During the property division negotiations in a divorce, one spouse may agree to share a portion of his or her 401K account with the other spouse. If the account owner simply withdraws the amount agreed upon and gives that to the other party, early withdrawal fees and income taxes could take a significant bite out of the amount remaining in the fund.
By using a qualified domestic relations order, a 401K account owner may avoid paying early withdrawal fees and income taxes on money that flows to the former spouse.
What the QDRO does
As explained by the U.S. Department of Labor, the power of the qualified domestic relations order comes due to its ability to name the spouse of the 401K account owner as an authorized payee on the account. This means that the spouse may directly receive money from the 401K, eliminating the need for the account owner to make any withdrawals at all.
The QDRO must be reviewed and approved by the plan administrator. The order must detail the amount of any and all distributions. This amount may be a set dollar value or a percent of the fund’s value. Payments may be made in a single lump sum or in multiple distributions made over the course of time.
Who pays taxes on QDRO distributions
According to the IRS, the person who receives money from a 401K assumes responsibility for the income taxes on that money. With the QDRO, the spouse of the plan owner receives money and therefore must pay the income taxes associated with the distribution.
