Preparing for Retirement During a Divorce
When most people tie the knot, they expect their marriage to last forever. But over time, things — and people — change. If you find yourself facing a divorce as you’re approaching retirement, it can be overwhelming to think about facing two major changes at the same time.
But there are steps you can take to make the process smoother and less stressful. In this article, we’ll take a closer look at the financial implications of divorce on retirement planning, as well as what you can do to prepare for both.
Division of Assets and Retirement Savings
Even in an amicable divorce, navigating the division of assets can be complex and tedious. In many cases, the assets and retirement savings involved are too significant for a couple to simply divide amongst themselves. A skilled financial professional can work closely with you to help set expectations, identify areas of flexibility, and communicate with the important parties involved. Working with a professional will make it easier to identify and value marital assets such as retirement accounts, pensions, and investments.
Dividing retirement savings
Are you aware of all of the funds you have saved for retirement over the years? Most people have a general idea of what they have saved, but often need to seek guidance to understand what has been accumulated in accounts like their 401(k)s, IRAs, pensions, or annuities. This kind of insight can help you understand the current value of your accounts and provide insights into their tax implications.
Changes to your taxes
Along with your retirement accounts, your taxes can also become convoluted when dividing retirement savings. There are a lot of financial considerations to juggle, like determining which accounts are taxable and nontaxable, the unique implications of dividing a Roth IRA, and whether or not to file a Qualified Domestic Relations Order (QDRO), which allows for the division of certain retirement accounts without incurring immediate taxes or penalties.
Consulting with a professional can help you better understand the tax implications associated with nuanced retirement savings vehicles and give you the confidence of knowing you’re making informed decisions for your financial future.
Understanding Alimony and Spousal Support on Retirement Plans
There are safeguards in place during divorce to help ensure that neither spouse suffers financially. Alimony, for instance, redistributes a portion of the primary household earner’s income to the other spouse, so that both parties can land on their feet after the divorce is finalized.
Despite the benefits of a safety net like alimony, there are also notable implications on your retirement accounts that you should understand. The primary earner may need to allocate a portion of their income towards the support payments, which could impact their ability to contribute to retirement plans. The amount available for retirement savings may decrease due to the obligation to pay alimony.
Additionally, if the primary earner has a pension plan, the recipient spouse may be entitled to a portion of the pension benefits. This can be accomplished through a QDRO, which in this case, would assign a portion of the pension payments to the recipient spouse. The assigned portion would then be taxable as ordinary income to the recipient spouse when they receive the pension benefits.
One more factor to note when fulfilling spousal support is the penalty of dipping into your retirement account early. If you have to tap into your retirement funds to help make alimony payments, you will likely face early withdrawal penalties if you are under the age of 59 ½. A financial professional can help you find workarounds, like establishing a Qualified Domestic Relations Order (QDRO), which transfers the funds directly from one spouse’s retirement account to the other.
Maximizing Social Security Benefits
While divorce can complicate social security benefit allocations, there are still strategic moves you can make to maximize how much you and your ex-spouse receive. In addition to understanding social security laws, approaching your benefits with a strategic mentality can help you save more for retirement.
Know your eligibility — and how divorce affects it. To be eligible for social security benefits based on an ex-spouse's work record, the marriage must have lasted for at least ten years. Additionally, in order to claim benefits based on an ex-spouse's record, the individual must be at least 62 years old and currently unmarried.
Minimize taxes on your benefits. Depending on your overall income, a portion of your social security benefits may be subject to federal income tax. To minimize the tax impact, consider managing your other sources of income.
Consider creating timing strategies for claiming benefits. The age at which social security benefits are claimed can significantly impact the monthly benefit amount. Claiming benefits before reaching full retirement age will result in a reduction, while delaying benefits beyond that age can lead to increased monthly payments. It’s a balancing act, and one that requires careful consideration when deciding the optimal time to claim benefits.
Re-evaluating Retirement Goals and Timeframes
In addition to re-evaluating your social security strategy, your retirement goals and timelines warrant a review as well. Divorce can influence your retirement strategy, and it provides an opportunity to reset and look at your goals from a different perspective. A few considerations to get you started:
Asset division can affect retirement savings targets.
The division of assets, including retirement accounts, can affect the overall financial picture and the ability to meet retirement savings goals. From causing a reduction in retirement savings to creating changes in income and cash flow through investments, the more time and attention you put into your asset division effort, the better.
Your risk tolerance and investment strategies may change.
Changing circumstances put you in the position to adjust your risk strategy and invest with either more or less risk. It’s always a good idea to revisit your risk tolerance periodically and adjust it based on your more current goals.
There may be changes to health insurance and long-term care post-divorce.
If you were covered under your ex-spouse's employer-sponsored health insurance plan, you will generally lose that coverage after divorce. If you are 65 years or older, you are likely eligible for Medicare. In either case, it's important to enroll during your Initial Enrollment Period to avoid penalties. There are also insurance and government assisted options (e.g., Medicaid) for those requiring long-term care needs
To Summarize …
A divorce can change your retirement plans and complicate your financial outlook temporarily, but it also presents you with the opportunity to step back and look at your financial landscape holistically. It’s always better to approach your retirement strategy proactively, so you can organize the years ahead and plan for what’s next in life. That’s why we’re here. At Dekker, we have the knowledge and real-life experience to help you navigate through any retirement questions you have during your divorce. Reach out to one of our financial professionals today.