Divorce and 401(k)s
Question: I am setting up separation/divorce paperwork. At this time it will be a separation because that way I can keep health insurance. My question is he has 2 401Ks, one from a past job and 1 from his recent employment. What is the best way to deal with the 401ks? I think that we can just each take one they are about the same amount at this time. Do we have to cash them out and get taxed or is there a way to avoid being taxed?
Where can I find answers to all the financial questions involved without paying most of the money that will be used for the household and children? Sandra, Ann Arbor, MI
Answer: An excellent resource for understanding the basics of separation and divorce is the DIY legal organization Nolo.com. For instance, this article at Nolo addresses the question, Do You Need A Lawyer?
If it goes to divorce, you're right to worry about cost. Divorce is expensive. There are ways of keeping costs down, such as using mediators, collaborative law agreements, and related techniques that are based on the ex-partners solving difficult questions quickly and with good will.
Simply put, the less fighting and the less disagreement there is the lower the overall cost--financially and emotionally. (If you want to read a horror story on how not to break up a marriage read the article "A Major League Divorce" in the August 2011 issue of Vanity Fair. It's about the break-up of Jamie and Frank McCourt, owners of the Dodgers.)
Although there are degrees of separation, the big difference between separation and divorce is that the latter legally severs most financial ties, divides the ownership of assets and, at the same time, legally defines a set of financial obligations, such as child support and custody.
To your specific question, there is a way to divide the 401(k)s--and other retirement savings plans--without triggering an early withdrawal and penalty in a divorce. As part of the negotiated divorce agreement over dividing assets you'll want to file a Qualified Domestic Relations Order or "QDRO." I would contact the financial firm managing the 401(k) to get their specific procedures for a QDRO. Your lawyer or mediator will also be able to walk you through the QDRO or, if it's a different kind of retirement plan, related legal document.