When it comes to divorce in California, untangling finances is one of the most difficult parts of the process. Special assets like 401(k) accounts and IRAs can prove very complex, and managing their division can involve large tax bills if not handled correctly.
Divorce and retirement accounts
Retirement accounts have tax sheltering to help individuals save money. These accounts usually have special rules about withdrawing from them early, which can trigger a big tax penalty. The accounts also tend to have strict rules about ownership and transferring money to cut down on fraud. These are useful aspects to have for saving, but they can cause major problems when the owners of such accounts are divorcing. Typically, the couple needs to get a special order from the judge called a qualified domestic relations order that allows them to start dividing or assigning ownership of the accounts.
There are many ways to approach splitting a retirement account, but all of them can damage the account’s value or complicate other financial settlements. For example, if one spouse just keeps the account, they must provide the other spouse financial assets equal in value not just to the account but also the account’s future growth. There may also be tax charges. Cashing out the account or splitting it directly both carry tax charges and may or may not be legal according to the plan rules. Every plan has its own rules and regulations, so there is no simple solution that will apply in all cases.
Couples should work together as much as they can to settle retirement accounts in divorce. The goal is to minimize the financial impact on both of them.