QDROs - a basic overview
QDROs, or qualified domestic relations orders, are used to distribute qualified retirement assets without immediate tax consequence. QDROs are located at the intersection of ERISA, the Internal Revenue Code (the "IRC"), and states' domestic relations laws. The full breadth of the interactions of these bodies of law as they relate to the division or transfer of interests in retirement plans (401(k), 403(b), etc.) is substantial. It can get even more complicated if the retirement plan is state or federal sponsored. However, at its core, all that a properly drafted and entered QDRO does is to allow for the transfer of all or a portion of a holder's interest in a retirement plan to an alternative payee without immediate tax consequence to either party where such transfer is incident to a state's domestic relations law. Notably, the transfer can be incident to the division of maritial assets, for payment of alimony or for payment of child support.
Some matrimonial lawyers outsource drafting QDROs. This is perhaps due to the fact QDROs are a creature of the IRC, which governs the taxation of retirement plans (ERISA regulates them). The IRC is complex, and is further explained and interpreted by case law, regulations, revenue rulings, private letter rulings, technical advice memoranda, chief counsel memoranda, and agency interpretation among other things.
Despite the complexity, in dissolution matters involving the division of retirement plans, it is important to have a basic understanding of a plan's taxation. The issue with qualified accounts is that, subject to various enumerated exceptions, transfers or distributions from a qualified account is subject to taxation and in many cases, depending on the age of the account holder and the circumstances surrounding the transfer or distribution, subject to a 10% early withdrawal penalty. A properly drafted QDRO can avoid both the immediate tax consequence, as well as the early withdrawal penalty, if applicable.
To properly draft a QDRO, the preparer should review the language of the final judgment of dissolution, or the child support order, Section 206 of ERISA, Section 414 of the IRC, the current plan document and/or rules (private, state or federal), and applicable state law. Some plan administrators have pre-approved forms, which can be customized to the facts and circumstances of the case at hand. Once the QDRO is drafted, it is advisable to submit the order to opposing counsel and the plan administrator for review and comment. The latter is particularly important because if the plan administrator has a concern with the QDRO's language, it is better to find out in advance, as opposed to after the state court judge has signed the QDRO.
The drafting and submission process can take some time, therefore, it is recommended that the current plan document be requested during discovery and reviewed if it is anticipated that qualified assets may be divided at some point. Moreover, some interests in retirement plans cannot be divided by QDRO, which is something that should be determined in advance before dividing an (indivisable) asset in a final judgment.