One of the most difficult aspects of property division in a divorce case concerns the sharing of retirement assets. Some people may feel a sense of sole ownership over their 401(k) accounts, especially if they believe their spouse did not work or save quite as much as they did. Although part of your respective 401(k) funds may in fact be your separate property, a portion will be marital and therefore subject to division.
Marital vs. Separate Property
What constitutes the marital portion of your 401(k) depends upon where you live. Property you owned or have earned before your marriage begins and after it ends is generally yours only. While all jurisdictions hold that your marriage begins when you get married, they vary as to when it ends for property division purposes. Many states use the date of separation, while others use the date of divorce or date of filing of a divorce or separation complaint. The marital portion of your 401(k) consists of all contributions made with funds you earned during marriage--including your employer's contributions--and increases and decreases in value.
Dividing Marital Property
States divide marital property and debt under the laws of either community property or equitable distribution. If you live in a community property state, the court must divide your marital estate equally; in an equitable distribution state, the court must divide it equitably, or fairly. Because "fair" and "equal" can mean different things, equitable distribution laws typically contain a list of factors allowing a judge to award one side an unequal distribution, with more property and less debt than the other. Because of this, your ex could get more than half of your 401(k) if you live in an equitable distribution state. In both types of jurisdictions, however, the court will divide only the marital portion of your 401(k).
Your 401(k) is a tax-deferred account, meaning you haven't yet paid taxes on your balance. If you simply withdraw your soon-to-be ex's share and pay it directly to him or her, you'll get hit with a hefty tax penalty. To escape taxation, your account can be divided by means of a Qualified Domestic Relations Order, which sets the other party's entitlement aside in a way that doesn't cause you to incur tax liability. If your ex wants to cash in their share after the account is divided, it doesn't affect your taxes.
Reasons Not to Divide
Even if your 401(k) is 100 percent marital, you may not have to divide it. Most jurisdictions divide a marital estate on a net basis, with each party receiving a certain share of the whole. This division might be possible in your case by leaving your 401(k) intact in your hands. Also, your ex might leave your account alone in return for a reduced or eliminated alimony obligation, reduced child support, less marital debt or more equity in another marital asset. In some cases, the marital portion of a 401(k) is so small that it would cost more to have an attorney draft and submit a QDRO than the receiving party's half is worth.