As divorce attorneys in Charleston, we help spouses divide their marital assets and debts such as their home, their bank accounts, their credit card debts, and 401(k)’s and IRAs. Pensions, either vested or unvested, are also marital assets that must be divided. Dividing a pension isn’t as straightforward as dividing a 401(k) or IRA for several reasons discussed below:
What is a Pension vs. a 401(k) or IRA?
A pension is a retirement account through your employer that gives you a fixed payout when you retire. For the most part, your payout depends on how long you’ve worked for your employer and your salary. When you retire, you can choose between a lump-sum payout or a monthly “annuity” payment. Unlike 401(k)s, you can’t take a pension with you when you leave your employment. In other words, you can’t transfer a traditional pension account to your new employer or into an IRA rollover when you leave one job for another. You may be entitled to a payout of the value of your pension at the time you leave your job such as when it is a cash-balance plan (which can be rolled into an IRA). However, your right to any payout depends on your employer’s vesting schedule.
When are Pensions Vested?
Your pension isn’t vested until you meet all of the requirements to begin receiving payments. There are basically two types of vesting:
Cliff Vesting – This typically means that if you quit in 5 years or less, you lose your benefits all your pension benefits but after 5 years, you get 100%.
Graded Vesting – You’re entitled to 20% of your benefit if you leave after 3 years. In each subsequent year, another 20% of your benefit vests until you reach 100% after 7 years. Typically, you don’t receive your benefits until you reach the age of retirement (usually 65). Some pension plans allow you to start collecting early retirement benefits as early as age 55, but the amount of your monthly payment may be less than if you had waited. Even if the pension is unvested, it is still marital property. There are essentially two ways of dividing this property: (1) future payments pursuant to a Qualified Domestic Relations Order (QDRO) or (2) payment by one spouse to the other for a share of the pension’s present value:
Future Payments – Qualified Domestic Relations Order
A qualified domestic relation order (QDRO) is a family court rode that specifies a spouse’s right to receive a designated percentage of the benefits payable to the other spouse under the retirement plan. A QDRO also allows the ex-spouse to withdraw their share and roll it into their own IRA to the extent withdrawals are permitted by the pension plan’s terms. As for the percentage a spouse should receive from the future payments, the court determines how much of the value was earned during the course of the marriage. For example, if your spouse had the pension for 3 years before you were married, and you were married for another 6 years, then only 1/3rd of the pension is a marital asset that must be divided in the divorce between the spouses.
Dividing the Present Value of the Pension
Another way to divide a pension is to calculate the pension’s present value so that one spouse can pay the other spouse their share of this value. Here are the basics of how the present value of a pension is calculated:
Step One – From the employer, you need to find out how much your annual pension benefit would be at the earliest age of retirement as of the date the parties filed for separation (which is the date the family court typically uses to value all marital assets and debts). For purposes of this example, let’s say that the annual payment would be $10,000.00.
Step Two – You calculate the present value of the annuity from Step One. To do so, you subtract the earliest age of retirement from your life expectancy as determined by South Carolina Statute 19-1-150. For purposes of this example, let’s assume that the earliest age of retirement is 50 years old, and the life expectancy is 70 years. That leaves a difference of 20 years (which is how long the person will receive payments under the plan). You must also apply a discount rate which is typically 4.5 to 6.5%. The discount rate refers to the interest rate used in discounted cash flow analysis to determine the present value of future cash flows. In this example, we will use a discount rate of 5%. Using a financial calculator, you would input $10,000 as the payment (PMT), the time frame of 20 years (N), and a discount rate of 5 (i). With this information, you can calculate that the present value (PV) is $124,622.10.
Step Three – Now that we have a present value of (PV), we must decide how much of that value was earned during the course of the marriage. Using the same example as above, if your spouse had the pension for 3 years before you were married, and you were married for another 6 years, then only 1/3rd of the pension, or $82,250.59 ($124,622.10 x .66) is a marital asset that must be divided in the divorce between the spouses.
Please note that the calculation above is an APPROXIMATE VALUE of the marital asset. In most cases, we recommend hiring a professional actuary to value the pension plan.