Advanced Underwriting Consultants

Question of the Day – February 24

Ask the Experts!

The professionals at Advanced Underwriting Consultants (AUC) answer the tax and technical questions posed by producers.  Here’s the question of the day.

Question: My client is divorcing from her husband.  The couple has agreed to split up my client’s IRA pursuant to the divorce.  What documentation is needed to make the transaction income tax free?

Answer: While capital assets get income tax free treatment when divided pursuant to a divorce, pension or IRA assets do not automatically qualify for such treatment.  However, a pension plan can typically be divided up between spouses on a tax-free basis if a proper qualified domestic relations order (QDRO) is used.

The QDRO must clearly specify

  • the name and address of the alternate payee,
  • the amount or percentage of the benefit to be paid,
  • the number of payments or period over which the order applies, and

each plan to which the order applies.

But what if an IRA, rather than a qualified plan, is to be divided pursuant to a divorce?  Code Section 408 sets out provisions similar to the QDRO rules for IRAs.

Transfer of account incident to divorce

The transfer of an individual’s interest in an individual retirement account or an individual retirement annuity to his spouse or former spouse under a divorce or separation instrument … is not to be considered a taxable transfer made by such individual notwithstanding any other provision of this subtitle, and such interest at the time of the transfer is to be treated as an individual retirement account of such spouse, and not of such individual.

If a spouse or former spouse of the participant receives a distribution under a QDRO or under Code Section 408, the rollover rules apply to such alternate payee as if the alternate payee were the participant. Thus, the alternate payee can avoid having to include such a distribution in his or her taxable income by rolling the money into her own IRA within 60 days, or by asking the pension trustee or IRA custodian to make a direct transfer.

Have a question for the professionals at AUC?  Feel welcome to submit it by email.  We may post your question and the answer as the question of the day.