How to Protect Your Retirement Savings During Divorce
It’s a gut-wrenching experience, and that’s before the money issues. Approximately 1.2 million couples file for divorce each year, and the financial side of things can be just as upsetting as ending a relationship — especially when it comes to retirement. Keep these points in mind as you navigate your way back to single life.
Paying for dissolution
The average price of a divorce in 2016 was $15,000, but costs vary significantly depending upon the nature of your split — e.g., amicable or contested — and the size of your legal fees. You may not have the liquid funds to cover all the related expenses, and it can be tempting to cut your losses by tapping into retirement savings.
This is a no-no. Not only will you pay taxes on 401(k) and IRA withdrawals before ages 55 or 59 1/2, respectively, you’ll also incur a 10% penalty if a judge hasn’t yet ordered you to divide your assets.
If you can, it’s wise to talk to your ex about preserving your collective savings during the divorce process. While you might not be on the best terms, ending your relationship shouldn’t mean sacrificing your retirement security.
Dividing your assets
Before you can divide your retirement accounts, you must first locate and tally up how much money you have. Do this by collecting summary plan descriptions (SPDs) for employer-sponsored accounts, including 401(k)s and pensions. It’s also important to add traditional and Roth IRA balances, money markets, CDs, savings accounts, real estate, and any other financial assets into the equation.
Once you have the numbers in place, you can begin valuing each account for equitable division, which is more complicated than it seems. For example, suppose you have $20,000 in a 401(k) and $20,000 in a Roth IRA. Withdrawals from a 401(k) are taxed as ordinary income, meaning that you’d be left with $14,400 if you fall within the 28% tax bracket. On the other hand, Roth contributions are taxed up front, which means you wouldn’t pay taxes on withdrawals in retirement.
Often, spouses can’t agree on how to split the marital assets equally, and it’s a good idea to seek third-party mediation or legal advice to ensure that you get your fair share of the savings.