You’re just finalizing the allocation of your retirement accounts. The next step is completing the settlement and converting the agreement to a divorce decree. But have you and your lawyer considered all the tax implications of your contract? Specifically, how the retirement accounts will be handled to minimize the negative impact on those assets?
It’s clear that when the household goes from a combined income to separate incomes, there will be tax consequences, but can an IRA, 401(k), or any other retirement account be “split” without any consideration? No, unfortunately, it’s not that simple. Because retirement accounts are tax-advantageous, changes to those accounts, including early withdrawals, can result in unexpected penalties and tax bills. Furthermore, some retirement plans explicitly state they will not transfer funds to another account, although this is somewhat rare. To avoid potential issues when splitting up retirement accounts during a divorce, you should get a qualified domestic relations order.
What Is A QDRO or QILDRO?
A qualified domestic relations order (QDRO) is a court order giving the retirement account administrator the legal authority to divide and administer the retirement accounts based on the divorce agreement. QDROs cover the majority of retirement account types not governed by the Illinois Pension Code. If one spouse is part of a state-controlled pension plan, then a qualified Illinois domestic relations order is necessary.
Why Is A QDRO Important In Illinois Divorces?
QDROs and QILDROs allow divorcing spouses to avoid an unwanted tax event. Let’s say a divorce settlement splits one spouse’s retirement accounts fifty-fifty. If that money is withdrawn from the account and given to the other spouse, it triggers a taxable event. The primary account holder would be liable for all the previously deferred tax on the amount withdrawn. Furthermore, if the account holder is younger than fifty-nine and one-half years, she faces an early withdrawal penalty. The taxes don’t transfer to the person who receives the money; they are owed by the person who owns the account from which they came.
Thankfully, the solution is simple. Transferring the funds to an account of the same type owned by the ex allows the primary account holder to avoid the taxable event and the early withdrawal penalty.
At What Point In The Divorce Should I Submit A QDRO?
First, you should thoroughly read and understand your retirement accounts. Make sure they allow the transfer of funds to another individual with the same retirement account. If your account prohibits this type of transfer, your only option may be to withdrawal the amount and deal with the taxes and penalties. In this case, you’ll want to include the tax loss and any early withdrawal penalties in your settlement negotiations.
Your attorney should prepare the QDRO or QILDRO and submit it to the judge as soon as possible. The judge will convert the QDRO into a court order, which you can then submit to your retirement plan. All this should be completed before you finalize your divorce agreement. If you run into any problems, you can have the order modified and then resubmit it to the account administrator. Failing to secure a QDRO before finalizing the divorce, or trying to submit a QDRO retroactively, may lead to reopening the divorce or cause you to lose those retirement assets altogether.
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