Countless parents struggle with uncooperative former spouses over child support. Many custodial parents do not know that a QDRO can be used to collect delinquent child support.

According to ERISA § 206(d)(3)(K), and IRC § 414(p)(8), “a domestic relations order can be a QDRO only if it creates or recognizes the existence of an alternate payee’s right to receive, or assigns to an alternate payee the right to receive, all or a part of a participant’s benefits. For purposes of the QDRO provisions, an alternate payee cannot be anyone other than a spouse, former spouse, child, or other dependent of a participant.”

When a client is not paying court-ordered support or is in arrears, the pension or retirement account can be a viable source for funds.

Retirement plans are marital assets and subject to division and distribution in a divorce, but even many veteran attorneys do not understand that retirement plans can be tapped to pay child support.

The Employee Retirement Income Security Act (ERISA) provides that qualified domestic relations orders (QDROs) can be used for one of three purposes: 1) to divide a pension to provide property rights to a spouse or former spouse; 2) to provide child support to a spouse, former spouse, child, or other dependent of a participant and 3) to provide maintenance to a spouse or former spouse of a participant. These three provisions apply to qualified defined benefit and defined contribution plans. Child support QDROs can be attached to any ERISA-governed retirement program, such as a 401(k) plan or pension plan. Child support QDROs do not apply to non-ERISA qualified plans, such as Individual Retirement Accounts (IRAs).

Attorneys and their clients should not overlook retirement funds even if the participant is too young to be eligible to retire. Even when the supporting parent has lost his or her job, retirement funds can be used to make support payments. This applies to both 401(k) plans and traditional pension plans.

QDROs may be used to enforce child support when the properly crafted domestic relations order “relates to the provision of child support, alimony payments, or marital property rights to a spouse, child, or other dependent of a participant, and – is made pursuant to a State domestic relations law (including a community property law).”

An obligor sometimes prefers that current child support be made from his or her retirement plan as opposed to his or her income, which frees income for daily living expenses.

Obtaining a child support QDRO is not difficult. The child support QDRO requires that a court order or judgment must exist setting forth the amount that should be paid. The QDRO is then signed by the judge and approved by the plan administrator.

The disposition of an alternate payee’s benefits when he or she dies before receiving or after the onset of benefits may raise questions about contingent alternate payees.

Under most defined contribution (DC) plans, such as a 401(k), the Plan Administrator segregates the alternate payee’s separate interest, and the benefits are normally nonforfeitable. Thus, the plan usually permits an alternate payee to designate a beneficiary, or the plan directs that any unpaid benefits at the time of the alternate payee’s death be paid to the alternate payee’s estate. For a DC plan, therefore, the QDRO should include language that specifies the alternate payee’s right to designate a beneficiary or reference to the plan’s requirements that any residual benefits are paid to the alternate payee’s estate.

In the case of a Defined Benefit Plan, however, both the Internal Revenue Code and ERISA are silent about what happens to an alternate payee’s assigned benefits when he or she dies under a separate interest QDRO before the participant and prior to commencement of benefits to either the participant payee or alternate payee.

When the alternate payee dies after the benefits have begun, the benefit continues based on the option that was chosen because a QDRO cannot change the form of benefit provided in the plan. So, if the form of benefit elected was a single life annuity, the annuity terminates and no additional payments are made. If an optional form of benefit is elected, there may be residual benefits payable to a designated beneficiary or the alternate payee’s estate.

However, neither the IRS or Department of Labor speak to the situation of a separate interest QDRO for a DB plan when the alternate payee dies before the benefit is in “pay” status.  If a plan treats the alternate payee’s separate interest as a terminated vested interest, the benefits cease by operation of law or plan procedures. A terminated vested interest means that the benefits are payable only to the designated alternate payee and do not revert to the participant, even if the alternate payee dies before commencement of any benefits to him or her. However, when the plan does not treat the alternate payee’s separate interest as a terminated vested interest, which means that benefits may revert to a participant, it is likely that the benefits can be assigned to another alternate payee, contingent upon the death of the primary alternate payee. This designation is known as a “Contingent Alternate Payee” and it is accepted by some, but not all, Plan Administrators.

A QDRO requires that the participant pay the benefits to the alternate payee within a specified period of time. Naming the participant as a constructive trustee does not relieve the Plan Administrator of responsibility to pay the benefits under a properly drafted and accepted order.

All qualified plans are required to have procedures in place for the receipt, notice acceptance and rejection of orders served upon it. It is rare that these procedures break down; however, the alternate payee’s benefits may be paid to the participant. This can happen, for example, when an amended order was not transmitted or sent until after benefits to the participant had begun.

Even though the order may require the participant to pay the benefits, generally the repayment of alternate payee’s benefit creates an enforcement problem. One way to solve this potential problem is to include in the order a provision that requires the Plan Administrator to withhold from future benefits of the participant until the amounts due to the alternate payee have been recouped.

A QDRO can include a make-up provision that anticipates that the participant may receive benefits due to an alternate payee. Upon notice by the alternate payee, the provision directs the Plan Administrator to withhold payments from the participant to make up the past due to the alternate payee under the constructive trust provisions of an order. The Plan Administrator can only activate the make-up provision subsequent to the acceptance of a QDRO. Make-up provisions are a form of revocable assignment contemplated by IRC Section 414(p).

Here is a model of a make-up provision:

“If for any reason the Plan fails to make payments required to the Alternate Payee pursuant to this Order and makes the full payment to the Plan Participant, it is the Plan Participant’s obligation, and Participant hereby agrees to make such payment to the Alternate Payee, and to so notify the Plan Administrator of the error, and to continue to make the required payments to the Alternate Payee until such time as the administrative error is corrected. If the Plan Participant fails to notify the Plan Administrator or fails to make the payments necessary to the Alternate Payee, the Plan Participant hereby authorizes the Plan Administrator to withhold future payments from the Participant’s Plan distributions until such time as the amounts owed to the Alternate Payee are recouped.”

Many pension plans provide model QDROs in order to expedite the approval process. Although it may speed approval, their model language often does not have the best interests of the alternate payee in mind, which often makes using a model QDRO costly.

Some lawyers draft a QDRO using the plan’s model QDRO and insert the parties’ names with little or no other revisions.  A fill-in-the-blanks approach should never be done unless everyone involved clearly understands every single provision. More so, everyone should understand the possible alternate provisions, based on the plan’s terms and the jurisdiction’s law regarding marital property rights.

Plan administrators create model QDROs to reduce the plan’s administrative expenses by streamlining QDRO review and approval. They find it easier to review QDROs that use a pre-established model rather than to review hundreds or thousands of QDROs prepared in different ways. Plan administrators want to reduce the number of missing key provisions by providing a model QDRO because this reduces the back and forth with lawyers that increases costs to retirement plans.

Most model QDROs are drafted to favor the plan participant, and they  are not drafted to divide the benefits as equally as possible.  Model orders can heavily favor the participant with regard to issues like investment earnings and losses and survivor benefits.

Further, the model QDRO may have been drafted in a different state than where the divorce took place. The law of the jurisdiction can have a huge effect on the division of benefits.  For example, in California, which is a community property state, the community property interest stops accruing on the parties’ date of separation. Other states, however, utilize dates, such as the date of divorce filing or the date of the entry of Judgment of Dissolution, both of which may be years after the parties’ date of separation.  Thus, a model QDRO from another jurisdiction may award the alternate payee far more benefits than he/she would receive in California.  Further, many individuals who draft their own QDROs are not able to format the QDRO correctly to be accepted by the court that handled their divorce.  In California, QDROs must be signed by both parties and the judge; however, many model QDROs only leave space for the judge’s signature.

Dividing a pension starts poorly when the parties — particularly the nonparticipant and his or her lawyer — fail to understand the type of plan to be divided. Generally, marital settlement agreements refer to the parties’ “retirement plans,” but do not specify whether they are defined benefit (DB plans) or defined contribution plans (DC plans), or both, or cash balance (CB plans), which are a combination of the two.

A QDRO should not be drafted from a marital settlement agreement that identifies retirement assets as “retirement plans” because the terms and conditions of DC plans, DB plans and CB plans are different. Often, however, in divorce negotiations, attorneys and parties refer simply to the “retirement plan,” but they don’t stipulate the type of plan the employee really has, and it is important to understand the differences among the plans.

The distinction between the types of plans is important because the parties need to know what is being divided — the right to receive monthly payments in the future, or a portion of an account with an identifiable balance that is fluctuating over time. Various issues, such as earnings and losses, surviving spouse benefits, and cost of living increases depends on the type of plan being divided.

Someone who participates in a DC plan normally receives periodic statements showing the exact balance in the account. Dividing a DC plans is simple, because the account value is easy to determine. It is often more complicated to divide a DB plan, because the value of the benefit requires actuarial calculations and assumptions regarding when the employee will retire or leave the company and what his salary will be at that time. By comparison, in DB plan, employees accumulate years of service and credits toward their retirement benefits. A traditional pension plan (the company pension) is the most common type of DB plan, in which employees know that if they work for ABC Corporation for thirty years, they will receive a monthly benefit of a certain dollar amount for the rest of their lives after retirement. Thus, the amount of benefit that they will receive is defined (unlike in a defined contribution plan). That is, an employee is guaranteed (after working long enough for the benefits to “vest”) a certain benefit based on the employee’s length of service and salary at the time of retirement. DC plans, such as the popular 401(k), depend on the performance of the investments in the account over time, so what is guaranteed, or “defined,” is the amount that the employer contributes periodically to the employee’s account.

In a defined contribution plan, the employee can make pre-tax contributions into an account maintained in his or her own name. The employer can also make contributions of a fixed percentage of the employee’s salary into the account. In a defined contribution plan, there is no guarantee as to how much money will be in the account when the employee retires.

 Cash Balance Plans

There is another type of retirement plan that often causes confusion in divorce cases. Cash balance plans are a hybrid of defined contribution and defined benefit plans. They have become increasingly popular with employers in recent years. Cash balance plans are technically defined benefit plans, with many features similar to defined contribution plans. The value of a cash balance plan is usually expressed in statements as a “cash balance” – that is, they look a lot like defined contribution plans, because they show a precise dollar amount in an “account” for a particular employee. Many divorce practitioners treat cash balance plans just like defined contribution plans for purposes of settlement, only to find that cash balance plans are not as easily divided as defined contribution plans. In fact, many employees do not realize that their cash balance benefits are not the same as those in a traditional 401(k) plan.

Cash balance plans seem to be the most common form of hybrid plan, but there are also other types of “hybrid” plans that have their own quirks.

It is surprising how often settlement agreements contain statements such as, “Wife shall receive one half of Husband’s Pension Plan as of the date of the divorce, plus or minus earnings and losses from that date until the date the account is divided.” This presents a problem, since the concept of “earnings and losses” does not apply to pension (defined benefit) plans. As discussed above, payments under defined benefit plans do not fluctuate with the market, and thus there are no “earnings and losses.” Drafting an Agreement with the wrong language for the type of Plan being divided can have far-reaching consequences for your client.

Approaching the so-called Golden Years, many couples dream of the prospect of taking early retirement without drastic reductions in the benefits. Many pension plans offer early retirement incentives to eliminate older workers who have peaked and replace them with younger, less expensive employees. Care must be taken, however, if the early retirement subsidies and supplements become an issue in a divorce.

The alternate payee (or nonparticipant), and the participant, who is the worker, may be counting on the early retirement subsidies. However, many nonparticipants mistakenly believe they have a right to the enhanced benefits even if the participant stays on the job. The worker who stays on the job can walk away when he or she retires at a normal age (usually 65) while the spouse who took reduced benefits early struggles with a much smaller share of the pie. Some actuaries warn that the alternate payee should not retire before the participant “for fear of losing a larger share of the ultimate pension” – the one that lasts a lifetime.

Some plans permit payments to the alternate payee on or after the participant’s earliest possible retirement, even when the participant has not retired, but the alternate payee runs a risk if he or she retires before the participant. The alternate payee’s retirement before the participant “can sometimes lead to the ultimate loss of all early retirement benefit.”