Death is inevitable. Divorce is not. Despite this difference, both events require careful planning to ensure that an individual’s wishes and/or negotiated settlements are achieved.
When properly documented, both events are seamless to individuals and plan administrators. However, when such issues are not carefully addressed the time and cost of taking corrective action can often be significant.
QDROs
Qualified Domestic Relations Orders became part of ERISA slang as a result of the Retirement Equity Act of 1984. Although QDROs have now been around for over 25 years and the Department of Labor has issued Model QDRO Notices, deficiencies are frequently encountered when plan administrators receive court orders for review.
Under Internal Revenue Code Section 414(p) and the Treasury Regulations issued thereunder, employers have up to 18 months to review a QDRO. Nevertheless, most employers are encouraged to promptly review QDROs upon receipt given current market volatility.
More importantly, divorce attorneys and plan participants should be encouraged to address QDRO issues immediately following a divorce. It is not uncommon for individuals to have been divorced in 2005 or 2006 and for a QDRO not to reach a plan administrator’s desk until 2009 or 2010. This delay may cause minor language interpretations to become significant issues.
For example, assume a couple divorced in April 2007 and the divorce decree simply reflected that the spouse was entitled to 50% of the individual’s account as of a date in 2005 when divorce papers were filed. Further assume the individual’s account balance was $50,000 as of the date of filing in April 2007. Questions that arise in connection with this simple allocation include:
• Is the amount to be transferred to the alternative payee increased or decreased by earnings and losses subsequent to the date of allocation?
• Are employee contributions voluntarily made between the date of filing for divorce and the divorce decree included or excluded in the account to be segregated?
• Did the participant have the ability to obtain a loan against the account during the period of separation and prior to divorce, since the plan administrator might not have been aware of the matrimonial discourse and could not have “frozen” the account from loans?
• Did the participant take a hardship distribution without the spouse’s knowledge?
All of the above issues are frequently encountered when reviewing draft and final QDROs. Continuing with the same example above, assume the participant’s account was $50,000 in April 2007, entitling the alternate payee to 50% of the account or $25,000.
Now, when a QDRO reaches the plan administrator’s desk, the account balance has declined to $30,000, despite the addition of employee savings and employer contributions subsequent to the date of segregation.
Under these facts, it is important for the employer to clarify the interpretation of the QDRO as including gains and/or losses to ensure that the intent of the QDRO is honored and the parties’ negotiation is enforced.
Still, the language of court orders and subsequent QDROs are frequently not clear on the above issues, resulting in confusion and additional correspondence between a plan administrator and attorneys for participants and alternate payees. In times of fluctuating asset valuations, employers must carefully review QDROs, question intent and interpretation, and follow-up expeditiously to minimize liability in market fluctuations while QDROs are under review.
Cost review
Another important issue to consider with QDROs is the time and cost of review. Prior to DOL Field Advise Bulletin 2003-13, employers could not charge a participant’s account for the cost of reviewing a QDRO. However, the DOL currently permits employers to charge participants for the costs of reviewing a draft or final QDRO.
Some employers may wish to amend their plan to allocate the cost of reviewing a court order to a participant’s account “prior” to segregation of assets. This action will help minimize costs for the plan or the employer. If participants realize they are paying for a review by an attorney or a plan administrator, greater attention may also be received by court orders.
In addition to addressing retirement assets in the form of a QDRO, all participants who have changes in matrimonial status should review their beneficiary designations. To the extent that a participant gets divorced and continues to designate a former spouse as a beneficiary, disagreements will inevitably arise.
Owner’s death
From a plan administrator’s point of view, the designated beneficiary is entitled to the account balance or pension benefit in the event of death. However, state law may provide that all such beneficiary designations are revoked at the time of divorce. Which documents will be controlling (i.e., state law, divorce decree and/or beneficiary designation) lead to intriguing issues that most plan administrators would prefer to avoid.
For example, California Probate Code Section 5600 provides that a designation of a spouse as a beneficiary of a retirement plan fails if, at the time of the account owner’s death, the spouse and decedent are no longer married. In this circumstance, the assets are distributed under California law as if the former spouse had predeceased the participant.
Therefore, upon receipt of a QDRO for an employee, human resource professionals should establish procedures to automatically issue new beneficiary designation forms for all Section 401(k) plans, defined benefit pension plans, group-term life insurance, individual life insurance and other benefits for which a beneficiary can be designated.
By providing the forms at the time a QDRO is being received and evaluated, it is much more likely that a participant will properly identify a new beneficiary and have their wishes honored upon death.
Adding new spouse
As an alternative to monitoring beneficiary designation forms, employers may be proactive with regard to divorce issues. A plan may provide that in the event of a legal divorce, any designation of a former spouse as a beneficiary will become null and void as of the date of the divorce.
This approach will ensure that a participant must affirmatively re-designate a former spouse as a beneficiary, which is usually not intended unless required under the terms of a divorce decree.
Assume that a participant received spousal consent when married to name a spouse as the beneficiary of 50% of an account balance in a defined contribution plan, with children receiving the remaining 50%. If a revocation provision following divorce is added to a qualified retirement plan, upon the death of the participant, the 50% designation to the children would remain in effect.
The 50% balance to the former spouse would automatically be void and such benefits would pass under the default provisions of the plan, which generally provides that a single participant’s benefits go to their estate. Employers must carefully consider the pros and cons of adding such a revocation provision. However, in more cases than not, it will protect the interest of a participant.
It is also recommended that summary plan documents and QDRO procedures be updated to include notification of the revocation of any beneficiary designation. This notification may also encourage participants to affirmatively review their beneficiary designations which is the ultimate goal for most employers.
Frank Palmieri can be reached at fpalmieri@p-ebenefitslaw.com.
Employee Benefit News Legal Alert is a free, weekly e-newsletter featuring articles from the nation’s leading benefits attorneys.
