Financial Issues – Qualified Plans Subject to Division
In a Minnesota divorce proceeding, a qualified plan may include any marital portion of a retirement or investment account (IRA), pension plan, or deferred compensation plan that either party has an interest in. However, it is difficult to determine the value of these plans because of their after-tax value – often, the plan will have little to no real value until the funds have actually been withdrawn. Other considerations include determining when the asset became marital property, and how it should be divided to best benefits the parties.
EQUITABLE DIVISION:
Once the divorce proceeding has begun, the parties will agree on a valuation date. This date may be the time when the Initial Conference Management Hearing (ICMC) is held, the date of filling with the Court, the date of separation, or another agreed upon date determined by the parties. All proceeds placed into a qualified plan after the valuation date will not be considered marital property. Likewise, all proceeds placed into the account prior to the establishment of the marriage will not be marital property.
Once the date of division for the plans, property and other assets has been determined, the method by which Minnesota courts use to divide must be analyzed. Governed by Minn. Stat §518.58 (2017) the court shall make an “equitable and just” division of marital property. The court uses the term “equitable” because there exists a common misconception that there is an “equal” or “50/50” split of property, but that is inaccurate – the division is equitable, but equitable does not always mean equal. For more information on equitable division, see our previous blog: Minnesota Divorce and Property Division – Equitable vs. Equal published on January 5, 2018 by Managing Attorney Randall Smith.
PENSION PLANS:
Although quickly decreasing in popularity among employers, there still remain a handful of individuals who have an interest in a pension plan – many are government employees. These plans have specific dates in which the plan will vest and corresponding dates in which the plan will mature.
Once the plan has vested, the employee will own at least some percentage of the plan so no matter when he or she leaves the company, a portion will be paid, although this number would be dramatically smaller than if the plan had completely vested. The plan matures once the employee has met the requirement for years of service; also referred to as the time when an employee is permitted to retire.
We look to the case Janssen v. Janssen, 331 N.W.2d 752 (Minn. 1983), which established that a non-vested and unmatured pension plan is martial property and thus, subject to division.
RETIREMENT PLANS & IRA ACCOUNTS:
Many parties going through a divorce will have some type of retirement plan through their employer. The most common are 401(k) and 403(b). The latter, 403(b), is available with non-profit, religious, and government agencies. However, they are treated the same in a divorce. Similarly, an IRA may be a traditional account or a Roth account. The primary difference between these types of accounts is the point at which the proceeds are taxed. Contributions made into a traditional IRA are tax-deductible, unlike a Roth IRA, which does not provide any tax breaks for contributions. However, Roth IRA distributions are customarily tax-free. An IRA does not require a Qualified Domestic Relations Order (QRDO), which contrasts with the division process of all other plans.
As discussed in more detail below, an IRA is subject to an excise tax when a distribution is taken before the plan has matured. Typically, this is a 10% tax, unless otherwise specified in the plan, or a qualifying exemption is available. When an excise tax is in place, it is best for the payee to have an alternate source of funds that will not have a negative tax implication on either party.
Furthermore, if the transfer of funds can be done prior to a retirement account rolling over into an IRA this can avoid additional taxes. The direct distribution from the retirement account will still be taxable for federal and state income tax purposes, but this will avoid the 10% additional tax that would be applied if taken from an IRA account.
TAX CONSEQUENCES:
The Minnesota Supreme Court held in Aaron v Aaron, 281 N.W.2d 150 (Minn 1979) that the trial court had the discretion to consider and determine the tax consequences when awarding or dividing a portion of a qualified plan. The Court rejected the parties claims to include capital gain taxes on the basis that the long-term investment account would likely not be sold until fully depreciated. Essentially, Aaron solidified the notion that Courts will not look to speculative tax consequences.
However, on the opposing side of this spectrum the Court will look to actual tax liability, so long as (1) it can be determined within “virtual certainty” that the plan will be taxed, and (2) the tax calculation is within a “reasonable range of figures” Maurer v Maurer, 623 N.W.2d 604 (Minn. 2001).
At Lake Harriet Law, we work diligently for our clients, to help them receive the best financial terms in their divorce, including a fair and equitable financial settlement. If you are considering a divorce, contact our team to begin designing a legal strategy to protect your future.
Randall A. Smith – Managing Attorney 612-750-4843
Jessica Dulz – Student Attorney 612-223-8925
Addy Scriver – Student Attorney 612-223-8925